SEC Brings First Enforcement Action Against Insurance Companies for Permitting Market Timing of Mutual Funds Through Variable Annuities - Insurance Companies to Pay $20 Million in Settlement


Washington, D.C., Aug. 9, 2004 - The Securities and Exchange Commission today brought the first enforcement action charging insurance companies with securities fraud for facilitating market timing of mutual funds through the sale of variable annuities. The insurance companies are subsidiaries of Conseco, Inc. (CIHC, Inc., Conseco Services, LLC, and Conseco Equity Sales, Inc.), and the company to which Conseco sold its variable annuity business in 2002, Inviva, Inc., and its subsidiary Jefferson National Life Insurance Company.

The insurance companies have agreed to settlements that include a total payment of $20 million in disgorgement and penalties as well as undertakings of compliance reforms. The Commission's Orders find that the prospectuses through which the insurance companies sold the variable annuities misleadingly represented, among other things, that the annuities were "not designed for professional market timing organizations." In fact, the insurance companies affirmatively marketed and sold the annuities to professional market timers. Eventually, market timing assets constituted the majority of assets invested in the variable annuity products. The insurance companies profited by the fees earned from the sales of the annuities to the market timers.

Mark K. Schonfeld, Director of the Commission's Northeast Regional Office, said, "It is particularly troubling when variable annuities, which are designed for and sold to retail investors to save for retirement and purchase life insurance, are affirmatively marketed to professional market timers. This settlement achieves our primary missions of stopping the misconduct and compensating investors."

Stephen M. Cutler, Director of the Commission's Division of Enforcement, added: "The variable annuity products at issue here became vehicles for market timing in mutual funds. The insurance company sponsors were well aware of this - indeed, they encouraged it, but left their retail investors and the mutual funds themselves in the dark."

The Commission's Orders find:

  • Variable annuities are combined securities and insurance products designed primarily for individual retirement and tax purposes. Nevertheless, from late 1999 through October 2002, Conseco Variable Insurance Company (CVIC) (CIHC was the corporate parent of CVIC), Conseco Services, and Conseco Equity Sales, Inc. (CES), sold the Monument and Advantage Plus variable annuity products to hedge funds and other individuals and entities to market time the mutual fund portfolios offered through the variable annuities. Conseco Services employees were aware that these market timers, in contrast to the typical variable annuity customer, had no interest in the tax deferral or retirement features of variable annuities.
  • The Monument and Advantage Plus prospectuses stated that these products were "not designed for professional market timing organizations" and indicated that CVIC in its "sole discretion" could restrict exchanges "that we consider disadvantageous" to other annuity contract holders. The prospectuses failed to disclose that CVIC was marketing and selling the products to market timers. In addition, the prospectuses failed to disclose the risk that market timing might have a negative impact on other variable annuity purchasers' investment returns.
  • In October 2002, Inviva purchased CVIC and later renamed it Jefferson National. Inviva and Jefferson National continued to allow a group of hedge funds and other select customers to engage in market timing through the Monument and Advantage Plus variable annuity products.
  • The Jefferson National prospectuses repeated the above language from the CVIC prospectuses. Further, the Jefferson National prospectus reserved the right to limit any "substantive" transfers that it determined "in its sole discretion, could adversely affect the management of the investment portfolio." However, as at CVIC, Inviva and Jefferson National failed to disclose that Jefferson National was selling the products to market timing customers, and was facilitating the market timers in carrying out a market timing strategy.
  • In some cases, mutual fund advisers were aware of and permitted the market timing of the mutual funds. In other cases, Respondents did not inform the underlying fund complexes that Conseco Services and Inviva employees tolerated and actively solicited market timers. Many of these complexes prohibited market timing or did not tolerate timers.
  • Ultimately, hedge funds and other market timers invested approximately $120 million in Monument and Advantage Plus variable annuities. In the Monument product, the market timing assets dwarfed the assets of other variable annuity purchasers. Through their frequent trading, the market timers diluted the value of the underlying mutual funds that were timed, and caused the funds to incur additional costs.

The Commission's Orders find that CIHC, Conseco Services, CES, Inviva, and Jefferson National violated Section 17(a) of the Securities Act of 1933, Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder, and Section 34(b) of the Investment Company Act of 1940. The Orders require Conseco Services, CES, Inviva, and Jefferson National to cease and desist from violating these provisions. CIHC, Conseco Services, CES, Inviva, and Jefferson National consented to entry of the respective Orders without admitting or denying the findings.

Under the settlements, CIHC, Conseco Services, and CES have agreed to pay $15 million, including disgorgement of $7.5 million and civil penalties of $7.5 million. Inviva and Jefferson National will pay $5 million, including disgorgement of $3.5 million and a civil penalty of $1.5 million. These amounts will be distributed to shareholders of mutual funds affected by the market timing.

Inviva and Jefferson National will also undertake compliance measures to protect against future violations. These measures include retaining an independent consultant to review compliance procedures designed to prevent and detect market timing.

The Commission acknowledges the assistance of the New York Attorney General in connection with this matter.

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For more information, contact:

Mark K. Schonfeld
Regional Director
(646) 428-1650

Kay L. Lackey
Assistant Regional Director
(646) 428-1790

United States Securities and Exchange Commission
Northeast Regional Office

See Also:  See Administrative Proceeding (CIHC, Inc., Conseco Services, LLC, and Conseco Equity Sales, Inc.); See Administrative Proceeding (Inviva, Inc. and Jefferson National Life Insurance Company)
Last modified: 8/11/2004