Some banks have taken mutual fund disclosure to a new level by making the point in prospectuses that the funds they manage may invest in companies that borrow from the bank.

An investment made by a bank mutual fund in a company with which the bank has a lending relationship may be construed as a conflict of interest. Banks are trying protect themselves from the appearance of impropriety.

Such language, included in a recently revised prospectus of Signet Banking Corp.'s Virtus Funds, caught the eye of Lipper Analytical Services last spring for the first time.

Now Lipper is finding that other banks are putting the language into the prospectuses of their funds.

Institutions that have most recently added such language to their mutual fund prospectuses include Central Carolina Bank and Trust Co., Hibernia Corp., and SouthTrust Corp.

It's not illegal for a bank mutual fund to invest in a company the bank lends to. But a portfolio manager could violate securities law by choosing a stock based on inside information passed on by a loan officer.

A bank would also be violating securities laws if its mutual funds were investing in financially strapped commercial customers with the intention of helping them pay back loans.

Traditionally, banks have chosen not to make note of the potential problem. After all, this particular disclosure is not required by the Securities and Exchange Commission.

Furthermore, the SEC acknowledges it has never taken action on a bank mutual fund for violating the so-called Chinese wall between lending departments and brokerage units.

Some banks find the disclosure unnecessary.

For example, Pacific Horizons, the family of portfolios that BankAmerica Corp. manages, makes no reference to the bank's lending relationships in its sales materials. That's because the bank's investment adviser unit "uses publicly available information upon which to make its investment decisions," said a spokesman. "To do otherwise would be a violation of securities regulations."

Still, more than one-third of banks that manage their own mutual funds include such language in their prospectuses, according to Lipper.

And the fact that new banks are adding it means "this disclosure is becoming more important to banks than before," said A. Michael Lipper, president of the firm.

Banking concerns about possible conflicts of interest stem from increasing disclosure requirements on mutual funds, said Anthony Psilos, president of Hibernia Investment Services.

For instance, in February 1994, the Office of the Comptroller of the Currency made it clear in a set of guidelines that it wanted banks to disclose that mutual funds are not insured by the Federal Deposit Insurance Corp.

Many bank prospectuses are written by the legal departments of organizations like Federated Investors, a Pittsburgh-based company that provides advice and support services to bank mutual funds.

Peter Germain, Federated's senior corporate counsel, said the language is standard in the prospectuses of his company's 20 banking clients. "When it comes to issues like disclosure, we tend to appropriately err on the side of caution," he said.

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