Morgan Keegan Manager Tumbled From Subprime Heights

Five years ago, James C. Kelsoe, Jr. was a rising star at Morgan Keegan & Co., managing funds whose performances were the envy of bond investors. On Wednesday, he agreed to a lifetime ban from the securities industry.

Kelsoe, who at one time appeared on CNBC and was quoted in various financial media, was accused by the Securities and Exchange Commission, the Financial Industry Regulatory Authority and five state regulators of defrauding investors by deliberately inflating the value of subprime mortgage-backed securities in funds he managed. Without admitting or denying the charges, he agreed to a $500,000 penalty, a stiff fine for an individual charged with alleged misconduct by regulators.

A lawyer for Kelsoe couldn't immediately be reached for comment.

The charges were part of a broader $200 million settlement that Morgan Keegan, a unit of Regions Financial Corp. (RF), reached with regulators. The brokerage agreed to pay the fine without admitting or denying the charges.

Kelsoe's fall from grace has damaged Morgan Keegan's reputation, as the brokerage faced intense scrutiny since the financial crisis from state and federal regulators. The company also faced as many as a thousand arbitration claims by investors who lost money in bond funds. The settlement Wednesday seeks to recoup money lost by investors in the bond funds.

Regions also on Wednesday said it's putting Morgan Keegan up for sale in a bid to raise more capital and repay the bank's crisis-era government aid.

Kelsoe, who hasn't been registered with Finra since November 2008, rose to prominence with the booming returns of the RMK Select High Income Fund, one of several funds he managed that invested heavily in mortgage-backed securities. The Wall Street Journal previously reported that at the end of 2005, the fund posted a five-year average annual return of nearly 14%, citing Morningstar data. The sharp gain bested the returns of all U.S. high-yield funds and the Dow Jones Industrial Average.

In 2002, Kelsoe told Bloomberg News, "I have several lakes to go fishing in," referring to his investment approach of diversification during a time of economic turbulence.

But Kelsoe was hit hard by the downturn in the housing market. By August 2007, the same High Income Fund was a laggard, coming in dead last among its peers for the year and on a five year basis, Morningstar said. During the 12 months through April 30, 2008, three bond funds managed by Kelsoe plunged nearly 60%.

There was more to it than bad performance.

On Wednesday, the SEC and Finra alleged that Morgan Keegan, Morgan Asset Management, Kelsoe and the brokerage's former comptroller Joseph Thompson Weller, manipulated the valuation of subprime mortgage-backed securities in five funds from January 2007 to July 2007. Specifically, the SEC's order found that Kelsoe instructed Morgan Keegan's fund-accounting department to make arbitrary "price adjustments" to the fair values of certain portfolio securities.

The SEC said Kelsoe "fraudulently prevented a reduction in the net asset value of the funds that should otherwise have occurred as a result of the deterioration in the subprime securities market in 2007."

In a letter to clients posted on Morgan Keegan's website, the brokerage's Chief Executive John Carson, Jr. said "the settlement pertained to a mutual fund business that was sold more than three years ago. After years of litigation, it was simply time to put this behind us."

-By Brett Philbin, Dow Jones Newswires; 212-416-2173; brett.philbin@dowjones.com

(Shira Ovide and Suzanne Barlyn contributed to this report.)

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