PIMCO agreed yesterday to pay $19.8 million to settle enforcement action by the SEC for misleading disclosures about sources of fund performance and defects in PIMCO’s fair value process.

PIMCO was able to outperform benchmarks for a new ETF by buying “odd lot” private label MBS bonds for the fund and marking them using “round lot” prices. Odd lots in that market, as opposed to round lots, are those bonds with lower face value. During the relevant period odd lots in that market traded at a “significant discount” to round lots. PIMCO bought odd lots for the fund but used values for round lots from its pricing vendor to mark these purchases. This increased the fund’s stated performance and NAV.

PIMCO’s investor-facing “Monthly Commentaries,” however, did not explain that this strategy was the reason for the fund’s performance and instead seemed to attribute performance to the private label MBS sector. The fund’s annual report, which was prepared by PIMCO, suffered from the same defect. These disclosures triggered investor-facing antifraud Rule 206(4)-8. PIMCO was also found to have violated ’40 Act, Section 34(b) because it was “responsible for the inclusion of” misleading statements in the fund’s annual report. The incorrect valuation of fund assets triggered another ’40 Act violation — SEC found PIMCO to have caused the fund’s violations of Rule 22c-1 since the fund executed transactions in its redeemable securities at prices based on an overstated NAV.

PIMCO’s pricing process was also found to violate Rule 206(4)-7: “By vesting the responsibility with its traders for determining when to report to PIMCO’s Pricing Committee any price that did not reasonably reflect market value without sufficient objective checks or guidance for elevating pricing issues to the Pricing Committee or Valuation Committee, PIMCO’s pricing policy was not reasonably designed to prevent valuation-related violations.”