| 24 March 2010

The Charles Schwab Corporation (SCHW) has an albatross hanging around it's neck. The YieldPlus Fund cratered in 2008 after the fund lost 35%. Not a big deal for a leveraged ETF, but a problem for a fund that touted itself as "safe as a money market."

Since that time investor withdrew nearly all of its (once) $13.5 billion and have lined up to sue the company for retribution. We reported on a few of the early cases, but stopped after they started rolling in with regularity.

In an effort to stop the carnage, Schwab filed an argument in federal court in San Francisco to prevent the SEC from suing the firm. As reported by Bloomberg, Schwab is arguing over the use of the word "industry." While the original 1999 registration statement for the fund said they wouldn't concentrate in any particular industry, Schwab amended the prospectus in 2006 to say that it didn't consider mortgage-backed securities an "industry."

The SEC is arguing that shareholder approval was required because of the shift to invest a large concentration of assets in one particular "industry." Legal semantics, to be sure. The SEC had to find a specific problem it could bite off with the YieldPlus fund and it chose to focus on this non-approved concentration of assets. Schwab, in return, is rightly focusing its arguments on this specific point in an effort to prevent he SEC from continuing with the case.

Meanwhile, thousands of investors lost a lot of money while being told they were in a fund as safe as a money market.

Brokers will always be subject to mistakes, problems and lawsuits. The question is how the handle them. TD Ameritrade (AMTD) recently wrestled with its own debacle in the form of Auction Rate Securities and quietly settled the cases. Schwab, on the other hand, fought this one as well and it may yet resurface to trouble them in the press again.

While we don't see it happening, we think a mea culpa is in order, especially in this case because it's a Schwab product managed by Schwab alone. The company is in danger of alienating future investors by bringing more attention to the mistake in a long, drawn out, public suit.

This is also why we think Senator Dodd's financial regulation bill, approved by the Senate Monday, should have addressed the fiduciary responsibility of brokers.