SEC Division of Investment Management staff letter: Kidder Peabody Investment Trust

MAY 1 4 1993

Our Ref. No. 93-117-CC
Kidder Peabody
RESPONSE OF THE OFFICE OF CHIEF COUNSEL Investment Trust DIVISION OF INVESTMENT MAAGEMENT File No. 811-6292 We would not recommend any enforcement action to the

commission under section 12 (d) (3) of the Investment Company Act

of 1940 (the "1940 Act") if Kidder, Peabody Asset Allocation Fund

(the "Fund"), a series of Kidder, Peabody Investment Trust, a

registered investment company, purchases common stock of General

Electric Company ("GE") as described in your letter..l Our posi tion is based on the facts and representations stated in your letter, and your representation that Kidder Peabody's revenues

amounted to 7.05% of GE' s consolidated revenues in 1992, 6.13% in

1991, and 5.6% in 1990. Z/ You should note that different facts

or representations may require a different conclusion. Moreover,

this response expresses the Division's position on enforcement

action only and does not purport to express any legal conclusions

on the questions presented.

%-~
Kevin M. £roadwater
Attorney
.l See Dreyfus Index Fund (pub. avail. Mar. 31, 1992); IBM

Mutual Funds, Inc. (pub. avail. May 18, 1990).

Z/ Telephone conversation between Jon S. Rand and Kevin M.

Broadwater, dated May 7, 1993.

WIIlIE FARR & GALGHER Jon S. Rand :'ew York Waihingon. DC

London
Paris
:..i;ict ion ~ ~~)L~)-- 1940 Act/Section l2(d)(3)

and Rule 12d3-1

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March 8, 1993
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VIA COURIER

j,4l Thomas S. Harman, Esq.

Chief Counsel

Di vision of Investment Management

Securi ties and Exchange Commission

Judiciary Plaza

450 Fifth Street, N.W.

Washington, D.C. 20549

Dear Mr. Harman:

On behalf of Kidder, Peabody Investment Trust, a

Massachusetts business trust (the "Trust"), we respectfully

request the assurance of the staff of the Division of

Investment Management (the "Staff") of the Securities and

Exchange Commission (the "Commission") that it will not

recommend any enforcement action to the Commission under

Section 12(d) (3) of the Investment Company Act of 1940, as

amended (the "1940 Act"), or Rule 12d3-1 under the 1940 Act, if

Kidder, Peabody Asset Allocation Fund, a series of the Trust

(the "Fund"), invests in shares of common stock of General

Electric Company ("GE") and effects brokerage transactions

through Kidder, Peabody & Co., Incorporated ("Kidder, Peabody")

in the manner described below.

Kidder, Peabody, a broker-dealer registered under the Securi ties Exchange Act of 1934 (the "Exchange Act"), serves as the distributor of the Fund' s shares. Kidder Peabody Asset

Management, Inc. ("KPAM"), a wholly-owned SUbsidiary of Kidder,

Peabody, serves as the Fund' s manager and investment adviser

and is a registered investment adviser under the' Investment Advisers Act of 1940, as amended. General Electric Capital Services, Inc., a wholly-owned subsidiary of GE, owns all of

the outstanding stock of Kidder, Peabody Group Inc., the parent

company of Kidder, Peabody.

One eiúcorp Center Telex: RC\ 2337ilO 153 East 53rd Siri ReA 23!l8115 :-ew Yori. l'Y LOO22..lL) "l 12 7679 2J2 935 800 l:ix: 212 -;:;22991

Thomas S. Harman, Esq.

March 8, 1993

Page -2
3682P
Except as described immediately below, this letter and

the assurance we request is sUbstantially similar to that

granted in Letter re Drevfus Index Fund: Peoples Index Fund,

Inc.: Drevfus Life and Annui tv Index Fund, Inc.: Staaecoach

Funds, Inc. -- Corporate Stock Fund and Asset Allocation Fund:

and Overland Express Funds, Inc. -- Asset Allocation Fund

(collectively, the "Dreyfus Funds") (pub. avail. March 31,

1992) (the "Dreyfus Letter"). We understand from a recent

conversation with Mr. Lawrence Stoller of your office that the

Staff has determined not to entertain additional no-action

letters regarding the issue addressed in the Dreyfus Letter

absent novel circumstances or issues. The Trust proposes to

rely on the Dreyfus Letter but requests the Staff's assurances

wi th respect to non-compliance with a condition expressed in the Dreyfus Letter -- that brokerage transactions not be

effected through an affiliate of the Dreyfus Funds' investment

adviser -- that appears not to be directly germane to the

issues presented in that letter. As described below, the Trust

believes that non-compliance with that condition would be

consistent with the principals enunciated in that letter.

I. Backaround

A. Investment obiectives and policies of the Fund As described in the Fund's prospectus, the Fund

follows an asset allocation strategy whereby KPAM allocates

investments among three asset classes: common stocks and

derivative instruments relating thereto (the "Stock Segment"),

30-day U.S. Treasury bills (the "Cash Segment"), and five-year

U. S. Treasury Notes and deri vati ve instruments relating thereto

(the "Note Segment" and, together with the Stock Segment and

the Cash Segment, the "Segments").

Investments allocated to the Stock Segment are not

managed in the traditional sense by analyzing economic,

financial and market conditions. Instead, KPAM currently

selects stocks for investment by the Fund through the purchase

of all of the stocks (other than GE stock) represented in the

Standard & Poor's 500 Composite Stock Price Index (the "S&P

500") in approximately the same proportion as they are

represented in the S&P 500 with the obj ecti ve of matching, before deduction of operating expenses, the investment performance of the S&P 500. The Fund allocates its assets among the Segments in

accordance with an asset allocation model developed by Kidder,

Peabody's Quanti tati ve Research Group (the "Allocation Model") . The asset allocation mix for the Fund is determined

Thomas S. Harman, Esq.

March 8, 1993

Page -3
3682P by KPAM at any given time on the basis of the published

recommendations of the Allocation Model, except as described

below, which are determined in light of a quanti tati ve assessment of the expected performance of the Segments.

The Fund's assets are reallocated among the Segments

based on the Allocation Model. If no reallocation is mandated,

on the first business day of each month, any material amounts

in each Segment in excess of the amount mandated by the

Allocation Model resulting from appreciation or receipt of

dividends, distributions, interest payments and proceeds from

securities maturing are reallocated (or ~rebalanced") to the

extent practicable among the Segments so as to reestablish the

recommended allocation among the Segments. Cash inflows to the

Fund during a month are invested in, and cash outflows from the

Fund during a month are derived from dispositions of assets in,

each Segment on a pro rata basis. In order to manage the

Fund's portfolio most effectively, cash flows into and out of

the Stock Segment occuring between reallocations or monthly

rebalancings are managed to the extent practicable through the

use of stock index options, stock index futures contracts and

options on stock index futures contracts. Similarly, cash

flows into and out of the Note Segment occuring between

reallocations or monthly rebalancings are managed to the extent

practicable through the use of five-year U. S. Treasury Note

futures contracts and options thereon.

The Fund deviates from the published recommendations

of the Allocation Model only to the extent necessary (1) to

maintain a limited amount of assets (not expected to exceed

2.00% of its total assets) in the Cash Segment in order to have

highly liquid short-term securities avai lable to pay Fund.

operating expenses and dividends and distributions on its

shares and to meet anticipated redemptions of its shares and

(2) to qualify as a regulated investment company for federal

income tax purposes.

B. ~
GE is one of the largest and most diversified

industrial corporations in the world. It has engaged in the

development, manufacture, and marketing and servicing of a wide

variety of products for the generation, transmission,

distribution, control and utilization of electricity including

a wide variety of high technology products including products

used in aerospace, defense and medical diagnostic

applications. Through wholly-owned subsidiaries, GE engages in

Thomas S. Harman, Esq.

March 8, 1993

Page -4
3682P a broad spectrum of financial services, provides network and

cable television services, operates television stations and

furnishes domestic satellite communications. As of February

26, 1993, GE stock represented approximately 2.34% of the S&P

500 and, on a percentage basis, occupied the fourth largest

posi tion in the S&P 500.

C. Current policy of the Fund regarding the purchase of
GE stock
The Fund currently does not purchase GE stock, but

rather attempts to replicate the influence of GE stock on the

performance of the S&P 500 by investing a greater amount of its

assets in other stocks in the S&P 500, as well as other stocks

not represented in the S&P 500, with simi lar industry and

investment characteristics to those of GE stock. However i due

to the size and diversity of GE, the Fund has discovered that

it is quite difficult, if not impossible, to structure a

portfolio that would match, before deduction of operating

expenses, the investment performance of the S&P 500 without

purchasing GE stock.
Since the Fund's commencement of operations on July

21, 1992, its portfolio has been committed substantially

entirely to the Stock Segment. From that date through February

26, 1993, the performance of the Stock Segment has deviated

from that of the S&P 500 by .47%, of which .20% is attributable

to the difference between (1) the performance of GE stock and

its effect on that of the S&P 500 and (2) the aggregate

performance of the stocks purchased in an attempt to replicate

the influence of GE stock on the performance of the S&P 500.

The Trust regards this deviation as a significant impediment to

the Fund's pursuit'of the objective of the Stock Segment.

D. Use of brokers or dealers
KPAM selects brokers or dealers to execute securities

transactions on behalf of the Fund by seeking the best overall

te~s available. In evaluating the best overall terms

available, KPAM considers, among other things, the following

factors: the financial condition and execution capabi li ty of

the broker or dealer; the reasonableness of the commission, if

any, for the specific transaction and on a continuing basis;

and the brokerage and research services (as those terms are

defined in Section 28(e) of the Exchange Act) provided to the

Fund.

Thomas S. Harman, Esq.

March 8, 1993

Page -5
3682P
The Board of Trustees of the Trust has deter.ined

that, to the extent consistent with Section 11(a) of the

Exchange Act and Rule 11a2-2(T) thereunder and Section 17(e) of

the 1940 Act and Rule 17e-1 thereunder, transactions for the

Fund may be effected through Kidder, Peabody if, in the

judgment of KPAM, the use of Kidder, Peabody is likely to

resul t in price and execution at least as favorable to the Fund

as those obtainable through other qualified broker-dealers and

if, in the transaction, Kidder, Peabody charges the Fund a fair

and reasonable rate consistent with that charged to comparable

unaffiliated customers in similar transactions. The Fund and

Kidder, Peabody are, and intend to remain, in compliance with

Section 17(e) of the 1940 Act and Rule 17e-l thereunder and

Section 11 (a) of the Exchange Act and Rule lla2-2 (T) thereunder.

E. Proposed purchase of GE stock

The Fund proposes to purchase GE stock consistent with

its policy of investing in stocks represented in the S&P 500 i

to the extent its assets are allocated to the Stock Segment.

Thus, the Fund would purchase GE stock and would establish and

maintain its position in GE stock, like all other stocks in the

S&P 500, approximately in proportion to the percentage GE stock

represents in the S&P 500. Purchases and sales of GE stock,

therefore, would neither be volitional nor made on the basis of

any fundamental or technical analysis of, or other simi lar

specific information concerning, GE.

The Fund will not acquire GE stock except in a manner

consistent with the following conditions:

1. When investments are allocated to the Stock

Segment, the Fund will purchase GE stock and will establish and

maintain its position in GE stock approximately in proportion

to the percentage GE stock represents of the S&P 500, any

variances being due to cash flows resulting from the continuous

sale and redemption of Fund shares, or to stocks being added to

or deleted from the S&P 500, before the Fund has rebalanced its

portfolio in accordance with the new S&P 500 weightings or

reallocated its investment in accordance with new

recommendations generated by the Allocation Model.

2. KPAM will not intentionally allocate the Fund's

investments among the Segments in order to influence the price

of GE stock.

Thomas S. Harman, Esq.

March 8, 1993

Page -6
3682P
II. Discussion

Section 12 (d) (3) generally prohibits an investment
company from purchasing securities issued by a broker, dealer,

investment adviser, or underwriter. Rule 12d3-1 exempts

purchases of these securities from the prohibitions of Section

12(d)(3) under certain circumstances. However, paragraph (c)

of Rule l2d3-l prohibits an investment company from purchasing

securi ties issued by its investment adviser, promoter i

principal underwriter, or any affiliated person thereof that is

in a securities related business. Rule 12d3-1(d) (3) defines

"securities related business" as "a person who directly or

indirectly is a broker, a dealer, engaged in the business of

underwri ting, an investment adviser registered under the

Investment Advisers Act of 1940, as amended, or an investment

adviser to a registered investment company." The Staff has

expressed the view that a company may be "indirectly" a broker

or investment adviser, wi thin the meaning of "securities

related business" in subparagraph (d) (3) of Rule l2d3-l, if it

owns even a single share of the broker or adviser or of a

parent company of the broker or adviser. See Letter re The

Korea Fund, Inc. (pub. avail. May l6, 1985). Because KPAM and

Kidder, Peabody are indirect subsidiaries of GE, the Fund's

purchase of GE stock arguably may be prohibited under paragraph

(c) of Rule l2d3-l.

The Staff has taken the position in the Dreyfus Letter

that it would not recommend enforcement action to the

Commission under Section l2(d) (3) and Rule 12d3-l if the

Dreyfus Funds, which were advised and distributed by

subsidiaries of Wells Fargo & Co. ("WP"), purchased shares of

WF common stock. The Dreyfus Funds included both index funds

and funds that pursue an asset allocation strategy (the "Asset

Allocation Funds") by allocating investments based on market

condi tions among common stocks, U. S. Treasury bonds and money

market investments. The Staff's position was based on the

Dreyfus Funds' representations that (i) the purchases of WP

common stock would be non-volitional, in that the Dreyfus Funds

would neither purchase nor sell WP common stock for any reason

other than to match the performance of the S&P 500, (ii) their

investment adviser and distributor would not allocate the Asset

Allocation Funds' portfolios intentionally to influence the

market price of the WP common stock, and (iii) the Dreyfus

Funds would not execute brokerage transactions through any

subsidiary of WP.

The operation of Rule 12d3-l and the Staff's response

in the Dreyfus Letter arguably prevents the Fund from effecting

any brokerage transactions through Kidder, Peabody if the Fund

Thomas S. Harman, Esq.

March 8, 1993

Page -7
3682P invests in GE stock in the manner set forth above and in the

Dreyfus Letter, even though the Fund and Kidder, Peabody are in

compliance with all of the requirements of the 1940 Act and the

Exchange Act regarding the execution of brokerage transactions

through affiliates of an investment company or its adviser. The Staff i s position, therefore, could be interpreted as expanding the existing provisions of the 1940 Act and the

Exchange Act that specifically regulate the execution of

brokerage transactions of an investment company through an

affiliate of the company's investment adviser or principal

underwri ter .
The Trust submits that Section l7(e) of the 1940 Act

and Section ll(a) of the Exchange Act and the rules promulgated

thereunder directly and adequately regulate the execution of

brokerage transactions by an investment company through

affiliates of the investment company or its adviser and protect

against the possible conflicts that may result from an .

investment company's entering into a brokerage relationship

with an affiliate. The Trust also submits that it is neither

necessary nor appropriate to expand Section l2(d) (3) to regulate these transactions, particularly where the purchases

and sales of the stock are non-volitional and the transactions,

by assisting the Fund in pursuing its investment obj ecti ve, are

in the best interest of both the Fund and its shareholders.

Section l2 (d) (3) has been viewed by the Staff as
designed to curtail interrelationships among investment companies and brokers, dealers, underwriters and investment advisers and to eliminate, in practice, certain reciprocal

practices between investment companies and securities related

businesses. Investment Co. Act Release No. l3, 725, (1984 Transfer Binder) Fed. Sec. L. Rep. (CCH) , 83,479 at p.

86,538. For example, an investment adviser affiliated with, a brokerage firm could advise a fund to invest in the stock of

the brokerage firm or an affiliate of the brokerage firm to

reward the firm for selling fund shares or to' enhance the firm's profi tabili ty, even if the investment was not in the fund's best interests. Another example would be a broker's

advising customers to invest in a particular fund because that

fund invested in securities of the broker or an affiliate. See

ide Indeed, none of the potential conflicts of interest that

Section l2(d)(3) was designed to prevent could occur in this

case, given that purchases of common stock by the Fund are

non-volitional. In addition, the requirements of Section l7(e)

of the 1940 Act and Section 11(a) of the Exchange Act

Thomas S. Harman, Esq.

March 8, 1993

Page -8
3682P and the rules thereunder protect against any potential

conflicts resulting from an investment company's effecting

brokerage transactions through its affiliate or an affiliate

of its investment adviser. ~ United States v. Deutsch, 45l

F.2d 98, 109 (2d Cir. 1971), cert. denied, 404 U. S. 1019

(1972).
The Trust submits that the facts and circumstances

of the instant case support the same result as that reached

by the Staff in the Dreyfus Letter, without requiring the

Fund to represent that it will not effect brokerage

transactions through Kidder, Peabody or any subsidiaries of

GE.
III. Conclusion

For the reasons described above, we believe that the proposed purchases of GE stock by the 'Fund and the executjon of brokerage transactions by Kidder, Peabody, in the manner

set forth above, are consistent with Section 12 (d) (3) of the 1940 Act and are not contrary to the policies underlying the

adoption of Rule 12d3-l under the 1940 Act, and request the

Staff' s assurance that it will not recommend any enforcement

action if the Fund purchases GE stock and continues to

execute brokerage transactions through Kidder, Peabody in the,

manner described above.

---

Should members of the Staff have any questions or

comments regarding this letter, they should contact the

undersigned or Patricia E. Torrente of this office ,at (212)

935-8000.
Very yours,
Jon cc: B. Stoller, Esq.
E. Torrente, Esq.