Just because you do not register with the SEC does not mean that you are exempt from its antifraud rules. Section 206 applies to any statement made by an investment adviser, whether registered or unregistered, that could defraud any client or prospective client.
sponsor of a private fund agreed to disgorge its management fees for soliciting
investors without a pre-existing, substantive relationship. The SEC accuses the fund sponsor and its
principal with engaging in a public solicitation through a website and media
interviews. The respondents had filed a
Form D Notice of a private offering. The
alleged public solicitation violated Section 5 of the Securities Act, which
requires a registration statement before engaging in a public offering. During the unlawful offering, the value of the
fund declined 62%, which amounted to over $300,000. The Order notes that the principal had no
prior securities industry experience. The SEC declined to impose further
penalties because of the respondents’ financial condition.
Most securities professionals know that you cannot raise capital in a private offering unless the offeror can document a pre-existing relationship with potential investors. However, as FinTech and the securities markets intersect, the neophytes may not realize that they are tripping over the regulatory wires. This respondent is lucky that the SEC didn’t order full rescission of the offering and the refund of the amount lost.
cancelled the adviser registration of a purported internet investment adviser
because the registrant failed to launch its website in the three years since registering.
The registrant filed as an RIA under
the internet adviser exception whereby an adviser without assets under
management is eligible to register if the adviser provides advice exclusively
through an interactive website. The
adviser registered in May 2015 and still has not launched its website due to personal
events and product complexity. The
registrant argued that the internet adviser exception allows a grace period for
development. The SEC concedes that an
internet adviser may be allowed some leeway beyond 120 days (the stated time
period for new advisers), but three years is “well over any reasonable grace
period.” Additionally, the SEC places
the burden on the adviser to demonstrate “substantial efforts and progress
toward developing an interactive website” in order for the Commission to
exercise discretion to allow registration beyond the initial 120-day
This decision states for the first time that internet advisers may get more than 120 days to launch so long as they can demonstrate significant progress. The SEC will grant a grace period, but three years is too long.
An FBI sting operation ensnared an unlawful non-U.S. based securities dealer that offered securities-based swaps without registering. The Austrian-based defendant operated an internet-based platform that offered contracts for difference, which operated as securities-based swaps based on publicly-traded U.S. equity and indexes. An undercover FBI agent opened an account with nothing more than a username and a password and traded CFDs with bitcoin. The platform served as the counterparty and collected the bid-ask spreads. The SEC charges the platform with failing to register the securities offering and the platform as a broker dealer. The SEC also asserts that the CFDs were required to be traded on a registered securities exchange.
OUR TAKE: We love innovation and technology. However, when you apply new technologies to a highly regulated industry, you must follow the same rules as everybody else. Trading in securities with U.S. persons implicates the whole panoply of U.S. securities regulation including the regulation of the offering, the parties, and the venue. Also, never assume that law enforcement or the regulators won’t find you. Your competitors and clients have an interest in helping the investigators find those who are cutting regulatory corners.
The manager of a crypto hedge fund offered its investors rescission and agreed to pay a $200,000 fine for failing to comply with the securities. The SEC argues that the fund, which invested in digital assets, was “engaged in the business of investing, holding, and trading certain digital assets that were investment securities.” Consequently, the offering, which did not comply with Regulation D’s private offering safe harbors, should have been registered under the Investment Company Act. The SEC charges violations of the registration provisions of the Securities Act and the Investment Company Act as well as the antifraud rules. This case is the SEC’s first enforcement action against a crypto hedge fund manager for failing to register under the Investment Company Act.
OUR TAKE: Most significant is the SEC Enforcement Division taking the position that a fund that invests in digital assets is subject to the securities laws. It remains to be seen whether others will challenge that position in the courts.
The SEC fined and suspended the principal of a defunct investment adviser for falsely claiming SEC registration eligibility. The firm claimed that it had at least $25 Million in assets under management through 2011 and then suddenly claimed it had at least $100 Million assets under management following passage of the Dodd-Frank in 2012. The SEC asserts the firm had no basis for claiming SEC registration eligibility because it did not have the purported assets under management. The SEC also alleges violations of the custody rule arising from the firm’s role as a private fund manager.
OUR TAKE: Lying to the SEC about registration eligibility is more than mere marketing puffery. It can prompt a public enforcement action. Make sure you have records to support the claimed assets under management.
The SEC’s Director of the Division of Investment Management, Dalia Blass, questioned whether ETF index providers should continue to claim a blanket exemption from investment adviser registration. Ms. Blass, acknowledging an exemption for publishers of broad-based indexes, asked whether providers of more narrow indexes should register as investment advisers especially where such providers create indexes for a single fund or take significant input from the fund sponsor. Ms. Blass cautioned “against assuming that the status of a provider can be determined based simply on its characterization as an index provider” and encouraged fund sponsors and index providers to “refresh your analysis if you are looking at a bespoke or narrowly focused index.” Ms. Blass also advised funds to consider disclosure implications of narrow indexes.
OUR TAKE: As a result of Ms. Blass’s speech, index providers should expect some hard questions from fund counsel and independent directors’ counsel as the lines blur between index creation and investment recommendations.
OUR TAKE: This case has significant implications for larger organizations. If a firm operates a registered investment adviser affiliate, the SEC, based on this action’s reasoning, would prohibit the firm from claiming an exemption registration for an unregistered fund manager under the same roof. The SEC is using the regulatory flexibility to integrate advisers under one Form ADV as a regulatory weapon to force registration on otherwise exempt affiliates.