Final answer:
Unlawful trading schemes in mutual funds can range from pyramid schemes, like the one perpetrated by Bernard Madoff, to late trading and market timing. Such activities not only defraud investors but also violate the rules and regulations set by the Securities and Exchange Commission to protect the integrity of the investment industry.
Step-by-step explanation:
Unlawful trading schemes in mutual funds can take various forms, some of which were famously highlighted during the 2008 financial crisis. A well-known case is Bernard Madoff's pyramid scheme, where he defrauded investors of at least $18 billion by paying returns to older investors using the capital of new ones, rather than legitimate investment profits. Mutual funds may also engage in other illicit practices like late trading and market timing, which can harm the fund's other investors.
For instance, late trading involves allowing investors to purchase or sell mutual fund shares after the market has closed but at the price set before the close, which is illegal. Market timing is a practice where investors make frequent, short-term trades in and out of mutual funds to exploit inefficiencies in the pricing of the fund's shares. While not always illegal, it can be contrary to a mutual fund's stated investment strategies and can increase costs for other investors.
It is important for mutual funds to abide by the legal standards and disclosures established by regulatory bodies such as the Securities and Exchange Commission (SEC), which was set up following the Federal Securities Act to regulate the investment industry and protect investors from deceptive trade practices.