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Adviser Faces Industry Death Penalty and Criminal Prosecution for Ignoring Custody Rule

An adviser agreed to shutter the firm and close its private fund and pay over $1.1 Million in disgorgement and interest for lying to clients about the safety of their assets.  The firm’s principal has also been barred from the industry and faces criminal prosecution.  According to the SEC, the firm violated the custody rule (206(4)-2) by failing to deliver audited fund financial statements and then lying to clients about the fund’s assets and pendency of the audit.  The SEC alleges that the respondents misappropriated client assets for personal and firm expenses and lied to clients with false account statements, tax documents and Form ADV.  The SEC also charges the respondents with securities fraud.

It is a HUGE warning sign when a fund manager fails to deliver audited financial statements, regardless of the ostensible reasons for delay.  What may be most shocking is that this firm engaged in unlawful conduct for at least 11 years until the SEC uncovered wrongdoing during a routine OCIE exam in 2018. 

SEC Alleges Short Seller Disseminated False Negative Information

 

The SEC has commenced enforcement proceedings against a hedge fund manager for taking short positions in a public company and then engaging in a negative and public relations campaign to drive down the company’s stock price.  The hedge fund manager used interviews, social media and published research reports to make false claims about the company’s product and financial situation.  According to the SEC, the false negative information had the intended effect of lowering the company’s stock price, which fell 34% during his negative campaign.  The SEC charges violations of the anti-fraud rules.

OUR TAKE:  We suspect that many public companies are cheering this action because the SEC seeks to chill a short seller from disseminating negative information for financial gain.  In this case, the SEC maintains that the hedge fund made false factual statements.  This type of case will not help prevent negative opinions based on accurate facts.

Fund Manager Created On-Line Aliases and Marketed False Performance

The SEC barred a private fund manager and ordered him to pay nearly $3 Million in disgorgement for creating fake identities and performance track record.  The SEC alleges that the respondent created on-line doppelgangers and hired an internet-based search engine manipulator to fabricate search results to make it appear that his firm was managed by several legitimate investment management professionals.  Instead, the respondent, who had a criminal background, was the sole owner/operator.  The SEC also accused the fund manager of supplying Morningstar with false performance data and history so that the fund could secure a 5-star rating.  In addition to the SEC penalties, the fund manager is serving a 60-month prison sentence.

OUR TAKE: If you are an investor or an adviser that recommends third party managers, you need to conduct significant due diligence, which necessarily goes beyond a web search and a Morningstar rating.  As this case shows, a fraudster can manipulate internet results and fool databases.

https://www.sec.gov/litigation/admin/2018/33-10461.pdf

Court Enters Judgment against Fund Adviser for Resume Inflation

The United States District Court for the District of Colorado entered a default judgment against a state-registered fund manager for misrepresenting his experience and credentials, among other false statements.  As part of his fund-raising efforts, the fund manager claimed to have extensive portfolio management experience including successful management of several large private funds.  The SEC alleges that, although the defendant worked for the organizations referenced, he never served as a portfolio manager and generally acted in minor consulting roles unrelated to portfolio management.  Additionally, the SEC charges that the defendant made unsubstantiated performance claims.

OUR TAKE: When you engage in resume inflation to raise money, you have engaged in securities fraud.  You also run the risk of a criminal prosecution under 10b-5.