Evergreen Investment Management to Fund Shareholders: Drop Dead

It's only June, but we have a very strong leader in the clubhouse for the smarmiest mutual fund manager of the year. Take a bow Evergreen Investment Management. There's really only one word that can be used to describe people who engaged in the sorts of activities Evergreen is accused of: crooks.

Last week the Securities and Exchange Commission (SEC) announced that Evergreen agreed to pay $40 million to settle charges that they overvalued mortgage-backed securities held by the Evergreen Ultra Short Opportunities Fund. The SEC's Evergreen investigation -- which is really worth reading -- found that from early 2007 through mid-June 2008 Evergreen's overvaluation of these securities overstated the value of the Fund's share price by as much as 17 percent.

And we're not talking about rounding the price of these securities up a few pennies. The SEC reported that in May 2008 another Evergreen fund purchased a collateralized debt obligation for $9.50. At the same time, the Ultra Short Opportunities Fund held this same security, valuing it at $98.93.

As a result of this overvaluation, the Fund's performance was in its category's top decile. If the Fund's holdings were accurately valued, according to the SEC, "its performance would have ranked at or near the bottom of its fund category."

But it gets worse. Toward the end of the period, Evergreen apparently realized that the jig was up, and they slowly started to re-price the Fund's holdings. The SEC says that two "substantial" re-pricings happened on June 10 and 11, 2008. At that point, according again to the SEC, Evergreen alerted certain Fund shareholders (or their brokers) that "the decreased NAV was the result of the re-pricings and that the re-pricings may continue."

Again, this information wasn't shared with all of the Fund's investors, but only with a select group of shareholders, including those who were clients of Evergreen-affiliate Wachovia Securities (a very nice touch, no?). Investors who received this information were thus able to sell their shares at an artificially inflated price, which diluted, dollar for dollar, the assets of those shareholders who weren't privy to this inside information.

A nice little cherry on top of this scandal is that the SEC also found that other Evergreen funds were guilty of inaccurately valuing their holdings. In a Wall Street Journal article from Friday, the SEC's David Bergers said that "the investigation related to this matter is ongoing."
What's staggering is just how many executives at Evergreen were in on this particular scheme. The list includes:

• The Fund's managers. It started here, as the managers provided inaccurate security prices to the Fund's Valuation Committee, which was responsible for making sure that the Fund's holdings were accurately valued.
• Evergreen's Valuation Committee. According to the SEC, membership on this committee, which reported to the Fund's Board of Directors, included Evergreen's "chief investment officers for fixed income, equity, high yield, and international products, as well as representatives from [Evergreen's] legal, risk management, and fund administration departments." The Valuation Committee both blindly accepted the portfolio manager's pricing of these securities, and, for nearly a year, valued some of the Fund's securities based on prices they obtained from a broker in Florida, "whose method for determining prices [the Committee] had not reviewed or approved."
• Evergreen Distributor. In June 2008 -- just after the first wave of re-pricings occurred -- senior officers of this arm of Evergreen, which is responsible for selling the firm's funds to the public, mailed "talking points" to Evergreen representatives, which were to be used to alert the select group of the Fund's shareholders that re-pricings may continue in the future (i.e. the share price is going to continue to decline, so get your money out!).
• Evergreen Advisor. A senior officer of this arm, which is responsible for managing the Evergreen funds, was both alerted to the illegal communications that his counterparts in Evergreen Distributor were making, and helped alert a client to what was going on. The client, no dummy, "promptly sold its position," according to the SEC.

"We are committed to acting in the best interest of shareholders, and continue to move forward with our primary goal of safeguarding your investments and providing the high quality investment advice you expect and deserve."

Sorry, Mr. Munn, but actions speak much louder than words. And in this case the evidence clearly demonstrates that Evergreen executives from across the organization all failed, time and time again for nearly a year-and-a-half, to act in the best interest of shareholders. Instead, they undertook to deceive and defraud their shareholders for their own and their firm's benefit.

If there were any justice, two things would happen next. First, criminal charges would be filed against, at a minimum, the Ultra Fund's portfolio managers, who initiated this scandal, and the Evergreen executives who made the decision to selectively alert certain Fund shareholders about it.

Second, the Board of Directors responsible for oversight of the Evergreen Funds would fire Evergreen. The Board's sole responsibility is to act in the interests of the Evergreen Funds' shareholders. It's impossible to imagine that -- in light of the deception that has gone on here and the number of Evergreen executives that were involved -- these directors can seriously argue that Evergreen Investment Management remains the best choice to manage the remaining funds.

If that is their conclusion (and, really, it's hard to imagine an honest appraisal determining otherwise), they would have no choice but to hire a different investment firm to manage these funds.

But this is the mutual fund industry we're talking about. Prosecutions are rare, and mutual fund directors are notoriously spineless, so I'm not hanging by my thumbs waiting for either of these things to happen. Instead, this episode will likely become yet another footnote in history. Evergreen will pay their fines, wear a hairshirt for a while, and then continue on their merry way, "providing the high quality investment advice [their clients] expect and deserve." What an industry!