Initial Decision of an SEC Administrative Law Judge

In the Matter of
Piper Capital Management, Inc., et al.

INITIAL DECISION RELEASE NO. 175
ADMINISTRATIVE PROCEEDING
FILE NO. 3-9657

UNITED STATES OF AMERICA
Before the
SECURITIES AND EXCHANGE COMMISSION
Washington, DC

In the Matter of PIPER CAPITAL MANAGEMENT, INC. WORTH V. BRUNTJEN MARIJO A. GOLDSTEIN ROBERT H. NELSON AMY K. JOHNSON MOLLY DESTRO and EDWARD J. KOHLER

: : : : : : : : :

INITIAL DECISION November 30, 2000

APPEARANCES:

Gregory P. von Schaumburg, Michael J. Diver, Randall J. Fons and Thomas W. Szromba for the Division of Enforcement, Securities and Exchange Commission

George F. McGunnigle, Lawrence J. Field, Todd A. Noteboom and Barbara P. Berens for Respondent Piper Capital Management, Inc.

Phillip M. Goldberg and Todd A. Strother for Respondent Marijo A. Goldstein

Robert J. Hennessey for Respondent Robert H. Nelson

Stephen P. Bedell and Michael T. Foley for Respondent Amy K. Johnson

Jodeen A. Kozlak for Respondent Molly Destro

David P. Pearson and Laura A. Pfeiffer for Respondent Edward J. Kohler

Carmine D. Boccuzzi for the Witness David J. Barrett

Howard J. Stein for the Witness Worth Bruntjen

Guy Petrillo for the Witness M. Kathleen Wood

Beth E. Carlson for the Witness Beverly Zimmer

Thomas B. Hatch for the Witness Kevin L. Smith

BEFORE:

H. Peter Young, Administrative Law Judge

TABLE OF CONTENTS

1. INTRODUCTION

   1. BACKGROUND

   2. RESPONDENTS

   3. ALLEGATIONS (IN SUMMARY)

   4. PROCEDURAL HISTORY

2. ISSUE ANALYSES

   1. Possible Violations of Section 17(a) of the Securities Act Based on Inadequate Risk Disclosure

      1. Party Positions
         
      2. Findings of Fact/Conclusions of Law

   2. Possible Violations of Section 10(b) of the Exchange Act and Rule 10b-5 Thereunder Based on Inadequate Risk Disclosure

   3. Possible Violations of Section 13(a)(3) of the Investment Company Act Based on Inadequate Risk Disclosure

      1. Party Positions
         
      2. Findings of Fact/Conclusions of Law

   4. Possible Violations of Section 17(a) of the Securities Act Based on Weekly Pricing in Calculating the Fund's NAV

      1. Party Positions
         
      2. Findings of Fact/Conclusions of Law

   5. Possible Violations of Section 10(b) of the Exchange Act and Rule 10b-5 Thereunder Based on Weekly Pricing in Calculating the Fund's NAV

   6. Possible Violations of Section 17(a) of the Securities Act Based on Manipulation of the Fund's NAV

      1. Party Positions
         
      2. Findings of Fact/Conclusions of Law

   7. Possible Violations of Section 10(b) of the Exchange Act and Rule 10b-5 Thereunder Based on Manipulation of the Fund's NAV

   8. Possible Violation of Rule 22c-1, Promulgated Pursuant to Section 22(c) of the Investment Company Act, Based on Manipulation of the Fund's NAV

   9. Possible Violation of Section 31(a) of the Investment Company Act and Rule 31a-1 Thereunder Based on Improper Books and Records

   10. Possible Violation of Section 34(b) of the Investment Company Act Based on False Statements Concerning Risks of Fund and Calculation of Net Asset Value Contained in Registration Statements, Applications and Other Required Records

   11. Possible Violation of Section 34(b) of the Investment Company Act Based on False Statements Concerning Source of Prices Used in Calculation of Net Asset Value Contained in Registration Statements, Applications and Other Required Records

   12. Possible Violation of Section 207 [of the Investment Advisers Act] Based on False Statements Concerning Education Background of Respondent Bruntjen

   13. Possible Failure Reasonably to Supervise

       1. Party Positions
          
       2. Findings of Fact/Conclusions of Law

3. SANCTIONS

4. MATTERS NOT DISCUSSED

5. RECORD CERTIFICATION

6. ORDER

I. INTRODUCTION

Securities and Exchange Commission, Division of Enforcement ("Division") has characterized this proceeding as one of the largest and most complex it has ever conducted. It involves numerous Respondents, each of which is charged with multiple securities laws violations. It subsumes myriad factual issues, many of which are esoteric- even within the securities industry. The complexity- hence, the difficulty- of the issues presented is compounded by an unprecedented confluence of events which, in itself, had a significant adverse impact on an entire segment of the industry.

A. BACKGROUND:

1. The Fund

Piper Jaffray Institutional Government Income Portfolio ("PJIGX" or the "Fund") was a diversified mutual fund first offered to investors in 1988. Exh. PCM-12 at p. PCM-00118. The Fund was registered as an open-end management investment company which sold and redeemed shares directly to and from investors.¹

From inception, the Fund portfolio was comprised principally of mortgage-backed securities. These securities initially were relatively simple instruments, representing undivided pass-through interests in mortgage "pools" assembled by agencies such as the Federal National Mortgage Association (Fannie Mae) and the Government National Mortgage Association (Ginnie Mae). Most such securities guarantee returns of principal and interest to investors, rendering them comparatively safe investments.

Over time, a market for new types of mortgage-backed securities emerged and developed.

One category of new security which developed was the collateralized mortgage obligation ("CMO"). CMOs are financial instruments collateralized by income streams anticipated from payments to underlying pass-through securities or mortgage loan pools. CMOs assign and distribute payments from the underlying obligations among different classes or "tranches" of bonds with various maturities and expected cash flow characteristics. Relatively complex financial products may be-- and soon were- derived from the basic CMO paradigm. Such "derivative" securities more precisely defined and allocated various risks associated with underlying mortgage collateral.² For example, interest only ("IO") derivative securities created a right to receive only the interest component of a mortgage pool income stream, while principal only ("PO") derivative securities created a similar right to receive only the principal component. More exotic CMO derivative securities established rights to receive revenues which: (1) varied inversely to a specific interest rate index ("Inverse Floater"); (2) varied inversely to a specific interest rate index, but paid only an interest component ("Inverse IO"); or (3) accrued to the security balance until some future event triggered amortized payments ("Z-Bond"). Because these derivative structures in themselves did not eliminate prepayment risk, however, they were further segregated into planned amortization class ("PAC") bonds and support bonds, the former of which achieved relative prepayment stability by allocating disproportionate prepayment uncertainty to the latter.

PJIGX began to shift its portfolio composition from simple pass-through securities to CMO derivative securities late in 1991. By March 1993, an overwhelming proportion of the Fund's net assets was invested in CMO derivative securities. PJIGX leveraged these investments, enabling it to make significant additional CMO derivative investments. The Fund's investment strategy produced superior returns from late 1991 through early 1994.

2. Fund Valuation/Share Pricing

Securities like common stocks and bonds are traded on public exchanges. Potential buyers and sellers are able to determine reasonable values for these securities with relative ease because prices are fixed by actual market transactions. A publicly-traded security's reasonable value may be determined at any point in time by reference to its most recent market price. For example, the reasonable value of a publicly-traded security at the end of any trading day would be the security's closing price on that day.

In contrast, CMOs are traded only in broker-dealer markets. These markets rely on trader estimates of security prices to value the securities. To a significant degree, CMO valuation and pricing rely on trader expertise and familiarity with market information, conditions and developments. It follows that the reasonable value of a CMO- while determined in accordance with objective information and criteria-- cannot be fixed as precisely as the reasonable value of a publicly-traded security.

The total net value of a mutual fund comprised of CMO securities is the composite estimated value of all CMOs held by the fund. Dividing this composite estimated value by the total number of outstanding shares yields the fund's individual share price, or net asset value ("NAV"). A fund's published NAV is the valuation information on which potential buyers and sellers must rely.³

PJIGX calculated its NAV on a daily basis. The process involved obtaining individual security prices from various sources, including a professional pricing service, individual bond traders, and "fair valuation"-- a documented pricing procedure of last resort which relies on alternate price quotations/sophisticated financial analytic software⁴ to extrapolate security values from values assigned to comparable securities. PJIGX frequently cross-checked these sources to ensure accuracy.

Each business day, PJIGX's security pricing service, Kenny S&P Evaluation Service (and its affiliate, EJV Partners) (collectively, "Kenny"), compiled and transmitted pricing information to the Fund's accounting agent, Investors Fiduciary Trust Fund ("IFTC").⁵ IFTC processed the information, then transmitted initial pricing reports to PJIGX. These reports reflected prices for each of the Fund's individual securities, as well as an interim NAV calculation based on those prices. IFTC also transmitted a daily "stratification report" highlighting securities with significant price changes or missing prices. PJIGX worked directly with Kenny to correct suspected pricing errors and to obtain missing security prices. IFTC finalized its initial daily reports only after PJIGX approved an NAV based on its review and confirmation of all Fund security prices. The Fund-approved NAV was then reported to NASDAQ for publication.

3. Financial Market Climate and Circumstances

Interest rates affecting the CMO market declined from late 1991 through early 1994. Although this decline was steady throughout the period, it produced little volatility in the market. And since most CMO values vary inversely to underlying interest rates, CMO security values generally increased during the period. Early in 1994, however, the Federal Reserve Board initiated a series of interest rate increases. These increases had a negative impact on CMO values. CMO securities, and the funds holding them, suffered significant losses. The losses caused concomitant sell-offs, depressing values even further as CMO securities flooded the market. The situation turned critical when Askin Capital Management, Inc. ("Askin"), a large hedge fund manager, was unable to satisfy broker-dealer margin calls beginning on March 30, 1994. As a consequence, broker-dealers liquidated several hundred million dollars in CMOs from Askin's funds, precipitating extreme price volatility and what generally is regarded as a "crash" in the CMO securities market.

PJIGX lost approximately $300 million in the crash.

4. Impact on Fund Valuation/Share Pricing

The previously described CMO market saturation and volatility complicated PJIGX's valuation process. Lack of liquidity combined with interest rate-driven reductions in value to depress dealer estimates of CMO market prices. In addition, dealer attention to rapidly changing market circumstances occupied time which otherwise could have been dedicated to security pricing for entities like Kenney and PJIGX. The material result was a tenfold increase in the number of securities appearing on IFTC's daily stratification reports to PJIGX,⁶ all of which had to be cross-checked by the Fund before its daily NAV could be approved for publication. This increase severely challenged PJIGX's ability to establish an accurate daily NAV for the Fund from March 31, 1994 to April 8, 1994. Throughout that period, what customarily had been a routine half-hour procedure turned hectic, consuming most of each business day. Dealer marks were difficult to secure, and varied widely from dealer to dealer/day to day. As a consequence, PJIGX was compelled to select among significantly different marks for the same securities or to assign security prices based on internal efforts at fair valuation. The Fund's valuation difficulties were compounded by PJIGX's March 31, 1994 discovery that numerous individual security prices being provided by Kenney on a daily basis had not been adjusted for an indeterminate period of time, rendering them "stale" and inaccurate.

B. RESPONDENTS:

1. Piper Capital Management Incorporated ("PCM" or the "Company")

PCM is a wholly-owned subsidiary of Piper Jaffray Companies, Inc., and is located in Minneapolis, Minnesota. PCM has been registered as an investment adviser with the Commission since 1983. PCM acted as the Fund's investment adviser and managed the Fund's daily operations.⁷ PCM also acted as investment adviser to ten other funds associated with Piper Funds, Inc. At its peak, PCM managed assets totaling more than $13 billion.

2. Worth V. Bruntjen ("Bruntjen")

Bruntjen was a Senior Vice-President at PCM from January 1988 until he resigned on January 1, 1998. He was the Fund portfolio manager from its inception in 1988 until his resignation. Bruntjen had primary responsibility for the day-to-day management of the Fund portfolio. He also had primary responsibility for the day-to-day management of four other funds for Piper Funds, Inc.⁸

3. Marijo A. Goldstein ("Goldstein")

Goldstein was a Vice-President at PCM from November 1991 to November 1993, and a Senior Vice-President from November 1993 to 1995. She was the Fund portfolio "co-manager" from January 1990 through June 1994. Goldstein worked under Bruntjen's direct supervision in her capacity as Fund portfolio co-manager. Goldstein currently is Director of Fixed Income Research at First American Asset Management.

4. Robert H. Nelson ("Nelson")

Nelson was a Vice-President at PCM from 1991 to November 1993, and a Senior Vice President from November 1993 until U.S. Bancorp, Inc. acquired PCM's parent company. Nelson managed PCM's Mutual Fund Accounting Department from November 1993 through December 1997. As Manager of the PCM Mutual Fund Accounting Department, Nelson exercised direct authority and supervision over Respondents Amy K. Johnson and Molly Destro. Nelson currently is Manager of Investment Client Services at First American Asset Management.

5. Amy K. Johnson ("Johnson")

Johnson is a certified public accountant. She joined PCM as Operations Coordinator in November 1992. PCM promoted her to Accounting Administrator in April 1993, and to Accounting Manager a few months later. Johnson had primary accounting responsibility for PJIGX, as well as for nineteen other PCM funds. PCM promoted her to Vice-President in November 1994. At the time of hearing, Johnson was on family leave from her current position at First American Asset Management.

6. Molly Destro ("Destro")

Destro joined PCM as a mutual fund accountant in May 1991. PCM promoted her to Accounting Manager in late 1992 or early 1993, and to Vice-President in November 1994. Destro had accounting and securities pricing responsibilities for various PCM mutual funds, including PJIGX. At the time of hearing, Destro was not employed in the securities industry.

7. Edward J. Kohler ("Kohler")

Kohler was President and Chief Executive Officer ("CEO") of PCM from August 1985 until PCM terminated his employment in November 1994. He was Bruntjen's direct supervisor. As PCM President and CEO, he also had supervisory authority over PCM, the Fund and each of the other individual Respondents. Kohler has been unemployed since the spring of 1998.

C. ALLEGATIONS (IN SUMMARY):

1. Against PCM

PCM, through Bruntjen and Goldstein, failed to state/misstated material facts to investors from January 1991 through April 1994. PCM misrepresented the risks associated with investment in the Fund through inaccurate or misleading filings, prospectuses, marketing materials and other communications. PCM marketed the Fund as a conservative investment when, in fact, the Fund exposed investors to significant risks by disproportionately investing in interest rate-sensitive CMO derivative securities. PCM changed the Fund's stated investment objective without proper authority.

PCM, through Bruntjen, Goldstein, Nelson, Johnson and Destro: (1) misrepresented the Fund's NAV to shareholders and to the public; (2) improperly calculated the Fund's NAV on a weekly basis from October 1993 to March 31, 1994; (3) purposefully manipulated the Fund's NAV from March 31, 1994 through April 8, 1994.

2. Against Bruntjen

Moot, except as indicated in Sections (I) (C) (1), supra, and (I) (C) (3), infra.

3. Against Goldstein

Goldstein, as Fund portfolio co-manager with Bruntjen, bears equal responsibility to Bruntjen. She failed to state/misstated material facts to investors from January 1991 through April 1994. She misrepresented risks associated with investment in the Fund through inaccurate or misleading filings, prospectuses, marketing materials and other communications. She marketed the Fund as a conservative investment when, in fact, the Fund exposed investors to significant risks by disproportionately investing in interest rate-sensitive CMO derivative securities. She changed the Fund's stated investment objective without proper authority. She misrepresented the Fund's NAV to shareholders and to the public. She purposefully manipulated the Fund's NAV from March 31, 1994 through April 8, 1994.

4. Against Nelson

Nelson, as Manager of the PCM Mutual Fund Accounting Department, purposefully conspired to misrepresent the Fund's NAV to shareholders and to the public. He purposefully conspired to manipulate the Fund's NAV from March 31, 1994 through April 8, 1994.

5. Against Johnson

Johnson, as Accounting Manager for the Fund, purposefully conspired to misrepresent the Fund's NAV to shareholders and to the public. She purposefully conspired to manipulate the Fund's NAV from March 31, 1994 through April 8, 1994.

6. Against Destro

Destro, as Accounting Manager for the Fund, purposefully conspired to misrepresent the Fund's NAV to shareholders and to the public. She purposefully conspired to manipulate the Fund's NAV from March 31, 1994 through April 8, 1994.

7. Against Kohler

Kohler, as PCM President and CEO, failed to ensure that PCM had established reasonable supervisory systems to prevent securities laws violations. Kohler, as Bruntjen's direct supervisor, failed to supervise Fund portfolio co-managers Bruntjen and Goldstein in a reasonable manner.

D. PROCEDURAL HISTORY:

1. Prior Related Proceedings

A civil class action lawsuit was instituted against PCM by Fund shareholders on May 9, 1994.⁹ Exh. PCM-398. PCM agreed to settle the class action by paying participating shareholders¹⁰ a total of up to $70 million. Exh. PCM-426 at pp. PCM-06181-82. The court approved the settlement-- which recouped less than fifty cents on the dollar¹¹ for most Fund investors-- as "fair, reasonable, adequate and in the best interests of the Settlement Class." Exh. PCM-440 at p. PCM-06461.

National Association of Securities Dealers, Inc. ("NASD") and various state regulators initiated investigations concerning PCM and the Fund in 1995 and 1996. These investigations were resolved through consent agreements with NASD (2/96), the State of Minnesota (2/96), the State of South Dakota (7/96), the State of Montana (10/96), the State of North Dakota (2/97) and the State of Maryland (date not specified), which imposed fines, penalties and other non-monetary sanctions.

Exh. PCM-63 at p. PCM-01224.1; Exh. PCM-441; Exh. PCM-442; Exh. PCM-443; Exh. PCM-448; Exh. PCM-450; Exh. PCM-980.

2. The Instant Action

This proceeding was initiated by a July 28, 1998 Order Instituting Public Administrative and Cease-and-Desist Proceedings Pursuant to Section 8A of the Securities Act of 1933, Section 21C of the Securities Exchange Act of 1934, Sections 9 (b) and 9 (f) of the Investment Company Act of 1940 and Sections 203 (e) and 203 (k) of the Investment Advisers Act of 1940 (the "OIP"). Exh. PCM-1. The OIP was preceded by more than four years of exhaustive Division investigation. In the course of that investigation, Division compiled more than one million pages of documentary evidence and conducted over thirty-seven days of on-record interviews. Division also conducted an indeterminate number of off-record interviews.

The hearing was conducted over an eight week period from February 16, 1999 through April 6, 1999 in Minneapolis, Minnesota. In addition to Respondents, more than forty expert and lay witnesses provided testimony. Over one thousand exhibits were received into evidence; approximately three hundred other exhibits were marked for identification, but not admitted into evidence. The hearing transcript ("Tr.") totals four thousand nine hundred sixty-nine pages.

Division concluded presentation of its case-in-chief against Respondents on March 24, 1999. Goldstein, Nelson, Johnson, Destro and Kohler made oral motions for summary disposition at that stage of the proceeding. In deference to the parties' unanimous preference not to adjourn the hearing to accommodate immediate briefing/disposition of the motions for summary disposition, the motions were held in abeyance pursuant to 17 C.F.R. § 201.205 (b) until the hearing was completed. Just prior to hearing completion, PCM indicated it intended to seek partial summary disposition of the case against the Company.

Respondents filed written motions for summary disposition and supporting memoranda on April 16, 1999. Division filed a comprehensive opposition/supporting memorandum to the motions on April 26, 1999. Respondents filed reply memoranda on April 29, 1999. By order issued May 21, 1999, the presiding judge determined, inter alia, that no Respondent had demonstrated it was entitled to summary disposition of any charge against it.

The record closed on May 18, 1999. In consideration of the magnitude and complexity of the issues involved in this proceeding, the parties were granted more briefing time than customarily would have been appropriate. Initial briefs ("IB") were filed on July 20, 1999. Reply briefs ("RB") were filed on September 20, 1999.

Robert R. Weinstine, Esq. subsequently submitted a two page letter dated September 11, 2000 to the presiding judge on behalf of Respondent Kohler. The presiding judge directed counsel of record for Respondent Kohler to ensure that the September 11, 2000 letter was filed with the Commission and served on all parties in accordance with the Commission's Rules of Practice by order dated September 13, 2000. Division submitted a Motion to Strike the September 11th Brief of Respondent Edward Kohler on September 19, 2000, alternately requesting leave to file a response. Division's request for leave to respond to the September 11, 2000 letter was granted by order dated September 21, 2000. Division filed its response to the September 11, 2000 letter on September 29, 2000.

II. ISSUE ANALYSES

A. Possible Violations of Section 17(a) of the Securities Act Based on Inadequate Risk Disclosure

OIP Paragraphs K through S allege that PCM, through Bruntjen and Goldstein, violated the antifraud provisions¹² of the federal securities laws by misstating/failing to state material facts concerning risks associated with investment in the Fund. One of these provisions is contained in Section 17(a) of the Securities Act of 1933, which makes it unlawful to employ any device, scheme, or artifice to defraud in the offer or sale of any securities. See 15 U.S.C. § 77q (a)(1).

1. Party Positions

(a) Division

Division maintains that PCM and Goldstein violated Section 17(a) by: (1) converting PJIGX from a conservative fixed-income investment to a highly-leveraged/significantly more interest rate-sensitive investment; (2) failing adequately to disclose the Fund's increased risk characteristics in Fund reports, summaries and prospectuses; and (3) continuing to market PJIGX as a conservative investment without materially amending its risk disclosures, marketing materials or sales presentations.

Division underscores the fact that the Fund's assets initially were invested almost exclusively in U.S. Treasury notes and ordinary government agency securities. Division also emphasizes that PJIGX's initial stated investment objective was "a high level of current income consistent with the preservation of capital," and that the Fund's stated investment objective never changed. Division juxtaposes PJIGX's static investment statement with the dynamic change in Fund portfolio composition over time. Division stresses that the Fund increasingly invested in interest rate-sensitive CMO derivative securities from late 1991 through early 1994, eventually constituting what Division characterizes as a "one way bet on interest rates."

Division asserts that PJIGX's returns and reputation skyrocketed in 1992 and 1993 due to the increasing proportions of CMO derivative securities it held. As a consequence, the Fund attracted millions of dollars in additional investments, breaking sales record after sales record in the process. The undisclosed downside to this success, Division claims, was a portfolio sensitivity to interest rates that was well beyond what Fund prospectuses and sales literature suggested, and far in excess of peer fund sensitivities. Division contends that by March 1993 PJIGX's aggressive CMO derivative investment strategy, coupled with its asset leveraging practices, had inflated overall Fund portfolio duration¹³ to more than three times the figure disclosed to investors. Division maintains that the Fund portfolio's extended duration was structured to benefit from stable or declining interest rates, but was susceptible to disproportionate losses if interest rates rose. This susceptibility allegedly was exacerbated by the undisclosed fact that the portfolio also exhibited extreme negative convexity.¹⁴ According to Division, the Fund's undisclosed duration, convexity and leverage would have produced massive losses as early as March 1993 if interest rates had risen at that time. Division therefore discounts any PCM/Goldstein focus on the extraordinary market events which occurred in early 1994.

Division contrasts the Fund's composition and investment strategy with its disclosure/ marketing materials and strategy. In addition to PCM's failure to revise the Fund's stated investment objective as its portfolio composition changed, Division emphasizes that PCM initially marketed PJIGX as a money market alternative with an AAAf Standard & Poor rating and a volatility comparable to the three year treasury market. Division also underscores the fact that the Fund expressly eschewed "options, futures or so called 'derivative instruments'" in its early shareholder reports and marketing materials. Division contends that PCM continued to market PJIGX as a low risk alternative to treasury securities despite a substantial portfolio shift to high risk CMO derivative securities. Moreover, Division maintains that PCM, Bruntjen and Goldstein consistently told investors and sales representatives that PJIGX's composite duration reflected minimal to moderate volatility when, in fact, Fund duration knowingly or recklessly had been based on an "indicated duration" calculus which substantially understated the portfolio's actual volatility.

(b) PCM

PCM interposes statute of limitations, good faith and industry standards as threshold affirmative defenses to any alleged violation of Section 17(a). The Company also emphasizes that Section 17(a) requires Division to prove: (1) a material omission/misrepresentation of fact; (2) made in connection with the offer or sale of a security; and (3) demonstrating intent to deceive or defraud. PCM stresses that neither reckless nor intentional misrepresentation is actionable under Section 17 (a) unless proven to be material to investors, arguing that materiality has not been proven. In addition, PCM maintains that Division has failed to prove the Company acted with the scienter required to establish a Section 17(a) violation.

PCM disputes Division's claim that PJIGX was converted to a materially riskier/more volatile investment vehicle through undisclosed changes in portfolio composition, duration, convexity and leverage. PCM emphasizes that PJIGX portfolio composition was disclosed through comprehensive listings of all securities held by the Fund. The Company also maintains that Fund duration disclosures were accurate, and this accuracy is confirmed by post hoc analyses of actual Fund NAV responses to interest rate changes. In addition, PCM asserts it was not required to disclose PJIGX portfolio convexity. PCM argues, moreover, that Division misconstrues disclosures relating to portfolio diversification and balance, and that the SEC reviewed and specifically approved PJIGX's portfolio diversification methodology in the context of a February 1994 examination. Finally, the Company points out that Fund sale when-issued/dollar roll program disclosures were at all times at least industry standard.

(c) Goldstein

Goldstein also interposes statute of limitations, industry standards and good faith as threshold affirmative defenses to any alleged violation of Section 17(a). In addition, she echoes PCM's positions concerning the adequacy of Fund composition, duration, convexity and leverage disclosures. Goldstein supplements these defenses with the argument that she cannot be held primarily liable for the disclosures at issue because she did not participate to any substantial degree in formulating or making them. Goldstein claims she was a Fund "co-manager" in title only, and Bruntjen alone formulated PJIGX's investment strategy, as well as any disclosures or other representations related to that strategy. Moreover, Goldstein claims Division has not established that she personally misrepresented the Fund in the context of broker or client sales presentations.

2. Findings of Fact/Conclusions of Law

(a) Findings of Fact

PJIGX was a diversified mutual fund first offered to investors in 1988. Exh. PCM-12 at p. PCM-00118. The Fund's initial stated investment objective was "a high level of current income consistent with preservation of capital." Id. at p. PCM-00122. The Fund's stated investment objective could not be changed without shareholder approval and, in fact, was not changed over the life of the Fund. Compare Exh. PCM-12 at p. PCM-00122 (June 20, 1988 Prospectus) with Exh. PCM-23 at p. PCM-00301 (February 1, 1994 Prospectus).

The PJIGX portfolio initially was comprised almost exclusively of ordinary mortgage-backed securities. Exh. PCM-40 at p. PCM-00658; Exh. PCM-41 at p. PCM-00673. These securities represented undivided pass-through interests in mortgage pools assembled and guaranteed as to payment of principal and interest by various federal agencies. Exh. PCM-12 at pp. PCM-00122-23. The guaranteeing agencies included the Federal National Mortgage Association, the Government National Mortgage Association and the Federal Home Loan Mortgage Corporation. Id. at p. PCM-00123. The relative safety of investments in these agencies' securities was reflected in the Fund's stated investment objective, as well as in its stated Investment Policies and Techniques. Exh. PCM-12 at p. PCM-00122.

PCM initially presented PJIGX as a money market alternative with volatility comparable to the three year treasury market, attributing the Fund's AAAf Standard & Poor rating to the "high quality" of its portfolio securities. Exh. PCM-40 at p. PCM-00649; Exh. PCM-41 at p. PCM-00667. PCM also expressly attributed PJIGX's Standard and Poor rating/performance to the fact that the Fund "will invest only in Government securities and will not commit funds to options, futures or so called 'derivative instruments'" in its initial shareholder reports and marketing materials. Exh. PCM-40 at p. PCM-00649. These materials attributed Fund yield in excess of comparably volatile money market securities to "active management of the portfolio within the context of [the Company's] interest rate outlook . . . ." Id.

PJIGX prospectuses systematically and uniformly emphasized the relatively conservative composition of the Fund portfolio. Exh. PCM-12 at p. PCM-00122 (6/88); Exh. PCM-14 at pp. PCM-00144-45 (1/90); Exh. PCM-16 at pp. PCM-00166-67 (1/91); Exh. PCM-17 at pp. PCM-00187-88 (9/91 supp.); Exh. PCM-18 at pp. PCM-00208-09 (1/92); Exh. PCM-20 at pp.PCM-00231-32 (5/92 supp.); Exh. PCM-21 at p. PCM-00253 (1/93); Exh. PCM-22 at p. PCM-00275 (3/93); Exh. PCM-23 at p. PCM-00301 (2/94); Exh. PCM-24 at p.PCM- 00325 (4/94 supp.); Exh. PCM-25 at p. PCM-00349 (5/94 supp.). PJIGX prospectuses systematically and uniformly emphasized a strategy of seeking high current income while preserving principal investment by maintaining a portfolio security average weighted life of approximately three to five years. Id. PJIGX semi-annual and annual reports to shareholders systematically and uniformly emphasized the same strategy, as well as both the quality of the Fund portfolio and its superior performance. Exh. PCM-40 at p. PCM-00649 (10/88); Exh. PCM-41 at p. PCM-00667 (3/89); Exh. PCM-42 at pp. PCM-00677, PCM-00679-80 (9/89); Exh. PCM-43 at pp. PCM-00689, PCM-00690 (3/90); Exh. PCM-44 at pp.PCM-00699-701 (9/90); Exh. PCM-45 at pp. PCM-00710-11 (3/91); Exh. PCM-46 at pp. PCM-00720-22 (1991); Exh. PCM-47 at pp. PCM-00731-34 (1992); Exh. PCM-48 at pp. PCM-007143-45 (1992); Exh. PCM-49 at pp. PCM-00755-57 (1993); Exh. PCM-50 at pp. PCM-00767, PCM-00769-70 (1993).

PJIGX began to shift its portfolio composition from simple pass-through securities to CMO derivative securities late in 1991. Tr. 3155-56. By March 1993, PCM had invested somewhere between 93.1 % (Exh. PCM-49 at pp. PCM-00762-64) and 97.5% (Exh. DIV-229 at pp. DIV-09332-33) of the Fund's net assets in CMO derivative securities. By March 1993, the Company also had leveraged the Fund's total CMO derivative investments to as much as 149% of net assets by implementing a "sale/when-issued" (aka "dollar roll") program.¹⁵ Exh. PCM-49 at p. PCM-00760; Exh. DIV-229 at p. DIV-09332. These investment strategies produced superior returns. For the fiscal year ended September 30, 1993, the Fund was ranked first among 65 short-term U.S. Government funds by Lipper Analytical Services, and first among 27 in the same category over the five year period ended September 30, 1993. Exh. PCM-50 at p. PCM-00769; Exh. PCM-289 at p. PCM-03762. This performance attracted massive investment: PJIGX's net assets swelled by over $500 million between January 1992 and September 1993. Exh. PCM-289 at p. PCM-03764. The Fund broke multiple sales records with respect to investor funds collected over the same period. Exh. DIV-236 at p. 44.

The Fund's 1991 Annual Report expressly noted that PJIGX introduced CMOs into the Fund portfolio early in the fiscal year. Exh. PCM-46 at p. PCM-00721. The fact that CMOs comprised part of the Fund portfolio was mentioned or otherwise reflected¹⁶ in every subsequent annual/semi-annual report to shareholders. Exh. PCM-47 at pp. PCM-00734, PCM-00738; Exh. PCM-48 at p. PCM-00744; Exh. PCM-49 at p. PCM-00756; Exh. PCM-50 at p. PCM-00767. The fact that CMO derivative securities were essential to the Fund's superior performance was specifically noted for the first time in the Fund's 1994 semi-annual report to shareholders. Exh. PCM-51 at p. PCM-00788. That report addressed a significant decline in Fund performance, which the report attributed to sharp interest rate increases, extended portfolio security maturities and increased volatility in the CMO derivative securities market. Id. at pp. PCM-00788-90.

Interest rates affecting the CMO market steadily declined between late 1991 and early 1994. Exh. PCM-46 at p. PCM-00722; Exh. PCM-48 at p. PCM-00745; Exh. PCM-50 at p. PCM-00769; Exh. PCM-63 at p. PCM-01174; Exh. DIV-229 at p. DIV-09313. Since CMO values generally vary inversely to underlying interest rates, CMOs generally increased in value from late 1991 through the end of 1993. Exh. PCM-63 at pp. PCM-01170, PCM-01172. The Federal Reserve Board initiated a series of interest rate increases early in 1994, however, and these increases had a severe negative impact on CMO values. Exh. PCM-63 at pp. PCM-01172-75; Exh. DIV-229 at p. DIV-09346; Tr. 2645. CMOs and the funds holding them suffered significant losses. Id. These losses triggered additional sell-offs, depressing values even further as CMO securities flooded the market. Exh. PCM-100; Exh. PCM-558 at p. PCM-13135. The CMO market effectively crashed when Askin was unable to satisfy broker-dealer margin calls beginning on March 30, 1994, and several hundred million dollars in Askin fund CMOs were liquidated in an already saturated market. Exh. PCM-63 at p. PCM-01174; Exh. PCM-100; Exh. PCM-743 at pp. PCM-14974-94; Exh. DIV-229 at pp. DIV-09314, DIV-09346. It is undisputed that this confluence of events precipitated the significant Fund losses which ultimately resulted in Division's Section 17(a) allegations against PCM. Division and PCM fundamentally disagree, however, with respect to materiality. PCM maintains that PJIGX's risk disclosures were accurate and adequate, emphasizing that the Fund's losses resulted from market circumstances which PCM reasonably could not have anticipated and over which it had no control. Division essentially argues that market circumstances are immaterial to the Section 17(a) allegations against PCM, focusing instead on allegedly undisclosed/inadequately disclosed changes to the Fund's investment strategy, composition, duration, convexity and leverage.

(b) Threshold Conclusions of Law

The legal standard to establish a violation of Section 17(a)(1) is: (1) misrepresentation or omission of material fact; (2) made in connection with the offer, sale or purchase of securities; (3) demonstrating either intent to deceive/defraud or recklessness.¹⁷ Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193 (1976); Aaron v. SEC, 446 U.S. 680, 697 (1980). A fact is material if there is a substantial likelihood that a reasonable investor would consider the fact important in making an investment decision and would view the information as having significantly altered the total mix of available information. Basic, Inc. v. Levinson, 485 U.S. 224, 231-32 (1988); TSC Industries, Inc. v. Northway, Inc., 426 U.S. 438 (1976). "Recklessness" consists of highly unreasonable conduct constituting an extreme departure from standards of ordinary care. See, e.g., Mansbach v. Prescott, Ball & Turben, 598 F.2d 1017, 1023-25 (6th Cir. 1979).

PCM raises a statute of limitations defense to Division's Section 17(a) allegations insofar as the allegations concern conduct or written materials which pre-date the OIP by more than five (5) years.¹⁸ Exh. PCM-2 at p. PCM-00032 (¶ 43). PCM cites the five (5) year limitation reflected in 28 U.S.C. § 2462 as the applicable standard, contending that any conduct occurring prior to July 28, 1993 is not sanctionable under Section 17(a) and therefore may not be considered in this proceeding.

28 U.S.C. § 2462 clearly establishes the applicable statute of limitations for imposing sanctions/penalties pursuant to Section 17(a).¹⁹ It follows that Division may not seek sanctions or penalties against PCM for any alleged violation of Section 17(a) which pre-dates the OIP by more than five (5) years- i.e. prior to July 28, 1993. It does not follow, however, that evidence concerning PCM's conduct prior to July 28, 1993 must be ignored. Inter alia, Division seeks cease & desist orders for PCM conduct which occurred in 1991, 1992 and throughout 1993. Cease & desist orders do not constitute "penalties" within the meaning of 28 U.S.C. § 2462. See, e.g., Joseph J. Barbato, Admin. Proc. 3-8575 at *41 and n.25 (Feb. 10, 1999). More important, a statute of limitations does not constitute an evidentiary bar. Id. at * 42 and n.26 (citing United States v. Gavin, 565 F.2d 519, 523 (8th Cir. 1977)). Accord Alfred M. Bauer and J. Stephen Stout, Admin. Proc. 3-9034 at *5-6 (Jan. 7, 1999). Principal among Division's allegations against PCM is a systematic undisclosed/ inadequately disclosed shift in PJIGX portfolio composition and risk characteristics between late 1991 and early 1994. Whether PCM violated Section 17(a) at any time- including the post-July 28, 1993 period which indisputably is not subject to the statute of limitations-- necessarily depends on comparisons between Fund composition/risk characteristics and disclosures throughout the period at issue.²⁰ Moreover, such comparisons are as fundamental to PCM's affirmative claims of good faith and compliance with industry standards as they are to Division's claims to the contrary, burden of proof notwithstanding. I find and conclude that while any claim for penalties/sanctions pursuant to Section 17(a) is time barred insofar as it concerns conduct occurring prior to July 28, 1993, PCM conduct and written materials pre-dating July 28, 1993 nevertheless may be considered as evidence in this proceeding.²¹

I also find and conclude that neither the Federal Reserve Board's interest rate increases nor the CMO market volatility described supra is material to Division's Section 17(a) allegations against PCM. Fund losses are not directly at issue here-- or anywhere else in this proceeding. The immediate issue is whether PJIGX prospectuses, reports, summaries, marketing materials and sales presentations accurately/adequately reflected the Fund's investment strategy, composition, duration, convexity and leverage. Division contends that they did not. Division therefore must substantiate its contention by a preponderance of the evidence. See, e.g., Steadman v. SEC, 603 F.2d 1126, 1137 (5th Cir. 1979), aff'd, 450 U.S. 91 (1981).

(c) Substantive Analysis and Determinations

1. Fund Composition and Stated Investment Objective

The record establishes that PJIGX's portfolio initially was comprised almost exclusively of ordinary mortgage-backed securities representing undivided pass-through interests in mortgage pools. Exh. PCM-12 at pp. PCM-00122-23; Exh. PCM-40 at p. PCM-00658; Exh. PCM-41 at p. PCM-00673. The record confirms that these securities were relatively safe investments because they were guaranteed as to payment of principal and interest by federal agencies such as the Federal National Mortgage Association, the Government National Mortgage Association and the Federal Home Loan Mortgage Corporation. Id. The record also confirms that PCM initially presented PJIGX as a money market alternative with volatility comparable to the three year treasury market, attributing the Fund's performance and AAAf Standard & Poor rating to the "high quality" of the portfolio's securities and the fact that the Fund "will invest only in Government securities and will not commit funds to options, futures or so called 'derivative instruments.'" Exh. PCM-40 at p. PCM-00649; Exh. PCM-41 at p. PCM-00667.

PJIGX prospectuses systematically and uniformly emphasized the relatively conservative composition of the Fund portfolio. Exh. PCM-12 at p. PCM-00122 (6/88); Exh. PCM-14 at pp. PCM-00144-45 (1/90); Exh. PCM-16 at pp. PCM-00166-67 (1/91); Exh. PCM-17 at pp. PCM-00187-88 (9/91 supp.); Exh. PCM-18 at pp. PCM-00208-09 (1/92); Exh. PCM-20 at pp.PCM-00231-32 (5/92 supp.); Exh. PCM-21 at p. PCM-00253 (1/93); Exh. PCM-22 at p. PCM-00275 (3/93); Exh. PCM-23 at p. PCM-00301 (2/94); Exh. PCM-24 at p. PCM- 00325 (4/94 supp.); Exh. PCM-25 at p. PCM-00349 (5/94 supp.). In addition, PJIGX's prospectuses systematically and uniformly emphasized the Fund's initial investment objective, policy and technique of seeking high current income while preserving principal investment by maintaining a portfolio security average weighted life of approximately three to five years. Id. PJIGX semi-annual and annual reports to shareholders systematically and uniformly emphasized a similar strategy, as well as the Fund portfolio's high quality and superior performance. Exh. PCM-40 at p. PCM-00649 (10/88); Exh. PCM-41 at p. PCM-00667 (3/89); Exh. PCM-42 at pp. PCM-00677, PCM-00679-80 (9/89); Exh. PCM-43 at pp. PCM-00689, PCM-00690 (3/90); Exh. PCM-44 at pp. PCM-00699-701 (9/90); Exh. PCM-45 at pp. PCM-00710-11 (3/91); Exh. PCM-46 at pp. PCM-00720-22 (1991); Exh. PCM-47 at pp. PCM-00731-34 (1992); Exh. PCM-48 at pp. PCM-007143-45 (1992); Exh. PCM-49 at pp. PCM-00755-57 (1993); Exh. PCM-50 at pp. PCM-00767, PCM-00769-70 (1993). The record therefore is conclusive that: (1) PJIGX's stated investment objective never changed over the life of the Fund; (2) PJIGX's emphasis on the relatively conservative composition of the Fund portfolio never changed over the life of the Fund; and (3) PJIGX's emphasis on preserving principal investment by maintaining a portfolio average weighted life of approximately three to five years never changed over the life of the Fund. It follows that none of these disclosures gave any indication of material changes to the Fund's investment objective, policy, techniques, strategy or composition.

PJIGX began to shift its portfolio composition from simple pass-through securities to CMO derivative securities late in 1991. Tr. 3155-56. The record indicates that by March 1993 PCM had invested somewhere between 93.1 % (Exh. PCM-49 at pp. PCM-00762-64) and 97.5% (Exh. DIV-229 at pp. DIV-09332-33) of the Fund's net assets in CMO derivative securities. The record also indicates that the Company had leveraged the Fund's total CMO derivative investments to as much as 149% of net assets through the dollar roll program by March 1993. Exh. PCM-49 at p. PCM-00760; Exh. DIV-229 at p. DIV-09332. Division maintains that these actions constituted material changes to the Fund's investment objective, strategy, composition, volatility and risk which PCM did not disclose, inadequately disclosed or affirmatively misrepresented.

It cannot reasonably be argued that PJIGX ever deviated from the "high level of current income" component of its stated investment objective. The record indicates that the Fund was ranked first among 65 short-term U.S. Government funds by Lipper Analytical Services for the fiscal year ended September 30, 1993, and first among 27 in the same category over the five year period ended September 30, 1993. Exh. PCM-50 at p. PCM-00769; Exh. PCM-289 at p. PCM-03762. The record also indicates that PJIGX's net assets increased by more than $500 million between January 1992 and September 1993. Exh. PCM-289 at p. PCM-03764. PJIGX broke multiple sales records over the same period. Exh. DIV-236 at p. 44.

Whether PJIGX materially deviated from the "consistent with preservation of capital" component of its stated investment objective turns on whether the Fund's investment risk profile increased to any significant degree and, if so, whether PCM adequately disclosed the increase. These determinations depend on analyses of the portfolio's more subtle characteristics (e.g., duration, convexity, average life, diversification, leverage), and the manner in which any material changes in those characteristics were disclosed.

2. Duration

As previously explained (see footnotes 13 and 14, supra), "duration" reflects the immediate percentage change in value a security or portfolio would experience in reaction to an interest rate change. Duration therefore is a risk indicator-- an attempt to quantify the price sensitivity or "volatility"of a particular security or portfolio. Exh. DIV-229 at p. DIV-09319; Exh. DIV-271 at p. 7; Tr. 285-86, 786-87, 1041, 3009. The record indicates that three different duration calculations were recognized in the CMO industry during the period between late 1991 and early 1994: modified duration, implied duration and effective duration. Tr. 285-87, 786-87, 1041-44. "Modified duration" estimates price sensitivity to future interest rate changes based on a weighted average time to receipt of principal and interest payments, expressed in present value. Exh. DIV-99 at p. DIV-07175; Exh. DIV-267 at pp. 16-17; Tr. 790, 1042.²² "Implied duration" relies on historical correlations between actual security prices and interest rates to estimate price sensitivity to future interest rate changes. Exh. DIV-267 at pp. 47-48; Tr. 297-98, 1043-44. "Effective duration" estimates price sensitivity to future interest rate changes through computer modeling techniques designed to simulate security price behavior under variable interest rate conditions. Exh. DIV-267 at p. 17; Tr. 790-91, 1044. Although the record suggests that PJIGX may have utilized duration calculi which relied on modified duration as well as implied duration (Tr. 298-99; Exh. DIV-99 at p. DIV-07175), the record is conclusive that PCM expressly disclosed Fund portfolio volatility to the public in terms of implied duration from at least January 1991 through September 1993. Exh. DIV-34 at pp. DIV-00791, DIV-00793, DIV-00795, DIV-00797, DIV-00799, DIV-00801, DIV-00803, DIV-00805, DIV-00807, DIV-00809, DIV-00811, DIV-00813, DIV-00815, DIV-00817.

Division maintains that PJIGX's reliance on implied duration was inappropriate. Division argues that implied duration was inherently inadequate as a volatility indicator insofar as CMO derivative securities were concerned because such securities' interest rate sensitivity is far more dynamic than the implied duration paradigm's exclusive reliance on historical security price/interest rate correlations presupposes. Division claims this inadequacy was generally acknowledged within the CMO derivative industry, and PCM's reliance on implied duration to estimate Fund volatility was therefore either intentionally or recklessly misleading. PCM disputes Division's claim that effective duration was the CMO derivative industry standard during the period at issue. Moreover, PCM emphasizes that actual post hoc comparisons between implied/effective duration predictions of Fund NAV responses to interest rate changes demonstrates that implied duration was a more accurate indicator than effective duration prior to early 1994. PCM also emphasizes that it conducted an exhaustive search for adequate effective duration analytics in 1993, but concluded that all available systems were inadequate. PCM maintains that it began reporting effective duration immediately after PCM tested and acquired what it considered to be an adequate system-- the Salomon Brothers Yield Book-- in mid-1994.

I note at the outset that industry standards, while material, are not determinative with respect to whether PCM's implied duration reliance/disclosure was appropriate and adequate. The record confirms that at least three different duration calculations were recognized in the CMO industry during the period between late 1991 and early 1994 (Tr. 285-87, 786-87, 1041-44), but does not establish that any of them was the industry standard. Moreover, Division argues that effective duration was the best available volatility indicator. This is not an "industry standards" argument; it is a "state-of-the-art" argument. It follows that while Division has introduced substantial evidence to support a determination that effective duration is superior to both modified duration and implied duration as a CMO derivative volatility indicator, Division has not established that effective duration was the industry standard between late 1991 and early 1994.²³

The record establishes that the essential difference among modified, implied and effective duration is the underlying cash flow assumption. Modified duration and implied duration assume cash flow remains constant as interest rates change; effective duration assumes cash flow varies with interest rate changes. Exh. DIV-229 at pp. DIV-00318-20; Exh. DIV-267 at pp. 46-47; Exh. DIV-271 at p. 7; Tr. 786-92, 1041-44. The record confirms that effective duration is superior to modified duration or implied duration as a CMO derivative volatility indicator because effective duration accounts for the fact that CMO derivative securities exhibit complex embedded options²⁴ which produce cash flow uncertainty. Exh. DIV-66 at p. DIV-02880; Exh. DIV-229 at pp. DIV-00318-20; Exh. DIV-267 at pp. 45-48; Exh. DIV-271 at pp. 6-7; Tr. 786-92, 1041-44. See also PCM RB at p. 10, n.1. The record also contains substantial unrebutted evidence that CMO portfolio managers of ordinary competence were aware of the fact that CMO derivative securities' uncertain cash flow characteristics could render modified/implied duration inadequate- even misleading- as a measure of price sensitivity/volatility. Exh. DIV-66 at p. DIV-02880; Exh. DIV-229 at pp. DIV-00318-20; Exh. DIV-267 at pp. 45-48; Exh. DIV-271 at pp. 6-7; Tr. 786-92, 1041-44. The record confirms that Bruntjen and Goldstein were aware of this deficiency long before March 1994. Exh. Div-70; Tr. 285-87, 307-09, 1429-31.

Although the record indicates PCM acquired and began using what the Company considered to be adequate effective duration analytics in mid-1994, it contains conflicting evidence with respect to whether adequate analytics were available prior to that time. Expert Division witnesses testified that at least three analytic systems available in 1993 reliably could estimate CMO effective duration.²⁵ Exh. DIV-267 at pp. 42-44; Exh. DIV-271 at p. 11; Tr. 789-90, 792-93, 1045-46. PCM concedes that various effective duration analytics were available prior to 1994, but contends that these systems' modeling algorithms/underlying databases were inadequate.²⁶ Tr. 311-13, 973-77, 3520-27, 4445-51. PCM buttresses its contention with extensive evidence demonstrating that the various effective duration analytics available in 1993 would have produced inconsistent results if applied to numerous securities in the Fund portfolio. Exh. PCM-63 at pp. PCM-01178-79, PCM-01200-07. PCM also emphasizes that a post hoc comparison between implied duration and effective duration demonstrates that the former more accurately reflected Fund NAV responses to interest rate changes prior to early 1994. Tr. 2667-68.

A conclusive determination with respect to which duration calculus PJIGX should have used in 1992/1993 is problematic. Division witnesses-- Mr. Gifford Fong in particular-- demonstrate both greater expertise and greater credibility with respect to whether adequate effective duration analytics were available to PCM during that period. Nevertheless, PCM's comparative analysis of the disparate results produced by the various effective duration analytics is troubling.²⁷ The difficulty in concluding which duration calculus PJIGX should have used in 1992/1993 is compounded by the fact that while effective duration was generally acknowledged to be a superior CMO derivative volatility indicator because it incorporated cash flow uncertainty, at least two other duration calculations were recognized in the CMO industry at that time, and none of the three was the established industry standard. I therefore find and conclude Division has not proven by a preponderance of the evidence that PCM's use/disclosure of implied duration, in itself, violated Section 17(a).²⁸

PCM maintains that the Fund's implied duration calculations/disclosures were at all times made in good faith and in compliance with industry standards. PCM argues that these circumstances undermine any claim that PCM intentionally or recklessly misrepresented Fund volatility to investors.²⁹ Once again, I note that while industry standards are material with respect to whether PCM's implied duration calculations/disclosures demonstrate good faith, they are not determinative of the issue. A practice may be universal within the industry and still be fraudulent. See, e.g., Newton v. Merrill, Lynch, Pierce, Fenner & Smith, Inc., 135 F.3d 266, 274 (3d Cir. 1998) (citing Chasins v. Smith, Barney & Co., 438 F.2d 1167, 1171-72 (2d Cir. 1970)). Accord The T.J. Hooper, 60 F.2d 737, 740 (2d Cir 1932), cert. denied, 287 U.S. 662 (1932). The pertinent inquiry is whether PJIGX's implied duration calculations/disclosures misrepresented or omitted any material fact in connection with the offer, sale or purchase of Fund securities. More specifically, did PCM's implied duration calculations/disclosures misrepresent or omit any fact which there was a substantial likelihood a reasonable investor would consider important in making an investment decision and would view as having significantly altered the total mix of available information? Basic, Inc. v. Levinson, 485 U.S. 224, 231-32 (1988); TSC Industries, Inc. v. Northway, Inc., 426 U.S. 438 (1976). I find and conclude that, in addition to PCM's actual conduct, industry standards are material considerations in answering this question.

PCM bases its claim of compliance with industry standards on the unrebutted expert opinion of Marc I. Steinberg.³⁰ The record indicates that Professor Steinberg performed a comparative analysis between PJIGX prospectuses/statements of additional information ("SAI")³¹ issued from 1991 through 1994 and similar materials issued by approximately twenty other mutual funds during the same period. Exh. PCM-62 at pp. PCM-01136-40; Tr. 4354-55. Professor Steinberg concluded that Fund prospectuses/SAIs were consistent with industry standards and adequately disclosed the risks associated with investing in the Fund (Exh. PCM-62 at pp. PCM-01136-40), ranking Fund disclosures "fairly much middle of the road" in comparison to the other materials he reviewed. Tr. 4356.

Professor Steinberg's expertise compels me to accept his conclusion that PJIGX prospectuses/SAIs issued from 1991 through 1994 were consistent with industry standards. In contrast, the record compels me to disregard Professor Steinberg's corollary conclusion that PJIGX prospectuses, SAIs and annual/semi-annual reports adequately disclosed the risks associated with investing in the Fund. Although Professor Steinberg indisputably is qualified to assess compliance with industry disclosure standards, he demonstrates scant expertise insofar as the esoteric risk characteristics of CMO derivative securities are concerned. Professor Steinberg confirmed that he has absolutely no experience analyzing any type of mortgage-backed security. Tr. 4382. He also confirmed that he conducted no analysis whatsoever of PJIGX's portfolio composition or risk profile. Id. at 4383. Accepting, arguendo, Professor Steinberg's conclusion that his twenty fund control group validly is analogous to PJIGX because control group prospectuses/SAIs disclose risk indicators (e.g., CMO derivative security investments, leverage, sale when-issued/dollar roll programs) common to PJIGX, it does not follow that the control group disclosures were in fact accurate or adequate with respect to either: (1) control group fund composition/fund composition risk implications; or (2) the impacts of CMO derivative security proportions, durations, convexities or leverages on control group fund risk profiles.³² I therefore find and conclude that Professor Steinberg's comparative analysis supports PCM's claim of good faith only to the extent that it establishes compliance with industry standards.

PCM cites specific changes to PJIGX prospectuses/SAIs, annual/semi-annual reports and investment executive directives to buttress its contention that any material changes in PJIGX portfolio composition and volatility were disclosed in good faith. PCM emphasizes first that it distributed copies of PJIGX's January 28, 1992 prospectus (Exh. PCM-18) to all Fund shareholders on February 25, 1992. The Company stresses that the prospectus cover letter highlighted the Fund's new ability to invest in CMOs, and specifically referenced information on page 5 of the prospectus regarding that ability. PCM underscores the fact that the January 28, 1992 prospectus (and subsequent prospectuses) provided specific information concerning Fund investment in CMOs and stripped mortgage-backed securities (e.g., IOs and POs), including caveats that these securities were derivative instruments with a potential to incur substantial losses under certain market conditions. PCM also underscores the fact that SAIs were incorporated into Fund prospectuses by reference, and could be obtained by shareholder request. PCM argues that the SAIs described PJIGX investment options and strategies at length and featured complete lists of securities held in the portfolio. The Company adds that similar information was provided in PJIGX annual/semi-annual reports to shareholders. Finally, PCM notes that while it could have relied exclusively on written public disclosures-- which, in themselves, exceeded minimum legal requirements-- the Company also encouraged its investment executives to ensure that PJIGX remained appropriate to client investment objectives and risk tolerance.

The record confirms that PJIGX's January 28, 1992 prospectus and February 25, 1992 cover letter highlighted a new Fund ability to invest in CMOs. Exh. PCM-18 at pp. PCM-00210-11; Exh. PCM-107. The record also confirms that the January 28, 1992 prospectus provided descriptive information regarding CMOs and stripped mortgage-backed securities, specifically defining the latter as "derivative multi-class mortgage securities" and indicating that both categories of securities could increase portfolio volatility/potential losses under specific market conditions. Exh. PCM-18 at pp. PCM-00210-11. Subsequent prospectuses reflect substantially the same descriptions and caveats. Exh. PCM-20 at pp. PCM-00233-34; Exh. PCM-21 at p. PCM-00255; Exh. PCM-22 at p. PCM-00277; Exh. PCM-23 at p. PCM-00303; Exh. PCM-24 at p. PCM-00327; Exh. PCM-25 at pp. PCM-00351-52. In addition, PJIGX's January 28, 1992 prospectus and subsequent prospectuses incorporate an SAI by reference, along with a notice that the SAI may be obtained free of charge from the Fund. Exh. PCM-18 at p. PCM-00204; Exh. PCM-20 at p. PCM-00227; Exh. PCM-21 at p. PCM-00249; Exh. PCM-22 at p. PCM-00270; Exh. PCM-23 at p. PCM-00296; Exh. PCM-24 at p. PCM-00320; Exh. PCM-25 at pp. PCM-00344. Each SAI includes a list of individual Fund securities, grouped into investment categories.³³ Exh. PCM-36 at p. PCM-00552; Exh. PCM-37 at pp. PCM-00579-81; Exh. PCM-38 at pp. PCM-00607-09; Exh. PCM-39 at pp. PCM-00637-41.

In addition, the record confirms that PJIGX's 1991 Annual Report notes that the Fund introduced CMOs into the portfolio early in the fiscal year. Exh. PCM-46 at p. PCM-00721. The fact that PJIGX held CMOs is referenced or otherwise reflected³⁴ in subsequent annual/semi-annual reports to shareholders. Exh. PCM-47 at pp. PCM-00734, PCM-00738-39; Exh. PCM-48 at pp. PCM-00744, PCM-00749-51; Exh. PCM-49 at pp. PCM-00756, PCM-00762-64; Exh. PCM-50 at pp. PCM-00767, PCM-00777-80. Finally, the record confirms that PCM issued a memorandum to Company investment executives recommending client reviews to ensure that PJIGX remained appropriate to client investment objectives and risk tolerances on August 18, 1992. Exh. PCM-110.

The preceding record evidence supports general conclusions that PCM timely and adequately disclosed the facts that: (1) PJIGX could and did invest in CMOs beginning in 1991; (2) the Fund progressively increased the proportion of CMO derivative securities held in its portfolio from early 1991 through at least March 1993; and (3) CMOs and other derivative securities may increase portfolio volatility/potential losses under specific market conditions. In addition, it establishes that PCM encouraged its investment executives to conduct client investment objective/risk tolerance reviews to ensure that PJIGX remained an appropriate investment vehicle on August 18, 1992. In retrospect, however, the same evidence would have supported a reasonable inference that PJIGX's CMO derivative investments did not significantly increase portfolio volatility. The February 25, 1992 cover letter highlighting the Fund's ability to invest in CMOs describes the securities simply as a mechanism to achieve greater fund management flexibility. Exh. PCM-107. The letter specifically assures shareholders of PCM's belief "that the use of these securities will in no way jeopardize the high quality or the AAA rating assigned to your fund . . . ." Id. (emphasis added). The January 28, 1992 prospectus reinforces this impression. Although the prospectus's CMO description expressly notes that "[i]nverse or reverse floating CMOs are typically more volatile than fixed or floating rate tranches of CMOs" and "[t]he Portfolio would be adversely affected by the purchase of such CMOs in the event of an increase in interest rates since the coupon rate thereon will decrease as interest rates increase," it also expressly states that the purpose of investing in such securities would be "to protect against a reduction in the income earned on the Portfolio's investments due to a decline in interest rates." Exh. PCM-18 at p. PCM-00211. This language suggests that inverse or reverse floating CMO investments would reduce portfolio volatility. Similarly, while the August 18, 1992 investment executive memorandum encouraged client investment objective/risk tolerance reviews to ensure that PJIGX remained an appropriate investment vehicle, it specifically was targeted to short-term (i.e. one year or less investment horizon) investors. Exh. PCM-110 at p. PCM-01402. The memorandum expresses Fund manager confidence that PJIGX remained appropriate to investors with a time horizon of at least one year based on the Fund's "moderate volatility" and "duration of 3.4 years." Id.

The record establishes that from January 1991 through September 1993 PCM disclosed implied durations for PJIGX ranging between 3.0 and 4.3 years. Exh. DIV-34 at pp. DIV-00791, DIV-00793, DIV-00795, DIV-00797, DIV-00799, DIV-00801, DIV-00803, DIV-00805, DIV-00807, DIV-00809, DIV-00811, DIV-00813, DIV-00815, DIV-00817. The record indicates that these figures imply a low to moderate portfolio volatility typically associated with risk-averse investment strategies. Exh. DIV-227 at p. DIV-07147; Exh. DIV-236 at p. 38; Exh. DIV-237 at pp. 59-64; Tr. 461-62, 679-83, 2082-87, 3311. The record, however, contains substantial evidence that PJIGX's CMO-driven volatility was appreciably greater than the low to moderate range which the Fund's implied duration disclosures suggested. Implied duration, by definition, does not reflect CMO derivative securities' inherent prepayment risk.³⁵ Exh. DIV-229 at p. DIV-00320; Exh. DIV-267 at pp. 46-48; Exh. DIV-271 at p. 6; Tr. 791-92, 1042-44. The Fund portfolio's increasing proportion of CMO derivative securities necessarily and progressively would have exacerbated this deficiency between late 1991 and March 1993. Tr. 3155-56; Exh. PCM-49 at pp. PCM-00762-64; Exh. DIV-229 at pp. DIV-09332-33. These facts suggest that implied duration calculations/disclosures necessarily would have understated PJIGX portfolio price sensitivity, thereby producing an inaccurate or misleading picture of Fund volatility. Exh. DIV-66 at p. DIV-02880. And since Bruntjen and Goldstein admittedly were aware of implied duration's inherent inability to account for the cash flow uncertainty exhibited by the Fund's ever-increasing proportion of CMO derivative securities (Exh. Div-70; Tr. 285-87, 307-09, 1429-31), the facts also suggest that PCM, Bruntjen and Goldstein should have known that continuing to calculate and disclose implied duration could produce an inaccurate or misleading picture of PJIGX price sensitivity/volatility. Moreover, while a number of Division witness Wiener's effective duration calculations are susceptible to legitimate criticisms concerning their derivation/accuracy (Tr. 1095-98, 1106, 1131, 2660-65), his examination is instructive in its core implication that performing an effective duration analysis of the PJIGX portfolio any time after March 31, 1993 would have revealed that implied duration almost certainly understated Fund volatility-- perhaps in significant degree.³⁶ Exh. DIV-229 at pp. DIV-09322-39; Exh. DIV-271 at p. 15. This indication, moreover, would have been consistent with independent broker-dealer appraisals: the record confirms that Kidder Peabody advised Bruntjen in late 1993 or early 1994 that PJIGX exhibited a "very long duration" (Tr. 841), and also that other broker-dealers calculated a portfolio duration of approximately fifteen years for the Fund in 1993. Tr. 2334-35.

PJIGX prospectuses, SAIs and annual/semi-annual reports dating at least through the end of 1993 are devoid of any suggestion that the implied duration figures disclosed for the Fund might understate PJIGX portfolio volatility. Exh. DIV-34 at pp. DIV-00791, DIV-00793, DIV-00795, DIV-00797, DIV-00799, DIV-00801, DIV-00803, DIV-00805, DIV-00807, DIV-00809, DIV-00811, DIV-00813, DIV-00815, DIV-00817. Also see generally Exh. PCM-12 through Exh. PCM-23; Exh. PCM-32 through Exh. PCM-39.³⁷ To the contrary, Fund prospectuses uniformly continued to emphasize the relatively conservative composition of the PJIGX portfolio. Exh. PCM-12 at p. PCM-00122 (6/88); Exh. PCM-14 at pp. PCM-00144-45 (1/90); Exh. PCM-16 at pp. PCM-00166-67 (1/91); Exh. PCM-17 at pp. PCM-00187-88 (6/91 supp.); Exh. PCM-18 at pp. PCM-00208-09 (1/92); Exh. PCM-20 at pp. PCM-00231-32 (5/92 supp.); Exh. PCM-21 at p. PCM-00253 (1/93); Exh. PCM-22 at p. PCM-00275 (3/93); Exh. PCM-23 at p. PCM-00301 (2/94); Exh. PCM-24 at p. PCM-00325 (4/94 supp.); Exh. PCM-25 at p. PCM-00349 (5/94 supp.). PJIGX marketing materials, seminars and sales presentations- many of which specifically addressed portfolio duration-- reflected this emphasis, as well as an emphasis on low to moderate portfolio volatility.³⁸ Exh. DIV-111 at pp. DIV-00957, DIV-00966; Exh. DIV-113 at p. DIV-07307; Exh. DIV-227 at p. DIV-07147; Exh. DIV-228; Exh. DIV-236 at pp. 36-38; Exh. DIV-237 at pp. 53-73; Tr. 461-65, 678-83, 759-63, 2086-93, 3311.

3. Convexity

Division alleges that the PJIGX portfolio exhibited extreme negative convexity, and this characteristic magnified the degree to which PCM's implied duration calculations and disclosures understated portfolio price sensitivity/volatility. Division maintains that PCM failed to disclose this fact- indeed, affirmatively misrepresented it - and that each behavior violated Section 17(a). PCM counters that it was not required to disclose PJIGX portfolio convexity. PCM also emphasizes that incorporating negative convexity into an effective duration calculation which less accurately correlated actual Fund NAV responses to interest rate changes than implied duration simply would have exacerbated effective duration's inaccuracy.³⁹

The record is conclusive that duration and convexity are intricately interrelated. Exh. DIV-66 at p. 02883; Exh. DIV-229 at pp. 09319-21. Convexity is the rate at which duration (i.e. price volatility) changes. Exh. DIV-66 at p. 02883. If duration is analogized to the speed of price changes, convexity would represent acceleration. Id. Negative convexity indicates that a security or portfolio will increase in duration/volatility (i.e. lose value) at a faster rate as interest rates rise than the security or portfolio will decrease in duration/volatility (i.e. gain value) as interest rates fall.⁴⁰ All things being equal, a negatively convex security or portfolio exhibits more potential to lose value than it does to gain value in an uncertain interest rate environment. Exh. DIV-66 at p. 02883; Exh. DIV-229 at p. 09320; Tr. 1049.

Because CMO derivative securities have embedded prepayment options, they exhibit negative convexity. Exh. DIV-66 at p. DIV-02880; Exh. DIV-229 at p. DIV-00320. The record indicates that somewhere between 93.1 % and 97.5% of PJIGX's net assets had been invested in CMO derivative securities by March 1993. Exh. PCM-49 at pp. PCM-00762-64; Exh. DIV-229 at pp. DIV-09332-33. The record also indicates that the Fund's total CMO derivative investments had been leveraged to as much as 149% of net assets through the dollar roll program by March 1993. Exh. PCM-49 at p. PCM-00760; Exh. DIV-229 at p. DIV-09332. It therefore is reasonable to infer that the PJIGX portfolio exhibited substantial negative convexity by March 1993. Unrefuted expert testimony supports this inference. Exh. DIV-229 at p. DIV-00335; Tr. 1049-50.

Applicable securities laws impose no specific obligation to disclose convexity characteristics. Moreover, the record reveals no specific disclosure or other reference to convexity which PCM could have misrepresented.⁴¹ I therefore find and conclude Division has not proven by a preponderance of the evidence that PCM 's failure to disclose Fund convexity, in itself, violated Section 17(a), or that PCM affirmatively misrepresented PJIGX portfolio convexity.

4. Average Life

Division contends that PJIGX's weighted average life disclosures were misleading, and violated Section 17(a) as a consequence. Division bases this contention on claims that: (1) weighted average life is an almost meaningless risk indicator for CMO derivative securities; and (2) PCM excluded inverse floating securities from the Fund's weighted average life calculation. PCM maintains that PJIGX's weighted average life disclosures could not have violated Section 17(a) because they were accurate and expressly indicated that the Fund's weighted average life calculation did not include inverse floating securities. PCM also maintains that Division submitted no evidence that PJIGX's weighted average life was material to investors.

The record establishes that PJIGX prospectuses systematically and uniformly linked the Fund objective of maintaining an average weighted portfolio maturity ranging from approximately three to five years to PJIGX's ability to maintain principal investment stability while seeking high current income. Exh. PCM-12 at p. PCM-00122; Exh. PCM-14 at p. PCM-00145; Exh. PCM-16 at p. PCM-00166; Exh. PCM-17 at p. PCM-00188; Exh. PCM-18 at p. PCM-00209; Exh. PCM-20 at p.PCM-00231; Exh. PCM-21 at p. PCM-00253; Exh. PCM-22 at p. PCM-00275; Exh. PCM-23 at p. PCM-00301; Exh. PCM-24 at p. PCM-00325; Exh. PCM-25 at p. PCM-00349. The record also establishes that PJIGX annual/semi-annual reports to shareholders systematically and uniformly linked the Fund's objective of providing high current income while preserving principal investment, as well as Fund volatility, to maintaining a portfolio security average weighted life of approximately three to five years. Exh. PCM-40 at p. PCM-00649; Exh. PCM-41 at p. PCM-00667; Exh. PCM-42 at p. PCM-00680; Exh. PCM-43 at p. PCM-00690 ; Exh. PCM-44 at pp. PCM-00700-01; Exh. PCM-46 at pp. PCM-00721-22; Exh. PCM-47 at p. PCM-00734; Exh. PCM-48 at pp. PCM-00744-45; Exh. PCM-49 at pp. PCM-00756-57; Exh. PCM-50 at pp. PCM-00767, PCM-00769. I find and conclude that prominently linking PJIGX's investment objective, strategy and portfolio volatility to the weighted average life of Fund securities in prospectuses and annual/semi-annual reports to shareholders establishes a substantial likelihood that reasonable investors would consider weighted average life important in making PJIGX investment decisions and would view the information as significantly altering the total mix of available information. It follows that PJIGX's weighted average life disclosures were material to investors.

Whether the weighted average portfolio life PCM disclosed was inaccurate or misleading depends on: (1) whether PCM adequately disclosed the fact that inverse floating securities were not included in the weighted average life calculation; (2) if so, whether it was appropriate for PCM to exclude inverse floating securities from the calculation; and (3) if so, whether weighted average portfolio life was a meaningful PJIGX risk indicator.

Each PJIGX prospectus issued after the Fund began to invest in CMO derivative securities expressly states that PJIGX "expects to maintain an average weighted maturity of its portfolio securities (other than inverse floating CMOs) ranging from approximately three to five years." Exh. PCM-18 at p. PCM-00209; Exh. PCM-20 at p. PCM-00231; Exh. PCM-21 at p. PCM-00253; Exh. PCM-22 at p. PCM-00275; Exh. PCM-23 at p. PCM-00301; Exh. PCM-24 at p. PCM-00325; Exh. PCM-25 at p. PCM-00349. (Emphasis added). I previously relied on this specific language (at least in part) to conclude that reasonable investors would consider weighted average life material to PJIGX investment decisions. Consequently, it would be disingenuous to conclude that reasonable investors would ignore the fact that the weighted average life disclosed for the Fund specifically excluded inverse floating CMOs. I find and conclude that PCM adequately disclosed the fact that inverse floating securities were not included in PJIGX's weighted average life calculations/disclosures.

The record does not reflect PCM's rationale for excluding inverse floating securities from PJIGX's weighted average life calculations/disclosures. Neither does it contain any support for PCM's assertion that PJIGX's weighted average life calculations/disclosures could not have been misleading simply because they were accurate. In fact, the evidence supports a contrary conclusion. Unrefuted record evidence indicates that inverse floating securities ranged between 47.4 % and 30.9 % of PJIGX's CMO holdings from March 31, 1993 to March 31, 1994. Exh. DIV-229 at pp. DIV-09332, DIV-09341, DIV-09346, DIV-09349. Moreover, the record indicates that these securities exhibited some of the highest levels of interest rate risk in the portfolio. Id. at p. DIV-09349. Conceding, arguendo, that PJIGX's weighted average life calculations/disclosures were accurate apart from the portfolio's inverse floating CMO component, the calculations/disclosures nevertheless could have been misleading. Indeed, is difficult to understand how the calculations/disclosures would not have been misleading in light of the Fund's considerable proportion of inverse floating securities and those securities' enhanced interest rate risk.

This concern is amplified by evidence that weighted average life was not a meaningful risk indicator for the PJIGX portfolio due to the portfolio's high total proportion of CMO derivative securities of various kinds. A security's weighted average life is the average time a dollar of principal is presumed to be outstanding and earning interest before being returned to the security holder. As with duration and convexity, however, the fact that CMO derivative securities exhibit complex embedded options introduces substantial prepayment/cash flow uncertainty. This uncertainty vitiates the presumed prepayment rate, thereby rendering the security's indicated sensitivity to interest rates highly unreliable. Exh. DIV-229 at pp. DIV-09318-19. Excluding securities which are especially interest rate-sensitive (e.g., inverse floaters) from weighted average portfolio life compounds the problem. Although PCM adequately disclosed the fact that inverse floating CMOs were excluded from PJIGX's weighted average life calculations/disclosures, and also may have accurately calculated/disclosed the portfolio's resultant weighted average life, its failure to caution investors that those calculations/disclosures might not be accurate portfolio volatility indicators could have been misleading-- particularly since PJIGX annual/semi-annual reports to shareholders expressly linked Fund volatility to the portfolio's average weighted life.⁴² Exh. PCM-43 at p. PCM-00690; Exh. PCM-44 at pp. PCM-00700-01; Exh. PCM-46 at p. PCM-00722; Exh. PCM-47 at p. PCM-00734; Exh. PCM-48 at p. PCM-00745; Exh. PCM-49 at p. PCM-00756; Exh. PCM-50 at pp. PCM-00767, PCM-00769.

Similar reasoning would apply to PCM's use of the Merrill Lynch 3-5 Year Treasury Bond Index as a benchmark for Fund performance. PJIGX annual/semi-annual reports to shareholders systematically compared Fund performance to that index. Exh. PCM-42 at p. PCM-00677; Exh. PCM-43 at p. PCM-00689 ; Exh. PCM-44 at p. PCM-00699; Exh. PCM-45 at p. PCM-00710; Exh. PCM-46 at p. PCM-00720; Exh. PCM-47 at p. PCM-00732; Exh. PCM-48 at p. PCM-00743; Exh. PCM-49 at p. PCM-00755; Exh. PCM-50 at pp. PCM-00769-70. PJIGX marketing materials and sales presentations made similar comparisons. Exh DIV-111 at pp. 00955-58; Exh DIV-115 at pp. 09226-27, 09265-66; Tr. 465. I find and conclude that expressly comparing Fund performance to the Merrill Lynch 3-5 Year Treasury Bond Index establishes a substantial likelihood that reasonable investors would consider the comparisons important in making PJIGX investment decisions and would view the comparisons as significantly altering the total mix of available information. It follows that PPJIGX/Merrill Lynch 3-5 Year Treasury Bond Index comparisons were material to investors.

The record casts doubt on PCM's claim that the Merrill Lynch 3-5 Year Treasury Bond Index was an appropriate risk/performance benchmark for PJIGX. The Fund's distinguishing feature was an extremely high proportion of CMO derivative securities. Exh. PCM-49 at pp. PCM-00760, PCM-00762-64; Exh. DIV-229 at pp. DIV-09332-33. The Merrill Lynch 3-5 Year Treasury Bond Index contained no CMOs/CMO derivative securities whatsoever. Tr. 3191, 3193. Moreover, the record indicates that PJIGX exhibited multiples of the interest rate sensitivity exhibited by the Merrill Lynch 3-5 Year Treasury Bond Index. Exh. DIV-229 at p. DIV-09335; Exh. DIV-271 at pp. 1, 10.

5. Diversification

Division contends that PCM affirmatively misrepresented PJIGX portfolio diversification. Division takes the position the portfolio was not diversified because it was comprised almost exclusively of interest rate-sensitive CMO derivative securities. Division essentially argues that these securities were heavily biased toward the prevailing downward trend in interest rates, and therefore did not exhibit the basic covariance⁴³ customarily exhibited by a diversified investment strategy. As a consequence, Division concludes that PJIGX annual/semi-annual reports, marketing materials and sales presentations were false or misleading insofar as they indicated that the Fund portfolio was diversified. PCM counters that Division misconstrues PJIGX statements concerning portfolio diversification and balance. According to PCM, these statements accurately reflect Bruntjen's strategy of cash flow diversification across a spectrum of securities exhibiting different cash flow characteristics. PCM maintains that SEC examiners understood and specifically approved this method of portfolio diversification in the context of a February 1994 examination of Piper's entire fund complex.

PJIGX's 1993 semi-annual report states that the Fund's "holdings are well diversified across fixed income market sectors that are characterized by different types of price behavior. This broad-based diversification enables your fund to benefit in a variety of economic situations." Exh. PCM-49 at p. PCM-00757. PJIGX's 1993 annual report states: "MOST IMPORTANT, WE ADHERE TO THE PROVEN INVESTMENT PRINCIPLE OF DIVERSIFICATION. [The Fund] is invested in more than 200 different securities which offset one another and help the fund to perform well in a variety of economic scenarios." Exh. PCM-50 at p. PCM-00769. Fund summaries issued from October 1990 through June 30, 1993 systematically and uniformly state: "The [fund/portfolio] is structured to minimize the normal principal fluctuations that an investment in fixed income securities has in response to changes in market conditions."⁴⁴ Exh. DIV-34 at pp. DIV-00790, DIV-00791, DIV-793, DIV-00795, DIV-00797, DIV-00799, DIV-00801, DIV-00803, DIV-00805, DIV-00807, DIV-00809, DIV-00811, DIV-00813, DIV-00817. In addition, the record confirms that PCM systematically emphasized PJIGX portfolio diversification in Fund sales presentations. Exh. DIV-111 at p. DIV-00960; Exh. DIV-115 at pp. DIV-09219, DIV-09259; Tr. 3314.

PCM does not claim that the PJIGX portfolio was diversified in the ordinary sense of offsetting risks, and the record confirms that it was not. Exh. DIV-112; Exh. DIV-229 at pp. DIV-09314, DIV-09344. Bruntjen himself conceded this fact. Tr. 1427. Accepting, arguendo, PCM's claim that PJIGX annual/semi-annual report, marketing material and sales presentation statements concerning portfolio diversification actually referenced Bruntjen's unique cash flow management strategy, how would a reasonable investor glean that information? The statements themselves give no hint of it. Instead, they affirmatively suggest diversification in the ordinary sense. For example, PJIGX's 1993 annual report emphasizes that the Fund "ADHERE[S] TO THE PROVEN INVESTMENT PRINCIPLE OF DIVERSIFICATION" (italics added). Exh. PCM-50 at p. PCM-00769. This expressly implies a familiar concept. Further, the report states that PJIGX "is invested in more than 200 different securities which offset one another and help the fund to perform well in a variety of economic scenarios" (Id. (emphasis added)), again implying diversification in the familiar sense. Further undermining PCM's reliance on technical accuracy is the fact that Bruntjen's unorthodox strategy of purchasing a variety of CMO derivative securities at a discount and actively managing the cash flows as they accreted to par (Tr. 1435-36; Exh. PCM-919 at pp. PCM-16714-15) mystified even peer fund managers.⁴⁵

6. Leverage

Division also contends that PCM affirmatively misrepresented the nature and implications of Fund leverage. According to Division, PCM falsely characterized PJIGX's sale-when-issued/ dollar roll program as a risk hedging mechanism when in fact the program aggravated Fund volatility. Division further alleges that PCM misrepresented program revenues as "fee income" instead of income generated through assumption of additional risk. PCM disputes any contention that Fund leverage was either misrepresented or inadequately disclosed. PCM maintains that PJIGX sale-when-issued program disclosures were at all times at least industry standard, and were enhanced to reflect potential Fund performance under extreme market conditions immediately after the 1994 bond market crash.

The record establishes that PCM at all times prominently disclosed the fact that Fund investments included forward commitments and when-issued securities. From the Fund's inception in 1988, PJIGX prospectuses systematically and uniformly included a section designated Forward Commitments and When-Issued Securities under the heading Investment Policies and Techniques. Exh. PCM-12 at p. PCM-00124; Exh. PCM-14 at pp. PCM-00146-47; Exh. PCM-16 at pp. PCM-00167-68; Exh. PCM-17 at pp. PCM-00189-90; Exh. PCM-18 at pp. PCM-00211-12; Exh. PCM-20 at pp.PCM-00234-35; Exh. PCM-21 at p. PCM-00256; Exh. PCM-22 at p. PCM-00278; Exh. PCM-23 at p. PCM-00304; Exh. PCM-24 at p.PCM- 00328; Exh. PCM-25 at p. PCM-00352. (Italics and emphasis in originals). In addition, the record establishes that the dollar roll program was at all times an integral aspect of the Fund. Tr. 3172. PJIGX prospectuses dated from June 20, 1988 through February 1, 1994 systematically and uniformly represented that "[t]he use of when-issued transactions and forward commitments enables the Portfolio to hedge against anticipated changes in interest rates and prices." Exh. PCM-12 at p. PCM-00124; Exh. PCM-14 at p. PCM-00146; Exh. PCM-16 at p. PCM-00168; Exh. PCM-17 at p. PCM-00190; Exh. PCM-18 at p. PCM-00211; Exh. PCM-20 at p. PCM-00234; Exh. PCM-21 at p. PCM-00256; Exh. PCM-22 at p. PCM-00278; Exh. PCM-23 at p. PCM-00304. PJIGX prospectus supplements dated April 22, 1994 and May 23, 1994 deleted this representation, stating instead that purchasing securities on a when-issued or forward commitment basis involved additional risk which could increase Fund NAV volatility. Exh. PCM-24 at p. PCM-00328; Exh. PCM-25 at p. PCM-00352.

The record indicates that PJIGX used the sale-when-issued/dollar roll program to leverage the Fund's total CMO derivative investments to approximately 149% of net assets by March 1993, and to approximately 160% of net assets by March 1994. Exh. PCM-49 at p. PCM-00760; Exh. PCM-51 at p. PCM-00795; Exh. DIV-229 at pp. DIV-09332, DIV-09346. This leverage was achieved principally through the purchase of additional CMO derivative securities and, as previously discussed, necessarily would have compounded any negative impacts attributable to inflated duration/negative convexity arising out of the underlying portfolio's overwhelming proportion of CMO derivative securities. More important, dollar roll programs are based on systematic security repurchase transactions through which security positions are sold to broker-dealers at specific prices/points in time with concomitant seller obligations to repurchase the positions at specified (lower) prices/future points in time. A fundamental feature of such transactions is that the seller bears the full risk of any change(s) in value over the intervening period-- even where the seller does not actually own the securities during that period.⁴⁶ Exh. DIV-229 at pp. DIV-09326-27. It follows that a leveraged dollar roll program necessarily increases risks associated with changes in security prices, particularly if those prices are acutely sensitive to interest rates. Id. at p. DIV-09327; Tr. 279-81, 3172-75. I therefore find and conclude it was patently inaccurate to characterize the PJIGX dollar roll program as "a hedge against anticipated changes in interest rates and prices."⁴⁷

The record provides inadequate basis for me to determine whether it was accurate to characterize PJIGX dollar roll incentive receipts as "fees" in Fund prospectus and annual/semi-annual reports. Division briefs and Exh. DIV-229 at pp. DIV-09327-28 imply that "fee income" is a term of art, but offer no evidence to support a conclusion to that effect-- let alone that the term inaccurately was applied to PJIGX dollar roll incentive receipts. Consequently, I find and conclude Division has not proven that PJIGX improperly characterized dollar roll incentive receipts.

(d) Goldstein-Specific Issues

Goldstein highlights the fact that she has been charged with primary violations of Section 17(a). Goldstein contends she cannot be held primarily liable under Section 17(a) because: (1) she neither made nor substantially participated in making the disclosures at issue; (2) she had no duty to disclose any material omission; (3) any oral misrepresentations are not actionable; and (4) Division failed to prove that she acted with the requisite scienter. Goldstein bases these contentions principally on the claim that while her title indicated she was PJIGX's "co-manager," her actual management expertise, authority and responsibilities paled in comparison to Bruntjen. She argues that Bruntjen alone had the expertise, responsibility and actual authority to formulate, review and approve Fund investments, disclosures, marketing materials and sales presentations, and that she may be held primarily liable neither for Bruntjen's actions in this regard nor for her own at his direction. Division adamantly disputes Goldstein's claims, arguing that she played substantial roles in PJIGX portfolio management and in formulating/making misleading risk disclosures in Fund prospectuses, marketing materials and sales presentations.

Goldstein's position relies in part on the legal conclusion that she personally had to create or make a misrepresentation concerning the Fund to be held primarily liable under Section 17(a). She bases this conclusion chiefly on Wright v. Ernst & Young LLP, 152 F.3d 169, 174-75 (2d Cir. 1998) (Wright), which held that a secondary actor could not incur primary liability for a statement not attributed to that specific actor at the time of public dissemination.⁴⁸ Such reliance, however, is misplaced. In contrast to the instant case, Wright's secondary actor was a third-party auditor. Goldstein was a PCM Vice President and the Fund's ostensible co-manager. She was not a "secondary actor" in the sense Wright uses that term. This conclusion is buttressed by the fact that Central Bank clearly is not intended to exempt all persons who indirectly violate securities laws from primary liability for such violations. Instead, the exemption is confined to tangential actors. Central Bank expressly distinguishes "persons who engage, even indirectly, in proscribed activity" from "persons who do not engage in the proscribed activities at all, but who give a degree of aid to those who do"-- exempting only the latter from primary liability.⁴⁹ 511 U.S. at 176 (emphasis added). Contrary to Goldstein's position, then, neither Wright nor Central Bank supports a conclusion that she personally had to create or make a misrepresentation to be held primarily liable under Section 17(a). Both cases support a conclusion that Goldstein's conduct should be evaluated under the "substantial participation" standard.

PJIGX prospectuses dated from January 29, 1990 to February 1, 1994⁵⁰ systematically and uniformly state that "Worth Bruntjen, Senior Vice President of the Advisor and of the Investment Trust, manages the Portfolio." Exh. PCM-14 at p. PCM-00148; Exh. PCM-16 at p. PCM-00169; Exh. PCM-17 at p. PCM-00191; Exh. PCM-18 at p. PCM-00213; Exh. PCM-20 at p. PCM-00236; Exh. PCM-21 at p. PCM-00257; Exh. PCM-22 at p. PCM-00280. PJIGX prospectuses dated from January 29, 1990 through January 29, 1991 state that "Marijo Goldstein is co-manager of the Portfolio" (Exh. PCM-14 at p. PCM-00148; Exh. PCM-16 at p. PCM-00170; Exh. PCM-17 at p. PCM-00192), and PJIGX prospectuses dated from January 28, 1992 through January 28, 1993 state that "Marijo Goldstein, Vice President of the Advisor and of the Investment Trust, is co-manager of the Portfolio." ⁵¹ Exh. PCM-18 at p. PCM-00213; Exh. PCM-20 at p. PCM-00236; Exh. PCM-21 at p. PCM-00258; Exh. PCM-22 at p. PCM-00280. PJIGX's March 31, 1989 semi-annual report to shareholders characterizes Bruntjen as the Fund "manager" and Goldstein as the Fund "assistant portfolio manager." Exh. PCM-41 at p. PCM-00668. Subsequent annual/semi-annual reports to shareholders systematically⁵² characterize both Bruntjen and Goldstein as Fund "co-manager." Exh. PCM-42 at pp. PCM-00679-80; Exh. PCM-43 at p. PCM-00689; Exh. PCM-44 at pp. PCM-00700-01; Exh. PCM-45 at p. PCM-00710; Exh. PCM-46 at pp. PCM-00721-22; Exh. PCM-47 at p. PCM-00734. Bruntjen is designated "Senior Vice President" throughout PJIGX's annual/semi-annual reports; Goldstein is designated "Vice President" beginning with the March 31, 1991 Semi-Annual Report. Exh. PCM-45 at p. PCM-00718. I find and conclude that while PJIGX prospectuses and annual/semi-annual reports to shareholders reflect Bruntjen primacy over Goldstein in the PJIGX management hierarchy, they also imply that Goldstein had a significant Fund management role.⁵³

Other record evidence indicates that Goldstein's expertise, responsibility and authority with respect to Fund investments, disclosures and related management activities were in fact significant. Goldstein's own testimony demonstrates substantial expertise concerning CMO derivative securities. Tr. 262-322, 3737-38. Bruntjen's testimony confirms this expertise. Tr. 1379-82. In addition, both Bruntjen and Goldstein acknowledged that Goldstein shared material Fund management responsibilities with Bruntjen- including certain investment decisions, securities transactions, disclosure/marketing materials input/review and participation in sales meetings. Tr. 231-32, 260-61, 318-47, 1382-84, 1389-92, 1408, 3734-55. Goldstein also was regarded and consulted as PJIGX's "co-manager" (along with Bruntjen) within PCM itself. Exh. DIV-237 at pp. 27-28; Tr. 344-45, 3311, 4326. Goldstein, moreover, was the only PJIGX assistant portfolio manager (among at least three) to receive a "co-manager" designation.

I am acutely mindful of the need to look beyond titles. But while Goldstein's designation as Fund "co-manager" indisputably exaggerated her significance vis-a-vis Bruntjen, it is equally indisputable that the designation accurately reflected her position, authority, expertise and responsibilities within the PJIGX management hierarchy to a considerable degree. She was Bruntjen's Fund management lieutenant, and her "co-manager" designation reflected the fact that she shared substantial management authority and responsibilities with him. Moreover, Goldstein was perceived to share substantial management authority, expertise and responsibilities with Bruntjen- both within PCM and in the external securities market/industry. The pertinent inquiry is whether this perception, coupled with Goldstein's actual authority, expertise, responsibilities and conduct, render her liable for any violation of Section 17(a).

The record conclusively establishes that Bruntjen was predominately, if not exclusively, responsible for formulating and implementing PJIGX's investment strategy. Exh. PCM-288 at p. PCM-03756; Exh. PCM-294; Exh. PCM-543 at p. PCM-11022; Tr. 1383-84, 2043, 2219, 2839-40, 4026-27. I therefore find and conclude that Goldstein did not substantially participate in formulating or implementing the Fund's investment strategy and, as a consequence, may not be held liable under Section 17(a) for any material deviation from PJIGX's stated investment objective.

Whether Goldstein may be held liable under Section 17(a) for failing to disclose a material deviation from PJIGX's stated investment objective is more problematic. Such a failure may consist of an affirmative misrepresentation or an omission, the latter of which implies a duty to disclose. Goldstein contends that her actual portfolio management expertise, authority and responsibilities did not impose a duty to disclose and, in any event, she reasonably believed that Bruntjen's strategy for achieving the Fund's stated investment objective was appropriate. I reject Goldstein's contention outright insofar as it is predicated on her "co-manager" disclaimer. I find and conclude that Goldstein had sufficient actual Fund management authority/responsibility to impose a general duty to disclose any material deviation from PJIGX's stated investment objective of which she knew or reasonably should have known. But while I have no doubt that Bruntjen was sophisticated enough in the interplay among the esoteric risk characteristics (duration, negative convexity, leverage) of a portfolio dominated by CMO derivative securities to know whether PJIGX's overall investment strategy/portfolio composition had become materially inconsistent with the Fund's stated investment objective, the record does not conclusively establish that Goldstein was sophisticated enough to make that determination. Moreover, the record indicates that it was reasonable for Goldstein to rely on Bruntjen in this regard. He was an industry-acknowledged CMO "wizard" (Exh. PCM-288 at pp. PCM-03755-56) with decades of experience; Goldstein was not.

Turning to specific disclosures/representations, I again find and conclude that Goldstein's "co-manager" position in itself imposed on her a general duty to ensure that material Fund disclosures/representations were accurate and complete insofar as it was within her authority and expertise to do so. The record, moreover, confirms that Goldstein actually participated in the preparation, review and issuance of PJIGX prospectuses, summaries, annual/semi-annual reports and letters to shareholders. Tr. 1421-26.⁵⁴ The record also indicates that Goldstein had authority equal to Bruntjen with respect to the descriptive terminology used in Fund disclosures and marketing materials. Id. at 1423. It follows that Goldstein also had a specific duty to ensure that material Fund disclosures/representations were accurate and complete insofar as it was within her expertise and "co-manager" responsibilities to do so. See, e.g., In Re Union Carbide Corp. Consumer Products Business Securities Litigation., 666 F.Supp. 547, 560-63 (S.D.N.Y. 1987).

The actual degree of Goldstein's participation and substantive input with respect to PJIGX prospectuses is indeterminate. The record does not establish that she was responsible for composing or drafting prospectus language, or that she in fact composed or drafted any such language. Although the record indicates that Goldstein reviewed at least some prospectus language, it does not establish the parameters or extent of her review, let alone whether she actually commented on the language or formally approved it. The tenuous nexus between Goldstein and PJIGX prospectus disclosures does not satisfy the "substantial participation" standard, and compels me to find and conclude that she cannot be held primarily liable under Section 17(a) for any Fund prospectus disclosures or omissions.

The record contains conflicting evidence with respect to Goldstein's involvement with PJIGX marketing materials. It contains various annual/semi-annual report and Fund summary "project files" reflecting no Goldstein participation whatsoever.⁵⁵ Exh. PCM-175; Exh. PCM-176; Exh. PCM-178; Exh. PCM-179; Exh. PCM-180; Exh. PCM-181; Exh. PCM-182. It also contains testimony from PCM managers of shareholder and broker/dealer communications indicating that Goldstein was not primarily responsible for the content of Fund summaries, annual/semi-annual reports and letters to shareholders. Tr. 3545-49, 4312-20. This evidence suggests that Goldstein's participation was not substantial. Nevertheless, Bruntjen testified that Goldstein participated with him⁵⁶ in the preparation, review and revision of Fund summaries, annual/semi-annual reports and letters to shareholders. Id. at 1421-25. And while Goldstein generally denies such participation (Id. at 347-51, 3742-45), she and Bruntjen systematically are featured with equal prominence-- through pictures, as well as "co-manager" designations and signatures-- in these materials beginning with the Fund's September 30, 1990 Annual Report. Exh. PCM-44 at pp. PCM-00700-01. This evidence suggests affirmative Goldstein input, review and approval-- strong indicia of substantial participation. On balance, I find and conclude that Bruntjen was primarily responsible for the content of PJIGX summaries, annual/semi-annual reports and letters to shareholders, but Goldstein substantially participated in at least the review and issuance of those materials. It follows that Goldstein may be held liable under Section 17(a) for material Fund summary, annual/semi-annual report or letter to shareholders misrepresentations or omissions if she did not exercise the standard of care appropriate to her actual authority, responsibilities and expertise.

The same holds true for material misrepresentations or omissions in the sales presentation context.⁵⁷ Bruntjen testified that one of the Fund co-manager responsibilities Goldstein shared with him was to meet with existing and prospective clients. Tr. 1389. He also confirmed that Goldstein actually participated in such meetings with both clients and brokers. Id. at 1392-94. Goldstein admitted that she personally participated in presentations to clients as well as brokers. Id. at 332, 340.

In light of Goldstein's actual Fund management authority, responsibilities and expertise vis-a-vis Bruntjen, I deem it inappropriate to hold her liable under Section 17(a) for any reckless PJIGX omission or misrepresentation concerning Fund composition, duration, performance, weighted average life, diversification or leverage. Bruntjen assumed primary responsibility for such omissions/misrepresentations, and I will not find or conclude otherwise. This fact notwithstanding, Goldstein cannot legitimately claim to bear no responsibility whatsoever in this regard. She was not Bruntjen's administrative assistant; she was PJIGX's co-manager. This designation alone imposed some degree of accountability on Goldstein. So, too, did her actual Fund management authority, responsibilities and expertise. Goldstein's accountability in this regard should not be over-emphasized. At a minimum, however, she clearly either knew or should have known that it was materially misleading: (1) to disclose/represent the Fund's implied duration without at least adding a caveat concerning its limited utility as a PJIGX risk/volatility indicator; and (2) to characterize PJIGX's sale when-issued/dollar roll program as a risk/volatility hedge. The record is devoid of any evidence that Goldstein ever so much as expressed these concerns to Bruntjen or anyone else at PCM, let alone in the context of the sales/broker presentations in which she actively participated. In this, I find and conclude that Goldstein deviated from the minimum standard of care imposed by her position, authority, responsibilities and expertise, and therefore was negligent. This negligence violated Sections 17(a)(2) and 17(a)(3).

(e) Summary of Rulings

28 U.S.C. § 2462 establishes a five year statute of limitations for imposing sanctions/ penalties pursuant to Section 17(a), and Division therefore may not seek sanctions or penalties against PCM or Goldstein for any alleged violations of Section 17(a) which occurred prior to July 28, 1993. Division is not precluded from seeking cease and desist orders for alleged violations of Section 17(a) which occurred prior to July 28, 1993. I expressly find and conclude that any Section 17(a) violation(s) addressed herein are part of a continuing and systematic course of conduct, a material part of which occurred after July 28, 1993.

Although PJIGX never deviated from the "high level of current income" component of its stated investment objective, I find and conclude that the Fund materially deviated from the "consistent with preservation of capital" component of the stated investment objective.⁵⁸ I further find and conclude that this deviation was inadequately disclosed. PJIGX portfolio composition, duration, convexity and leverage all changed dramatically between late 1991 and early 1994. These changes were intricately interrelated. Changes in portfolio composition drove changes in duration and convexity. Leverage compounded the situation. All of these changes reinforced one another, compositely increasing Fund risk and volatility. Whether any of them alone was sufficiently fundamental to warrant particularized disclosure need not be addressed in this context: in combination, they certainly had profound material impacts on Fund performance and volatility, both of which warranted more meaningful disclosures than the Fund made. I find and conclude that at least at all times since March 1993, PJIGX prospectuses, annual/semi-annual reports and marketing materials/presentations specifically should have disclosed in general narrative terms the facts that: (1) PJIGX was predominantly invested in CMO derivative securities; (2) the Fund's superior performance was primarily attributable to those securities; and (3) the proportion of CMO derivative securities contained in the PJIGX portfolio significantly increased portfolio volatility. I further find and conclude that PJIGX's failure to make such disclosures prior to the Fund's collapse⁵⁹ was, at a minimum, a highly unreasonable departure from standards of ordinary care, and therefore violated Section 17(a).

In addition, PJIGX omitted or misrepresented a number of discrete material facts concerning Fund composition, duration, performance, weighted average life, diversification and leverage. Although the Fund was not required to calculate/disclose effective duration, implied duration undeniably devolved into a markedly less meaningful volatility indicator as the portfolio's proportion of CMO derivative securities swelled over time. Since Bruntjen and Goldstein either knew or should have known this fact, it was misleading for PCM⁶⁰ to continue to disclose implied duration without at least adding a caveat concerning implied duration's limited utility as a volatility indicator for a portfolio dominated by CMO derivative securities. PJIGX's overwhelming proportion of CMO derivative securities also rendered it misleading for the Fund to continue: (1) to use the Merrill Lynch 3-5 Year Treasury Bond Index as a benchmark of Fund performance; and (2) to emphasize weighted average portfolio life as an appropriate risk/volatility indicator-- particularly since the implications of excluding inverse floating CMOs from the portfolio's weighted average life calculus were not disclosed. Finally, it was affirmatively misleading to characterize Bruntjen's cash flow management "diversification" and Fund leverage as risk/volatility hedges. I find and conclude there was a substantial likelihood that a reasonable investor would have considered each of the preceding omissions/misrepresentations important in making PJIGX investment decisions and would have viewed any of them as significantly altering the total mix of available information. I further find and conclude that each constituted a highly unreasonable departure from standards of ordinary care, and violated Section 17(a) as a consequence.⁶¹

Having been charged with primary violations of Section 17(a), Goldstein either must have made or substantially participated in the specified violations. Although Goldstein's Fund "co-manager" designation exaggerated her significance vis-a-vis Bruntjen, the designation generally reflected her true position, authority, expertise and responsibilities within the PJIGX management hierarchy. Nevertheless, Goldstein did not substantially participate in formulating or implementing PJIGX's investment strategy, and consequently may not be held primarily liable under Section 17(a) for any material deviation from the Fund's stated investment objective. Neither may she be held primarily liable under Section 17(a) for failing to disclose a material deviation from the Fund's stated investment objective or for PJIGX's failure to make the three narrative disclosures enumerated supra. Goldstein had sufficient actual Fund management authority/responsibility to impose a general duty to disclose any material deviation of which she knew or reasonably should have known, but the record does not conclusively establish that she knew/reasonably should have known the Fund had materially deviated from its stated investment objective.

Goldstein's "co-manager" position imposed a general duty to ensure that material Fund disclosures/representations were accurate and complete insofar as it was within her authority and expertise to do so. Her "co-manager" responsibilities also imposed a specific duty to ensure that material Fund disclosures/representations were accurate and complete insofar as it was within her expertise to do so. Goldstein did not substantially participate in formulating or making PJIGX prospectus disclosures, and therefore cannot be held primarily liable under Section 17(a) for any specific Fund prospectus misrepresentations or omissions. Although Bruntjen was primarily responsible for the content of PJIGX summaries, annual/semi-annual reports and letters to shareholders, Goldstein substantially participated in at least the review and issuance of those materials. As a general proposition, Goldstein may be held primarily liable under Section 17(a) for material Fund summary, annual/semi-annual report or letter to shareholders misrepresentations or omissions if she did not exercise the standard of care appropriate to her actual authority, responsibilities and expertise. She also may be held primarily liable under Section 17(a) for material misrepresentations or omissions in the sales presentation context.

Goldstein's actual Fund management authority, responsibilities and expertise vis-a-vis Bruntjen render it inappropriate to hold her liable under Section 17(a) for any reckless PJIGX omissions/misrepresentations concerning Fund composition, duration, performance, weighted average life, diversification or leverage. Goldstein nevertheless cannot legitimately claim to bear no responsibility whatsoever in this regard. She was PJIGX's co-manager. This designation, coupled with Goldstein's actual Fund management authority, responsibilities and expertise, imposed a minimum duty on her to attempt to prevent the Fund from making misleading disclosures or representations concerning implied duration's utility as a PJIGX risk/volatility indicator and the Fund's sale when-issued/dollar roll program qua risk/volatility hedge. Goldstein's failure to make any such attempt renders her primarily liable for negligence under Sections 17(a)(2) and 17(a)(3).

B. Possible Violations of Section 10(b) of the Exchange Act and Rule 10b-5 Thereunder Based on Inadequate Risk Disclosure

The elements for alleged violations of Section 10(b) of the Exchange Act and Rule 10b-5 thereunder are essentially identical to the elements for alleged violations of Section 17(a) of the Securities Act. Any alleged violation(s) of Section 10(b) and Rule 10b-5 based on inadequate risk disclosure therefore are resolved in accordance with the analyses and determinations made in Section II-A of this Initial Decision.

C. Possible Violations of Section 13(a)(3) of the Investment Company Act Based on Inadequate Risk Disclosure

Section 13(a)(3) of the Investment Company Act prohibits any registered investment company from deviating from its stated investment policies if a change in those policies requires shareholder approval. 15 U.S.C. § 80a-13(a)(3). PJIGX was a registered investment company whose stated investment objective could not be changed without shareholder approval.

1. Party Positions

Division alleges that PCM-- through Bruntjen and Goldstein-- aided, abetted and caused PJIGX to violate Section 13(a)(3) by deviating from the Fund's stated investment objective without shareholder approval through their day-to-day management of PJIGX assets. Exh. PCM-1 at p. PCM-00005 (¶ T). PCM contends that Division at most established a change in PJIGX investment techniques or strategy, and this provides inadequate basis to hold PCM liable pursuant to Section 13(a)(3). PCM maintains that the Company reasonably believed PJIGX's investment strategy would enable the Fund to meet its stated investment objectives, arguing that the logical implication of Division's position is that Section 13(a)(3) liability would attach any time an investment strategy failed. Goldstein endorses PCM's arguments. In addition, Goldstein maintains she cannot be held liable pursuant to Section 13(a)(3) because she did not substantially participate in any PJIGX deviation from the stated investment objective.

2. Findings of Fact/Conclusions of Law

I previously found and concluded that while PJIGX never deviated from the "high level of current income" component of its stated investment objective, the Fund materially deviated from the "consistent with preservation of capital" component of that objective. I based that finding/ conclusion on a determination that the deviation was clearly distinguishable from changes in any underlying technique or strategy used to meet the objective in that the deviation was pervasive. PJIGX's intricately interrelated portfolio composition, duration, convexity and leverage all were changed dramatically between late 1991 and early 1994. The changes reinforced one another, considerably increasing overall Fund risk and volatility. In accordance with the analyses and determinations made in Section II-A of this Initial Decision, I find and conclude that the overall increase in PJIGX's risk/volatility profile constituted a material deviation from the Fund's stated investment objective which did not receive shareholder approval in violation of Section 13(a)(3).

Although I am reluctant to expand this discussion, PCM's insistence that it cannot be held responsible for portfolio management strategy and technique warrants further comment. The body of evidence before me consistently indicates that PJIGX fell victim to a form of myopia, focusing on one component of the stated investment objective (high income) to the progressive exclusion of the other (capital preservation). To illustrate, while numerous PCM witnesses-- including Bruntjen, PJIGX's Chairman of the Board of Directors and Mr. Piper himself-- addressed this issue, each of them concentrated on Fund performance. Tr. 1435-36 (Bruntjen), 3083-91, 3096 (Ellis), 4884, 4891, 4898, 4919-20 (Piper). None so much as mentioned preservation of capital. PCM's briefs exhibit the same deficiency. PCM IB at pp.18-19; PCM RB at p. 37. Contrary to PCM's position, Division has not confused PJIGX portfolio management strategy and technique with a deviation from the Fund's stated investment objective. Division merely recognizes that PJIGX portfolio management strategies and techniques promoted the "high level of current income" component of PJIGX's stated investment objective at the expense of the "consistent with preservation of capital" component, thereby subverting the Fund's overall investment objective. The fact that PCM remains unable to recognize this consequence provides enduring testament to PJIGX's disproportionate emphasis on Fund performance throughout the period at issue.

The elements required to hold Goldstein liable for aiding and abetting PJIGX's violation of Section 13(a)(3) are: (1) knowing and substantial assistance in the violation; and (2) general awareness that she was assisting in an improper overall activity. See, e.g., Richard D. Chema, Admin. Proc. 3-8508 at *64-65 (August 24, 1995). Goldstein satisfies neither of these requirements. I found and concluded in Sections II-A(2)(d) and (e), supra, that Goldstein did not substantially participate in formulating or implementing PJIGX investment strategy. I also found and concluded that the record was not dispositive with respect to whether Goldstein was sophisticated enough in the interplay among PJIGX's esoteric risk characteristics to know the Fund's overall investment strategy/portfolio composition had become materially inconsistent with the stated investment objective. It follows that Goldstein may not be held liable for aiding and abetting PJIGX's primary violation of Section 13(a)(3).

D. Possib