The Chief Compliance Officer of a registered investment adviser was barred from the industry and faces criminal sentencing for wire fraud for his role in overbilling clients over $11 Million over a 10-year period. The CCO, a 5% owner of the firm and a protégé of the firm’s CEO/principal, implemented several of the billing practices directed by the firm’s principal and 90% owner. Overbilling practices included double billing clients, charging the wrong fee, charging a management fee instead of a performance fee, failing to prorate fees, and billing for services not performed. The CCO admitted that he knew there was a high probability that the CEO was defrauding clients, but the CCO deliberately avoided learning the truth.
There is no “just following orders” defense for employees of registered investment advisers. We can appreciate the conundrum when your boss and mentor engages in wrongdoing; but, failing to resign and call out the wrongdoing can lead to significant civil and criminal penalties.
The SEC has charged a broker and his customer for conspiring to conceal alleged kickbacks in exchange for preferred IPO and secondary offering allocations. According to the SEC, the defendants agreed that the customer would kick back 24% of his trading profits. The defendants attempted to conceal the scheme by laundering the payments through multiple bank withdrawals of less than $10,000. The SEC maintains that the broker and the client repeatedly lied on compliance certifications about conflicts of interest and payments, which were required by the firms’ policies and procedures that specifically prohibited any type of conflict, allocation or payment scheme.
OUR TAKE: The SEC properly targets the persons that benefited from the scheme, rather than the firms that had adopted relevant policies and procedures and required specific certifications. It is also noteworthy that the SEC charged the enriched client and not just the broker. We believe this case shows the SEC’s continued focus on holding individuals, and not just organizations, accountable for bad behavior.
The SEC fined and barred an adviser’s Chief Compliance Officer from acting in a compliance or supervisory capacity because of his failures to remedy compliance deficiencies. The adviser hired an outside compliance consultant which recommended 59 compliance action items. The SEC alleges that the CCO failed to address many of the issues raised including failures to (i) ensure a surprise audit pursuant to the custody rule, (ii) retain emails and other electronic records, and (iii) implement policies to protect customer information. The SEC also charges the CCO with compliance program deficiencies including failures to update the compliance manual or conduct any meaningful annual review of the compliance program. The firm’s president/principal was also censured and fined.
OUR TAKE: The SEC doesn’t often prosecute standalone (i.e. not dual hat) CCOs without an underlying client loss, but it will if the CCO ignores obvious compliance deficiencies of which he has notice. This is what we call “compliance voodoo” i.e. an appearance of compliance infrastructure without an effective program. This CCO had a compliance manual, did some quarterly testing, and hired a third party consultant. But, neither the CCO nor the firm took any action to actually implement relevant procedures to address cited compliance deficiencies.
The SEC fined and barred an investment bank’s head CMBS trader for lying to customers about pricing, spreads, and compensation over a 2-year period. According to the SEC, the defendant oftentimes used elaborate stories and doctored documents to support his untrue statements. The SEC asserts that clients relied on the incorrect information when making purchase/sale decisions. The SEC maintains that the respondent knowingly ignored compliance policies requiring truthfulness in dealings with customers. The defendant benefited through higher discretionary bonuses resulting from his illicit activities, thereby making him directly liable for securities fraud.
OUR TAKE: It is noteworthy that the SEC took action against the trader himself rather than his firm, which presumably avoided liability because it had implemented adequate policies and procedures. SEC Commissioner Piwowar has previously indicated that the SEC should pursue individuals rather than firms.
The SEC has commenced enforcement proceedings against the portfolio manager of a registered fund for engaging in a matched trade scheme that allowed him to generate $1.95 Million in profits at the fund’s expense. The SEC alleges that the portfolio manager matched call options bought/sold from his personal brokerage account against matching options bought/sold by the fund in less liquid securities with relatively wide NBBO spreads. These trades benefitted his brokerage account when he immediately sold the call options to third parties at more favorable prices. The SEC maintains that the portfolio manager failed to disclose his personal brokerage account to his employer (for review under the Code of Ethics) and failed to disclose his employer to his broker-dealer. The SEC charges violations of Investment Company Act Section 17(j) and Rule 17j-1 (Code of Ethics) as well as securities fraud. The U.S. Attorney has filed a parallel criminal action.
OUR TAKE: The SEC will hold individuals liable for securities law violations they cause especially where they intentionally seek to evade compliance efforts by lying to their employers. It is unclear at this point whether his employer will also suffer an action for failing to detect his unlawful trading.