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Clearing Agency Fined $20 Million for Inadequate Policies and Procedures

 

The sole registered clearing agency for exchange listed option contracts agreed to pay $20 Million in fines to the SEC and the CFTC for failing to adopt and implement reasonable policies and procedures.  The regulators allege that the clearing agency, an SRO designated as a systemically important financial market utility under the Dodd-Frank Act, did not adopt or enforce reasonable policies and procedures related to margin, credit exposure, risk management, and information security.  Also, the firm failed to obtain required approval  for changes in core risk management policies.  In addition to the fines, the respondent agreed to retain an independent compliance auditor and implement a series of board and executive level risk management oversight mechanisms.

The regulators can impose significant fines and penalties for failures to implement required policies and procedures without alleging any underlying loss or harm to investors.  The failure to implement required risk management and compliance policies can itself serve as the predicate for an enforcement action.

SEC Seeks Expansion of Whistleblower Program

The SEC has proposed expanding whistleblower awards to include deferred and non-prosecution agreements with the Department of Justice or a state attorney general in a criminal case as well as SEC settlements outside of a judicial or administrative proceedings.  According to the SEC, the proposal would “ensure that whistleblowers are not disadvantaged because of the particular form of action” taken.  The SEC also proposed allowing discretionary awards in smaller cases that would not otherwise qualify.  The SEC whistleblower program, established by the Dodd-Frank Act, has ordered over $266 Million in 55 whistleblowers, although 40% has been paid out to only 3 awards.

OUR TAKE: We would prefer to see the SEC limit the snitch program, rather than expand it.  While the logic behind the program makes sense, the SEC should also examine its unintended consequences including the disincentives to include all necessary employees in problem resolution and the growth of extortionist lawyers representing disgruntled employees.

 

SEC Will Vacate Collateral Bars for Pre-Dodd-Frank Conduct

The SEC will allow respondents/defendants subject to collateral bars to seek to vacate those bars if the conduct occurred before July 22, 2010, the date that the Dodd-Frank Act was enacted.  Collateral bars, authorized by Dodd-Frank, allow the SEC to bar respondents from associating with certain regulated entities (e.g. RIA, BD) even if the respondent was not associated with that type of entity during the alleged misconduct.  A recent decision by the U.S. Court of Appeals for the D.C. Circuit vacated a collateral bar because the SEC applied the bar retroactively to conduct that occurred before Dodd-Frank.  The SEC provides a form for seeking to vacate the collateral bar.

OUR TAKE: As far back as 2012, we questioned the legality of collateral bars for conduct that pre-dates Dodd-Frank.  (See SEC Imposes Dodd-Frank Remedies on Conduct Pre-Dating Enactment.)  However, the Dodd-Frank Act still empowers the SEC to impose collateral bars for any post-2010 conduct.

https://www.sec.gov/news/statement/commission-statement-regarding-bartko-v-sec.html

SEC Uses Anti-Fraud Rules to Prosecute Unregistered Fund Manager

The SEC has charged an unregistered fund manager with stealing nearly $4 Million in client funds by commingling assets and siphoning off investment funds for personal and business expenses.  The SEC asserts that the respondents hid their nefarious activities by providing false account statements that failed to show that the assets were heavily leveraged with margin accounts.  Although the respondent was not registered with the SEC or any state, the SEC charges violations of Section 10(b) (fraud in connection with purchase/sale of securities); Section 17(a) (fraud in the offering of securities); Sections 206(1) and 206(2) of the Advisers Act (investment adviser fraud); and Rule 206(4)-8 of the Advisers Act (fraud in pooled investment vehicles).

OUR TAKE: All this talk about repealing Dodd-Frank will not stop the SEC from using the anti-fraud rules against fund managers even if they are not registered.  The SEC used the anti-fraud rules to pursue private fund manager wrongdoing long before enactment of the Dodd-Frank Act (See e.g. SEC v. Lawton (2009)).

 

Large Asset Manager Pays $340,000 Fine because Separation Agreements Violated Whistleblower Rule

whistleblower-retaliation

The SEC fined a large asset manager $340,000 because it added provisions to its separation agreements prohibiting employees who received severance payments from collecting whistleblower awards.  The SEC contends that the respondent added the provisions after the SEC adopted the Dodd-Frank rule prohibiting any action that could impede a potential whistleblower.   The SEC imposed the fine even though the respondent voluntarily changed the language and even without any evidence that any employee was actually impeded or that the respondent ever sought to enforce the restrictions.  An SEC official faulted the firm for taking “direct aim at our whistleblower program by using separation agreements that removed the financial incentives for reporting problems to the SEC.”

OUR TAKE: Registrants must immediately review and revise confidentiality and separation agreements to strike any potentially violative language.

 

SEC Imposes $1.4 Million Fine for Whistleblower Rule Violations

whistleblower woman

The SEC fined a public company $1.4 Million because its severance agreements violated the Dodd-Frank’s whistleblower rules and because it retaliated against an internal whistleblower.  The SEC maintains that the firm’s severance agreements, which included non-disparagement and confidentiality provisions, violated the whistleblower rules because they impeded severed employees from communicating with the SEC.  Also, the SEC asserts that the respondent terminated an internal whistleblower for raising concerns about how the firm calculated oil and gas reserves.  The SEC’s Whistleblower Chief noted, “This is the first time a company is being charged for retaliating against an internal whistleblower.”

OUR TAKE: In addition to the retaliation action, the SEC, for the first time this year, imposes a 7+ figure fine for violating the whistleblower rules.  As we predicted, the SEC continues to bring more cases assessing punitive fines for violations of the whistleblower rules.  Compliance officers should review severance agreements and internal complaint processes.

 

SEC Investor Advocate Defends Dodd-Frank and Financial Regulation

dodd-frank

The SEC Investor Advocate, Rick Fleming, recently lauded the benefits of the Dodd-Frank Act as an investor protection statute and supported financial regulation as a key driver of economic growth.  Mr. Fleming explained that the Dodd-Frank Act was a reaction to the 2008 economic crisis and that three areas of Dodd-Frank successfully addressed crisis causes: asset-backed securities, derivatives, and credit rating agencies.  He did however question other areas such as the FSOC and the SIFI designation for asset managers.  Mr. Fleming went on to explain the importance of financial regulation to restore confidence in the markets, thereby creating a “foundation upon which capital formation could thrive.”  He compared Dodd-Frank to the Securities Act of 1933, which facilitated retail investors’ return to the markets after the Great Depression.  The Office of the Investor Advocate was itself created by the Dodd-Frank Act as the independent voice of the investor that would be accountable directly to Congress.

OUR TAKE: This “protecting the little guy” view of regulation may resonate with the new Administration as well as the minority party in Congress as they debate Dodd-Frank amendments, especially if full-scale Dodd-Frank repeal is viewed as the victory of big businesses and banks over the retail investor.

https://www.sec.gov/news/speech/fleming-speech-keynote-address-111616.html

SEC Says Stock-Picking App is an Illegal Security-Based Swap

games-prohibited

The SEC shuttered and fined a phone-app security ranking game marketed as “Fantasy Sports for Stocks” because the game entries constituted security-based swaps.  The game required entrants to pay a fee to rank how 10 securities would perform over a one-week period.  Entrants won points and cash prizes for accuracy.  According to the SEC, the respondent wanted to collect and sell data about market expectations.  The SEC maintains that the entries constituted illegal security-based swaps because they were sold without a registration statement, not on a securities exchange, and without ensuring that the buyers were eligible contract participants.

OUR TAKE: The Dodd-Frank Act significantly expanded the definition, and regulation, of security-based swaps.  Even stock-picking games with a prize payout have been swept under the SEC’s regulatory supervision.

https://www.sec.gov/litigation/admin/2016/33-10232.pdf

SEC Risk Alert Warns About Whistleblower Policies and Practices

whisteblower-intimidation

The SEC’s Office of Compliance Inspections and Examinations has issued a Risk Alert notifying advisers and broker-dealers that examination staff will examine whether agreements and other documents limit whistleblowers in violation of the Dodd-Frank Act.  The staff will examine compliance manuals, codes of ethics, and employment and severance agreements to determine whether any provisions directly or indirectly impede an employee or former employee from communicating potential securities laws violations to the SEC.  For example, the staff will assess whether confidentiality agreements include exceptions for SEC reporting or provisions requiring an employee to represent that s/he has not assisted with an investigation.  The Risk Alert recommends immediate remedial measures including revising documents and notifying both current and former employees about their unrestricted right to report to the SEC.   The SEC has brought several cases during the last year alleging that a registrant’s practices violated Dodd-Frank’s whistleblower provisions.

OUR TAKE: Our most recent C-suite survey reported that 91% of respondents have not changed their compliance programs due to whistleblower concerns.  Compli-pros should add policies and procedures that ensure that whistleblowers are in no way impeded by company documents.  Then, firms should test the policies by reviewing agreements and interviewing current and former employees.

 

Company Fined for Whistleblower Retaliation

whistleblower-retaliation

The SEC fined a public company $500,000 for terminating and otherwise retaliating against a whistleblower who claimed financial statements may have been misstated.  The whistleblower reported his concerns to management, an internal hotline and, ultimately, to the SEC.  The company limited certain career opportunities and finally terminated him after an internal investigation found that the company’s financial statements were not misstated.  The employee had received consistently positive performance reviews.  The SEC claims that the job actions violated the whistleblower anti-retaliation provisions of the Dodd-Frank Act.

OUR TAKE: Dodd-Frank protects whistleblowers even if their assertions are later determined to be incorrect.  Notably, the respondent agreed to pay a fine to the SEC.   What about the aggrieved whistleblower?  We assume he will hire a lawyer and file a claim for wrongful discharge, if he hasn’t already sued or settled.