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Broker Should Have Disclosed Investment Product Red Flags

 

An unregistered broker agreed to pay $600,000 to settle charges that he sold third party investments without disclosing numerous red flags and negative facts to potential investors.  According to the SEC, the respondent painted an overly rosy picture of the investments (ultimately Ponzi schemes) and the sponsor by highlighting consistent rates of return and a personal business relationship.  However, the respondent did not disclose that the sponsor had previous issues with the SEC, multiple failed investments schemes, and financial problems.  The SEC argues that once the respondent described the investments in a positive way, he “was under a duty to make materially fair and complete disclosure rather than presenting only a one-sided and unbalanced view of the investment.”  The SEC charges the unregistered broker with violating the antifraud provisions of the Securities Act.

When selling investment products, you cannot merely disclose the good facts.  In this case, the respondent may not (or may) have known the investments were Ponzi schemes, but he did have enough facts to suspect and should have warned potential investors. 

Hedge Fund Manager Charged with Concealing Liquidity Crisis

frozen-money

The SEC has commenced civil enforcement proceedings against a hedge fund sponsor and its principals for failing to notify investors of its liquidity crisis and using improper transactions to pay redeeming investors.  The Department of Justice has brought parallel criminal charges.  According to the SEC, the respondents reported positive returns that averaged 17% per annum from 2003-2015.  Additionally, the respondents assured investors that they would pay all redemptions within 90 days.  The SEC alleges the firm inflated valuation of investments including 2 oil production companies, looted certain portfolio companies to pay redemptions, unlawfully transferred assets, and lied to auditors.  As redemptions accelerated and the liquidity crisis grew, the SEC asserts that the respondents misled current and prospective investors about the funds’ valuation, liquidity and prospects.  Ultimately, the funds ceased redemptions by placing most assets in an illiquid side pocket.

OUR TAKE: Compliance officers and due diligence professionals should review this complaint as a primer on private fund management misconduct.  Red flags included consistent high performance, subjective valuations, conflicted transactions, and misrepresentations to auditors.

https://www.sec.gov/litigation/complaints/2016/comp-pr2016-267.pdf