Clarity and Understanding for the Workplace

News

Items of interest to investment advisers are constantly updated. Bookmark this page to read up-to-the-minute news and important regulatory changes!

SEC Awards $450,000 to Compliance Whistleblower

On March 30, 2020, the SEC announced an award of $450,000 to a whistleblower whose significant information helped focus an ongoing investigation on the violations that were ultimately charged.

The whistleblower, who had compliance-related responsibilities, is eligible for an award because the whistleblower reported concerns about the relevant conduct internally within the company and then waited 120 days before reporting to the SEC.  This is the SEC’s third whistleblower award to an individual who had compliance or internal audit responsibilities.

“To ensure that important information about securities laws violations is reported to the SEC when appropriate corrective action is not taken by the company, the rules permit awards to compliance professionals in certain limited circumstances,” said Jane Norberg, Chief of the SEC’s Office of the Whistleblower.  “Here, the whistleblower made reasonable efforts to work within the company’s compliance structure, suffered unique hardships as a result, and reported to the Commission after the requisite time period had passed, ultimately providing meaningful assistance to the Commission’s investigation and subsequent enforcement action.”

The SEC has awarded over $396 million to 77 individuals since issuing its first award in 2012.  All payments are made out of an investor protection fund established by Congress that is financed entirely through monetary sanctions paid to the SEC by securities law violators.  No money has been taken or withheld from harmed investors to pay whistleblower awards.  Whistleblowers may be eligible for an award when they voluntarily provide the SEC with original, timely, and credible information that leads to a successful enforcement action.  Whistleblower awards can range from 10 percent to 30 percent of the money collected when the monetary sanctions exceed $1 million.

As set forth in the Dodd-Frank Act, the SEC protects the confidentiality of whistleblowers and does not disclose information that could reveal a whistleblower’s identity.   Top 

SEC Extends Conditional Exemptions From Reporting and Proxy Delivery Requirements for Public Companies, Funds, and Investment Advisers Affected by COVID-19

Form ADV & Form PF Filing Date Extended to June 30, 2020


On March 25, 2020, the SEC announced that it is extending the filing periods covered by its previously enacted conditional reporting relief for certain public company filing obligations under the federal securities laws, and that it is also extending regulatory relief previously provided to funds and investment advisers whose operations may be affected by COVID-19. In addition, the SEC’s Division of Corporation Finance issued today its current views regarding disclosure considerations and other securities law matters related to COVID-19.

“Health and safety continue to be our first priority,” said SEC Chairman Jay Clayton. “These actions provide temporary, targeted relief to issuers, investment funds and investment advisers affected by COVID-19. At the same time, we encourage public companies to provide current and forward-looking information to their investors and, in these uncertain times, companies are reminded that they can take steps to avail themselves of the safe harbor in Section 21E of the Exchange Act for forward-looking statements.”

Public Company Relief

To address potential compliance issues, the Commission issued an order that, subject to certain conditions, provides public companies with a 45-day extension to file certain disclosure reports that would otherwise have been due between March 1 and July 1, 2020. Today’s Order supersedes and extends the Commission’s Original Order of March 4, 2020. Among other conditions, companies must continue to convey through a current report a summary of why the relief is needed in their particular circumstances for each periodic report that is delayed. The Commission may provide extensions to the time period for the relief, with any additional conditions it deems appropriate, or provide additional relief as circumstances warrant. Companies and their representatives are encouraged to contact SEC staff with questions or matters of particular concern.

Investment Fund and Adviser Relief


The Commission also issued orders (https://www.sec.gov/rules/other/2020/ia-5469.pdf and https://www.sec.gov/rules/other/2020/ic-33824.pdf) that would provide certain investment funds and investment advisers with additional time with respect to holding in-person board meetings and meeting certain filing and delivery requirements, as applicable. Today’s Orders supersede and extend the filing periods covered by the Commission’s Original Orders of March 13, 2020. Among other conditions, entities must notify the Division staff and/or investors, as applicable, of the intent to rely on the relief, but generally no longer need to describe why they are relying on the order or estimate a date by which the required action will occur. The time periods for relief are described in the Orders. The Commission may provide extensions to the time period for the relief, with any additional conditions it deems appropriate, or provide additional relief as circumstances warrant. Firms and financial professionals are encouraged to contact SEC staff with questions or matters of particular concern.

Public Company Disclosure Guidance

The Division of Corporation Finance today issued Disclosure Guidance Topic No. 9, providing the staff’s current views regarding disclosure and other securities law obligations that companies should consider with respect to COVID-19 and related business and market disruptions. The Division has been monitoring how companies are reporting the effects and risks of COVID-19 on their businesses, financial condition, and results of operations and is providing the guidance as companies prepare disclosure documents during this uncertain time.

The guidance encourages timely reporting while recognizing that it may be difficult to assess or predict with precision the broad effects of COVID-19 on industries or individual companies.

The SEC divisions and offices that oversee companies, accountants, investment advisers, mutual funds, brokerage firms, transfer agents, and other regulated entities and financial professionals will continue to closely track developments, and, if appropriate, consider additional relief from other regulatory requirements for those affected by the Coronavirus. Entities and financial professionals affected by the Coronavirus are encouraged to contact Commission staff with questions and concerns.

ADDITIONAL INFORMATION

Commission Relief for Public Companies


The Commission has issued this Order as necessary and appropriate in the public interest and consistent with the protection of investors. For those companies seeking to rely upon the Order, attention is directed to the various conditions, including the requirement to furnish a Form 8-K or Form 6-K by the later of March 16 or the original reporting deadline.

In connection with the Commission relief issued in the order, the Commission staff will take the following positions with respect to certain obligations under the Securities Act and the Exchange Act:

Disclosure Considerations for All Public Companies

The Commission encourages all companies and other related persons to consider their activities in light of their disclosure obligations under the federal securities laws. For example, where a company has become aware of a risk related to the Coronavirus that would be material to its investors, it should refrain from engaging in securities transactions with the public and discourage directors and officers (and other corporate insiders who are aware of these matters) from initiating such transactions until investors have been appropriately informed about the risk. To the extent the registrant or insiders are engaged in transactions, or circumstances otherwise warrant it, the registrant should consider what disclosures are required in order to inform the public of its financial condition.

When companies do disclose material information related to the impacts of the Coronavirus, they are reminded to take the necessary steps to avoid selective disclosures and to disseminate such information broadly. Depending on a company’s particular circumstances, it should consider whether it may need to revisit, refresh, or update previous disclosure to the extent that the information becomes materially inaccurate.

Companies providing forward-looking information in an effort to keep investors informed about material developments, including known trends or uncertainties regarding the Coronavirus, can take steps to avail themselves of the safe harbor in Section 21E of the Exchange Act for this information.

Requests for Additional Assistance Relating to COVID-19

Some companies and other affected persons may continue to require additional or different assistance in their efforts to comply with the requirements of the federal securities laws and therefore are encouraged to contact Commission staff. Registrants facing administrative difficulties in the filing process (e.g., inability to obtain a required signature due to an executive officer being located in a quarantined zone) are encouraged to contact the staff who will be available to help address these issues. The Commission staff will continue to address these and any issues on a case-by-case basis in light of their fact-specific nature. If you require general assistance related to this order please call (202) 551-3500 or submit your request for assistance and contact information at https://www.sec.gov/forms/corp_fin_interpretive.

Commission Relief for Funds and Investment Advisers

The Commission has issued the Orders as necessary and appropriate in the public interest and consistent with the protection of investors. For an entity seeking to rely upon an Order, attention is directed to the various conditions, including, that entities must notify the Division staff and/or investors, as applicable, of the intent to rely on the relief, but generally no longer need to describe why they are relying on the Order or estimate a date by which the required action will occur.

Subject to their conditions, the Orders provide the following temporary exemptive relief:

Relief Related to the Investment Company Act of 1940

Relief Related to the Investment Advisers Act of 1940

The Order would extend the following obligations for which the original due date is on or after the date of the original order but on or prior to June 30, 2020. The original order extended to April 30, 2020. Filing or delivery, as applicable, would still need to be made as soon as practicable but no later than 45 days after the original due date.

Commission Statement of Delivery of Fund Prospectuses

The Commission also takes the position, as described in the orders, that it would not provide a basis for a Commission enforcement action if a registered fund does not deliver to investors the current prospectus of the registered fund where the prospectus is not able to be timely delivered because of circumstances related to Coronavirus, subject to the conditions described in the orders. The Commission’s position has been extended to June 30, 2020. Delivery would still need to be made as soon as practicable but no later than 45 days after the date originally required.

Division of Investment Management contact information:

 

•    For general questions or concerns related to impacts of Coronavirus on the operations or compliance of funds and advisers, including questions about Form N-MFP and Form N-CR, please email IM-EmergencyRelief@sec.gov.
•    For questions regarding Form N-LIQUID, please email IM-N-LIQUID@sec.gov and simultaneously contact: Tim Husson, Associate Director, at (202) 551-6803 and Jon Hertzke, Assistant Director, at (202) 551-6247.
•    For questions regarding Form ADV, email IARDLive@sec.gov.
•    For questions regarding Form PF, email FormPF@sec.gov.


[Please
login to IA Act UnwrappedTM to view Release No. IA-5469.]

Top

OCIE Statement on Operations and Exams – Health, Safety, Investor Protection and Continued Operations are our Priorities

 

The SEC’s Office of Compliance Inspections and Examinations (OCIE) recognizes that health and other measures necessitated by COVID-19 may significantly alter the operations of registrants in the securities markets. OCIE remains fully operational nationwide and continues to execute on its investor protection mission. In light of health and safety concerns and other circumstances, OCIE has moved to conducting examinations off-site through correspondence, unless it is absolutely necessary to be on-site. OCIE recognizes that registrants have taken similar steps and are devoting substantial time and attention to maintaining operations.

 

Recognizing these conditions and priorities, OCIE is working with registrants to address the timing of its requests, availability of registrant personnel, and other matters to minimize disruption. Specifically, we will work with registrants to ensure that our work can be conducted in a manner consistent with maintaining normal operations, and importantly, necessary or appropriate health and safety measures.

 

In addition, OCIE is fully aware of the regulatory relief that was provided to registrants in response to COVID-19, see https://www.sec.gov/sec-coronavirus-covid-19-response. OCIE believes it is important to communicate to registrants that reliance on regulatory relief will not be a risk factor utilized in determining whether OCIE commences an examination. We encourage registrants to utilize available regulatory relief as needed.

 

As it has done during other times of market stress, OCIE is actively engaged in on-going outreach and other efforts with many registrants to assess the impacts of COVID-19 and to gather information, including challenges with operational resiliency. In furtherance of these efforts, OCIE may discuss with registrants the implementation and effectiveness of registrants’ business continuity plans, particularly in the interests of protecting investors and the integrity of the markets.

 

OCIE staff is available to answer questions or discuss issues during this important time. Our contact information is available at https://www.sec.gov/ocie. If you suspect or observe activity that may violate the federal securities laws or otherwise operates to harm investors, please notify SEC staff at https://www.sec.gov/tcr.  Top 

 

Order Regarding Pending Administrative Proceedings

On March 20, 2020 the SEC issued Release No. IA-5467 in which the SEC orders that parties shall to the extent possible submit all filings to the Commission by sending them electronically at apfilings@sec.gov. The SEC will also continue to accept paper filings sent to the Office of the Secretary, although processing of documents received only via mail may be delayed. [Please login to the IA Act UnwrappedTM Releases Databse to view Release No. IA-5467]  Top 

SEC Takes Targeted Action to Assist Funds and Advisers, Permits Virtual Board Meetings and Provides Conditional Relief from Certain Filing Procedures

On March 13, 2020, the SEC announced regulatory relief for funds and investment advisers whose operations may be affected by the coronavirus.  The relief provided today covers in-person board meetings and certain filing and delivery requirements for certain investment funds and investment advisers.  The impacts of the coronavirus may delay or prevent funds and advisers operating in affected areas from meeting certain regulatory obligations due to restrictions on large gatherings, travel and access to facilities, the potential limited availability of personnel and similar disruptions.  The relief is designed to enable funds and advisers to meet those obligations and to continue their operations, while recognizing that there may be temporary disruptions outside of their control.

“Investment funds and advisers are at the forefront of Main Street investor access to financial markets, and the Commission is monitoring closely the impacts of the coronavirus on investors and market participants,” said SEC Chairman Jay Clayton.  “As investors, investment funds, investment advisers and other market participants endeavor to address these challenges, the Commission stands ready to take action in the interest of our investors and our markets as appropriate.  Today’s targeted relief will provide additional time so affected funds and advisers can continue meeting the expectations of their investors and clients.”

The Commission and its staff continue to assess impacts relating to the coronavirus on investors and market participants, and will consider additional relief from other regulatory requirements.  Firms and financial professionals affected by the coronavirus are encouraged to contact the staff with questions and concerns.  The Commission may extend the time period for relief, with any additional conditions it deems appropriate, or provide additional relief as circumstances warrant.

Division of Investment Management contact information:

ADDITIONAL INFORMATION

The Commission has issued the orders having due regard for the needs and safety of registered investment companies, other funds and investment advisers impacted by coronavirus while also considering the importance of markets and investors receiving materially accurate and timely information. For an entity seeking to rely upon an order, attention is directed to the various conditions, including, as applicable, the requirements to notify Commission staff of the intention to rely upon the order and to disclose information on its website about its reliance upon the order.

Subject to their conditions, the orders provide the following temporary exemptive relief:

Relief Related to the Investment Company Act of 1940

•    Registered management investment companies, business development companies, and any investment adviser or principal underwriter of such companies from Investment Company Act sections and rules requiring certain agreements, plans or arrangements be approved by the company’s board of directors by an in-person vote due to circumstances related to the current or potential effects of coronavirus;

•    Registered management investment companies and unit investment trusts affected by coronavirus from Form N-CEN and Form N-PORT filing deadlines;

•    Registered management investment companies and unit investment trusts affected by coronavirus from annual and semi-annual report transmittal deadlines; and

•    Registered closed-end investment companies and business development companies from the requirement to file Form N-23C-2 at least 30 days prior to calling or redeeming securities.

Relief Related to the Investment Advisers Act of 1940

•    Registered investment advisers and exempt reporting advisers affected by coronavirus to file an amendment to Form ADV or file reports on Form ADV part 1A, respectively;

•    Registered investment advisers affected by coronavirus from requirements to deliver amended brochures, brochure supplements or summary of material changes to clients where the disclosures are not able to be timely delivered because of circumstances related to coronavirus; and

•    Private fund advisers affected by coronavirus from Form PF filing requirements.

Commission Statement of Delivery of Fund Prospectuses

The Commission also takes the position, as described in the orders, that it would not provide a basis for a Commission enforcement action if a registered fund does not deliver to investors the current prospectus of the registered fund where the prospectus is not able to be timely delivered because of circumstances related to coronavirus, subject to the conditions described in the orders.  Top 

SEC Grants IAs Extension for Filing Form ADV & Form PF until April 30th

The current outbreak of coronavirus disease 2019 (COVID-19) was first reported on December 31, 2019. The disease has led to disruptions to transportation, including buses, subways, trains and airplanes, and the imposition of quarantines around the world, which may limit investment advisers’ access to facilities, personnel, and third party service providers. The SEC recognizes that, in these circumstances, investment advisers may face challenges in timely satisfying provisions of the Advisers Act and rules thereunder concerning the filing and delivery of certain reports and disclosures. In light of the current situation, we are issuing this Order providing a temporary exemption from certain requirements of the Advisers Act.  Click HERE to access Release No. 5463.
Top 

Division of Investment Management – New Resource for Modified or Withdrawn Staff Statements

The staff of the Division of Investment Management is making available a list of no-action letters and other staff statements that have been modified or withdrawn. This list, titled “Modified or Withdrawn Staff Statements,” is now available on the Commission’s website at sec.gov/divisions/investment/im-modifiedwithdrawn-staff-statements.

The staff expects to update this web page periodically, but may not issue separate informational updates or announcements for each update. Therefore, you may wish to subscribe to the email bulletins that will notify subscribers of updates to this web page.

The list on the Modified or Withdrawn Staff Statements web page is not exhaustive. Both this list and the referenced staff documents represent the views of staff of the Division of Investment Management and are not a rule, regulation, or statement of the Securities and Exchange Commission. Furthermore, the Commission has neither approved nor disapproved the content of this list or the referenced staff documents. Like all staff guidance, neither the list nor any referenced staff document has any legal force or effect: they do not alter or amend applicable law, and they create no new or additional obligations for any person. [Please
login to the IA Act UnwrappedTM Examination Tools Database for more information]  Top 


Division of Investment Management Operating Status


The Division of Investment Management is continuing to conduct normal business functions.  IM disclosure staff is continuing to review filings, issue comment letters and accelerate the effective date of registration statements as requested and as appropriate. IM chief counsel staff is continuing to review exemptive applications, requests for no-action relief and other guidance requests.

The Division currently anticipates being able to maintain normal time frames for reviews and other matters.  If you are engaged with the staff on a matter, please keep that staff aware of any changes in your schedule.

Follow this guidance if you are not sure who you should contact about a matter:
https://www.sec.gov/investment/Article/investment_about.html   Top 

 

SEC Operating Status - COVID-19

From the SEC website: The health and safety of the SEC’s staff are first and foremost in our minds.  To that end, over the course of this week, the SEC’s Washington, DC headquarters has moved to a mandatory telework posture.

In the past several weeks, staff have been preparing for telework readiness, including conducting network capacity tests, encouraging all employees to test their remote connectivity, and preparing for the possibility of remote open and closed Commission meetings.

A majority of SEC headquarters staff began teleworking earlier this month.  The agency has remained fully operational, and we remain intently focused on fulfilling our mission on behalf of America’s investors and our markets.  top 

 

Investment Management Statement on Fund Board Meetings and Unforeseen or Emergency Circumstances Related to Coronavirus

The Division of Investment Management is actively monitoring the current and potential effects of COVID-19 on investment advisers and funds.  As a result of its outreach, the Division understands that fund boards may have upcoming meetings that were planned anticipating in-person attendance and that boards may be concerned about potential travel restrictions or the ability of directors to travel.  Division staff issued a letter to the Independent Directors Council in February 2019 that provides that the staff would not recommend enforcement action if fund boards do not adhere to certain in-person voting requirements in the event of unforeseen or emergency circumstances affecting some or all of the directors.[1]  As a result of the current and potential effects of COVID-19, the staff is hereby extending the no-action position expressed in the Independent Directors Council letter with respect to unforeseen or emergency circumstances to cover all approvals and renewals (including material changes) of contracts, plans or arrangements under section 15(c) or rules 12b-1 or 15a-4(b)(2), as well as the selection of a fund’s independent public accountant pursuant to Section 32(a) where such accountant is not the same accountant as selected in the immediately preceding fiscal year.[2]

This position applies to board meetings held between the date of this update and June 15, 2020.  The Division staff may extend the time period for this no-action position as circumstances warrant, with any additional conditions deemed appropriate.

The Division encourages investment advisers and funds to contact the Division staff with any concerns they have related to the staff letter or to current or potential effects of COVID-19 on their operations, including any need for relief or guidance, at 202-551-6825 or email at imocc@sec.gov.  In addition, as investment advisers and funds plan and prepare for any potential impacts, the Division encourages them to evaluate their business continuity plans and valuation procedures, among other relevant policies, procedures and systems.

This IM Staff Statement represents the views of the staff of the Division of Investment Management.  It is not a rule, regulation, or statement of the Securities and Exchange Commission. The Commission has neither approved nor disapproved its content.  This Staff Statement, like all staff guidance, has no legal force or effect: it does not alter or amend applicable law, and it creates no new or additional obligations for any person.

Footnotes

[1] See letter from the staff of the Division of Investment Management to Independent Directors Council (Feb. 28, 2019), available at https://www.sec.gov/divisions/investment/noaction/2019/independent-directors-council-022819.

[2] Consistent with the letter to the Independent Directors Council, this position is conditioned on  board ratification of these actions at the next in-person board meeting.  Top 

 

SEC Provides Conditional Regulatory Relief & Assistance for Companies Affected by the Coronavirus
SEC is closely monitoring the impact of the coronavirus on investors and capital markets

The Commission announced that it is providing conditional regulatory relief for certain publicly traded company filing obligations under the federal securities laws. The impacts of the coronavirus may present challenges for certain companies that are required to provide information to trading markets, shareholders, and the SEC. These companies may include U.S. companies located in the affected areas, as well as companies with operations in those regions.


To address potential compliance issues, the Commission has issued an order that, subject to certain conditions, provides publicly traded companies with an additional 45 days to file certain disclosure reports that would otherwise have been due between March 1 and April 30, 2020. Among other conditions, companies must convey through a current report a summary of why the relief is needed in their particular circumstances.

The Commission may extend the time period for the relief, with any additional conditions it deems appropriate, or provide additional relief as circumstances warrant. Companies and their representatives are encouraged to contact SEC staff with questions or matters of particular concern.

SEC Chairman Jay Clayton noted, "The health and safety of all participants in our markets is of paramount importance. While timely public filing of Exchange Act reports is a cornerstone of well-functioning markets, we recognize that this situation may prevent certain issuers from compiling these reports within required timeframes."


Chairman Clayton added, "We also remind all companies to provide investors with insight regarding their assessment of, and plans for addressing, material risks to their business and operations resulting from the coronavirus to the fullest extent practicable to keep investors and markets informed of material developments.  How companies plan and respond to the events as they unfold can be material to an investment decision, and I urge companies to work with their audit committees and auditors to ensure that their financial reporting, auditing and review processes are as robust as practicable in light of the circumstances in meeting the applicable requirements. Companies providing forward-looking information in an effort to keep investors informed about material developments, including known trends or uncertainties regarding coronavirus, can take steps to avail themselves of the safe harbor in Section 21E of the Exchange Act for forward-looking statements."


In addition, the Division of Investment Management has issued a staff statement regarding certain in-person board voting requirements under the Investment Company Act of 1940, available at https://www.sec.gov/investment/staff-statement-im-covid-19 . [See article above.]

The SEC divisions and offices that oversee companies, accountants, investment advisers, mutual funds, brokerage firms, transfer agents, and other regulated entities and financial professionals will continue to closely track developments, and, if appropriate, consider additional relief from other regulatory requirements for those affected by the coronavirus. Entities and financial professionals affected by the coronavirus are encouraged to contact Commission staff with questions and concerns.  Top 

SEC Amends Exemptions from IA Registration for Advisers to Rural Business Investment Companies

On March 2, 2020, the SEC adopted amendments to two rules in order to implement congressionally mandated exemptions from registration for investment advisers who advise rural business investment companies (RBICs).  These exemptions were enacted as part of the RBIC Advisers Relief Act of 2018, which amended the Investment Advisers Act.

The Commission adopted amendments to rules 203(l)-1 and 203(m)-1.  These rules implement exemptions from SEC registration for advisers to venture capital funds and private funds. The amendments include RBICs in the definition of the term “venture capital fund” and exclude their assets from the definition of the term “assets under management” for purposes of the private fund adviser exemption.

Advisers to RBICs, which are licensed by the U.S. Department of Agriculture, use the equity raised in capitalizing their funds to make venture capital investments mostly in smaller enterprises located primarily in rural areas.

“These amendments implement congressionally-mandated exemptions to the Advisers Act that are intended to reduce regulatory burdens for advisers to RBICs,” said SEC Chairman Jay Clayton.  “It is my hope that the reduction in regulatory burdens will encourage capital formation in rural areas where capital to form and grow a business all too often is more scarce than it should be.”

The amendments will be published on the Commission’s website and in the Federal Register.  They will become effective upon publication in the Federal Register. [Please
login to IA Act UnwrappedTM to view Release No. IA-5454 and the amendments under Regulatory Database Rules 203(l)-1 and 203(m)-1.]  Top  

 

SEC Charges Additional IAs for Undisclosed Conflicts of Interest Related to Aequitas Enterprise

On February 27, 2020, the SEC charged New Jersey and California-based investment advisers with failing to adequately disclose conflicts of interest related to their clients' investments in the Oregon-based Aequitas enterprise. To settle these charges, the investment advisers have agreed to pay a total of $564,000, which will be used to fund a distribution to harmed investors.

The SEC previously charged Aequitas Management LLC and three of its top executives with fraudulently raising more than $350 million from approximately 1,500 investors. The SEC also previously charged investment advisers in Massachusetts and Washington for failing to disclose their Aequitas-related conflicts of interest to advisory clients.

In two separate orders, the SEC found that from 2013 to 2015, Jeffrey C. Sica, of Morristown, New Jersey and William M. Malloy, III, of La Jolla, California, and the investment adviser firms that they each controlled, steered advisory clients to invest in Aequitas securities at the same time that Aequitas was compensating the firms through loans or for consulting services that included introducing investors to Aequitas.

According to the order against Sica and his firm, Sica Wealth Management, LLC (SWM), Sica's firm received approximately $2 million from Aequitas pursuant to consulting and loan agreements, but Sica and SWM failed to adequately disclose the agreements and payments to their advisory clients who invested in Aequitas securities. According to the order against Malloy and his firm Fortress Investment Management, LLC, Fortress received monthly $15,000 payments from Aequitas, but Malloy failed to adequately disclose the payments to advisory clients who invested in a Fortress fund that invested heavily in Aequitas securities. Malloy also inaccurately claimed that another investment adviser he controlled had the $100 million in assets under management required for SEC registration, causing it to remain improperly registered.

Without admitting or denying the SEC's findings, Sica and SWM consented to an order finding that they failed to disclose conflicts of interest in violation of Section 206(2) of the Investment Advisers Act of 1940. Also without admitting or denying the SEC's findings, Malloy and Fortress consented to an order finding that Malloy violated Section 206(2) and aided and abetted and caused a violation of Section 203A of the Advisers Act, and that Fortress was a cause of Malloy's Section 206(2) violations. The order also suspends Malloy from the industry for twelve months. Sica, Malloy, and their related entities have agreed to pay approximately $564,000 to resolve the SEC's charges, including disgorgement of the advisory fees they charged during the time of their violations, which will be used to fund a distribution to harmed investors.  [Please
login to IA Act UnwrappedTM to view Release Nos. IA-5453 In the Matter of Sica Wealth Management, LLC and Jeffrey C. Sica and IA-5452 In the Matter of Fortress Investment Management, LLC and William M. Malloy]   Top  

 

SEC to Hold National Compliance Outreach Seminar for IAs & ICs

The SEC has announced the opening of registration for its compliance outreach program’s national seminar for investment companies and investment advisers.  The event is intended to help Chief Compliance Officers (CCOs) and other senior personnel at investment companies and investment advisory firms enhance their compliance programs for the protection of investors.

The SEC’s Office of Compliance Inspections and Examinations (OCIE), Division of Investment Management (IM), and the Asset Management Unit (AMU) of the Division of Enforcement jointly sponsor the compliance outreach program.  The national seminar will be held on April 21 at the SEC’s Washington, DC, headquarters from 8:30 a.m. to 5:30 p.m. ET.  In-person attendance is limited to 500; a live webcast will be available at SEC.gov. The seminar agenda can be found
HERE.

Speakers will include SEC Chairman Jay Clayton, senior leadership from OCIE, IM, and AMU, and industry representatives.  Topics will include: program priorities in 2020, investment adviser standard of conduct and related disclosures, issues regarding conflicts of interest, certain regulatory hot topics, and topics specific to investment companies and investment advisers to private funds.

“This year marks the 15th anniversary for the compliance outreach program, and this event will be the tenth national seminar for investment advisers and investment companies,” said OCIE Director Pete Driscoll. “The program has proven to be a powerful tool in providing critical information to the compliance community, particularly areas we view as higher risk and of importance to our mission of protecting investors.  The open exchange of ideas and discussion of compliance challenges between our staff and market participants during these seminars is crucial to the program’s success, and we look forward to discussing ways we can further share information to promote improved compliance in the industry.”

“This event provides us with an opportunity to engage directly with the professionals responsible for overseeing the implementation of our investor protections.   We are particularly looking forward to continuing our outreach efforts with smaller asset managers and their compliance professionals as we seek to gain a better understanding of specific issues they face in complying with our regulations,” said Division of Investment Management Director Dalia Blass.

Investment adviser and investment company senior officers may register online to attend the event in-person at https://www.sec.gov/compliance-outreach-program-national-seminar-2020. If registrations exceed capacity, investment company and investment adviser CCOs will be given priority on a first-registered basis.  Registration instructions also will be sent to SEC-registered advisers using the email account on the adviser’s most recent Form ADV filing.  The event will also be made available via live and archived audio webcast, which does not require registration.  For more information, contact: ComplianceOutreach@sec.gov.  Top 

 

Partial Summary Judgment Against IA & Principal for False and Misleading Marketing of Investment Strategies

On February 13, 2020, a federal district court in Massachusetts granted partial summary judgment in favor of the Securities and Exchange Commission in its pending action against Navellier & Associates, Inc., a Nevada-based investment advisory firm, and its founder and chief investment officer, Louis Navellier, of Florida. The SEC's complaint alleges that the defendants breached their fiduciary duties and defrauded their advisory clients and prospective clients through the use of marketing materials that included false and misleading statements regarding the performance of the firm's Vireo AlphaSector investment strategies.

The court's order holds that defendants defrauded their clients, and that the SEC is entitled to summary judgment on its claims that defendants violated the antifraud provisions of Sections 206(1) and 206(2) of the Investment Advisers Act of 1940. The court's order further finds that the defendants knew there were misleading statements in their marketing materials and that there had been inadequate due diligence, yet they failed to inform their clients. Instead, as the court found, the defendants continued to sell the Vireo AlphaSector investment strategies despite their knowledge that representations about the strategies were false and misleading. The court also rejected the defendants' affirmative defense of selective enforcement and denied defendants' motion for summary judgment on all counts. [Please
login to the IA Act UnwrappedTM Enforcement Case Database to view Release No. LR-24744 SEC v. Navellier & Associates, Inc., and Louis Navellier]  Top 

IA Charged with Inadequate Controls to Prevent Insider Trading

On February 4, 2020, the Commission announced settled charges against registered investment adviser Cannell Capital, LLC (CCL) of Alta, Wyoming for not having policies and procedures reasonably designed to prevent the misuse of material nonpublic information.

According to the SEC's order, CCL specializes in investing in the securities of thinly-traded companies with little or no analyst coverage. To understand these securities, it frequently communicated with issuer insiders and others who had access to material nonpublic information. The order finds that from 2014 through October 2019, CCL failed to follow its written policies and procedures by not maintaining a reasonably designed list of securities that members, officers, and employees and their family household members were prohibited from trading after the firm came into possession of potential material nonpublic information.

The order also finds that CCL's written policies and procedures were not reasonably designed to prevent misuse of material nonpublic information because they did not address any business-specific risks and lacked any guidance regarding when trading in securities should be restricted.

The order finds that CCL violated Section 204A of the Investment Advisers Act of 1940 by failing to establish, maintain, and enforce policies and procedures reasonably designed to prevent the misuse of material, nonpublic information. Without admitting or denying the findings in the SEC's order, CCL consented, to the entry of a cease-and-desist order, a censure, and a $150,000 civil penalty. [Please
login to the IA Act UnwrappedTM Releases Database to view Release No. IA-5441 In the Matter of Cannell Capital, LLC.]   Top 

Agencies Propose Changes to Modify “Covered Funds” Restrictions of Volcker Rule

Five federal financial regulatory agencies have invited public comment on a proposal to modify regulations implementing the Volcker rule’s general prohibition on banking entities investing in or sponsoring hedge funds or private equity funds – known as “covered funds.”

Since the regulations implementing the Volcker rule were finalized in 2013, the rule has created compliance uncertainty and imposed limits on certain banking services and activities that the Volcker rule was not intended to restrict.  To address these concerns, the agencies simplified requirements for the proprietary trading restrictions in November 2019.  Today’s proposal would modify the restrictions for banking entities investing in, sponsoring, or having certain relationships with covered funds.

In particular, the joint agency proposal would improve and streamline the covered funds portion of the rule, address the treatment of certain foreign funds, and permit banking entities to offer financial services and engage in other permissible activities that do not raise concerns that the Volcker rule was intended to address.

The proposed changes were jointly developed by the Federal Reserve Board, the Commodity Futures Trading Commission, the Federal Deposit Insurance Corporation, the Office of the Comptroller of the Currency, and the Securities and Exchange Commission.

Comments will be accepted until April 1, 2020.   Click HERE to access the proposing release.

Media Contacts:

Federal Reserve - Eric Kollig     202-452-2955
CFTC - Office of Public Affairs 202-418-5080
FDIC - Julianne Fisher Breitbeil 202-898-6895
OCC - Bryan Hubbard             202-649-6870
SEC - Office of Public Affairs  202-551-4120
Top 

 

SEC Charges Portfolio Manager and Advisory Firm with Misrepresenting Risk in Mutual Fund

The SEC announced charges against a New York-based investment adviser for misleading investors about the management of risk in a mutual fund. Catalyst Capital Advisors LLC (CCA) and its President and Chief Executive Officer, Jerry Szilagyi, agreed to pay a combined $10.5 million to settle the charges.  The SEC also filed a complaint in federal district court in Madison, Wisconsin, against Senior Portfolio Manager, Edward Walczak, for fraudulently misrepresenting how he would manage risk for the fund.

The SEC's settled order against CCA and Szilagyi finds that, although CCA told investors that it abided by a strict set of risk parameters for the Catalyst Hedged Futures Strategy Fund, it breached those parameters and failed to take the required corrective action during a majority of the trading days between December 2016 and February 2017. As alleged, the fund lost hundreds of millions of dollars – approximately 20% of its value – from December 2016 through February 2017 as markets moved against it.  The SEC's complaint against Walczak alleges that he told investors that the fund employed a risk management strategy involving safeguards to prevent losses of more than 8%, when in fact no such safeguards limited losses and Walczak did not otherwise consistently manage the fund to an 8% loss threshold.

"Fund managers must be truthful and transparent when describing their risk management procedures," said C. Dabney O'Riordan, Co-Chief of the SEC Enforcement Division's Asset Management Unit.

Daniel Michael, Chief of the Division's Complex Financial Instruments Unit, added, "Here, CCA's misrepresentations, and Walczak's alleged departure from his stated approach to managing risk, deprived investors of accurate information about an important aspect of the fund's management."

The SEC's order finds that CCA violated the antifraud provisions of the federal securities laws, and that Szilagyi was a cause of CCA's violations and failed reasonably to supervise Walczak. Without admitting or denying the findings, CCA and Szilagyi agreed to be censured, to cease and desist from future violations, and to certain undertakings as described in the order. CCA agreed to pay disgorgement of $8,176,722 plus prejudgment interest of $731,759, and a civil penalty of $1,300,000. Szilagyi agreed to pay a civil penalty of $300,000. The payments will be placed in a fair fund for distribution to affected investors. The SEC's complaint against Walczak alleges that he violated the antifraud provisions of the federal securities laws and seeks a permanent injunction, disgorgement of ill-gotten gains, and a civil penalty. In parallel action, the Commodity Futures Trading Commission (CFTC) today announced settled charges against CCA and Szilagyi, and a district court action against Walczak. [Please
login to the IA Act UnwrappedTM Releases Database to view Release No. IA-5436 In the Matter of Catalyst Capital Advisors, LLC and Jerry Szilagyi.]  Top 

OCIE Publishes Observations on Cybersecurity and Resiliency Practices

The SEC’s Office of Compliance Inspections and Examinations (OCIE) has issued examination observations related to cybersecurity and operational resiliency practices taken by market participants.

The observations highlight certain approaches taken by market participants in the areas of governance and risk management, access rights and controls, data loss prevention, mobile security, incident response and resiliency, vendor management, and training and awareness. The observations highlight specific examples of cybersecurity and operational resiliency practices and controls that organizations have taken to potentially safeguard against threats and respond in the event of an incident.

“Data systems are critical to the functioning of our markets and cybersecurity and resiliency are at the core of OCIE’s inspection efforts,” said SEC Chairman Jay Clayton.  “I commend OCIE for compiling and sharing these observations with the industry and the public and encourage market participants to incorporate this information into their cybersecurity assessments.”

“Through risk-targeted examinations in all five examination program areas, OCIE has observed a number of practices used to manage and combat cyber risk and to build operational resiliency,’ said Peter Driscoll, Director of OCIE.  “We felt it was critical to share these observations in order to allow organizations the opportunity to reflect on their own cybersecurity practices.” 

 

OCIE conducts examinations of SEC-registered investment advisers, investment companies, broker-dealers, self-regulatory organizations, clearing agencies, transfer agents, and others. It uses a risk-based approach to examinations to fulfill its mission to promote compliance with U.S. securities laws, prevent fraud, monitor risk, and inform SEC policy.  [Please login to the IA Act UnwrappedTM Examination Tools Database/2020 Information to view OCIE's Cybersecurity and Resiliency Observations.]  Top 

 

OCIE Announces 2020 Examination Priorities

On January 7, 2020, OCIE announced its 2020 examination priorities. OCIE publishes its examination priorities annually to enhance the transparency of its examination program and to provide insights into its risk-based approach, including the areas it believes present potential risks to investors and the integrity of the U.S. capital markets.

“OCIE’s 2020 examination priorities identify key areas of risk, both existing and emerging, that we expect self-regulatory organizations (SROs), clearing firms, investment advisers and other market participants to identify and mitigate. I applaud OCIE’s thoughtful, strategic and efficient focus, which is critical to the fulfillment of the SEC’s mission and our service to Main Street investors,” said SEC Chairman Jay Clayton.

“As markets evolve, so do risks and potential harm to investors. OCIE continually works to adjust its examination focus areas to target these risks and publishes its annual priorities to communicate where we see the potential for increased risk and related harm. We hope that this transparency helps firms evaluate and improve their compliance programs, which ultimately helps protect investors,” said OCIE Director Pete Driscoll.

OCIE’s 2020 examination priorities are:

Retail Investors, Including Seniors and Those Saving for Retirement – OCIE will continue its focus on the protection of retail investors, including the various intermediaries that serve and interact with retail investors and the investments marketed to, or designed for, retail investors. Examinations in these areas will include reviews of disclosures relating to fees, expenses, and conflicts of interest.

Market Infrastructure – OCIE will continue its focus on entities that provide services critical to the functioning of our capital markets, including clearing agencies, national securities exchanges, alternative trading systems, and transfer agents. Particular attention will be focused on the security and resiliency of entities’ systems.

Information Security – OCIE will continue to prioritize cyber and other information security risks across the entire examination program.

Focus Areas Relating to Investment Advisers, Investment Companies, Broker-Dealers, and Municipal Advisors
– OCIE will continue its risk-based examinations for each type of these registered entities. In particular, examinations of registered investment advisers (RIAs) will focus on RIAs that have never been examined, including new RIAs and RIAs registered for several years that have yet to be examined. These examinations will include RIAs advising retail investors as well as private funds.  Investment company examinations will focus on mutual funds and exchange-traded funds, the activities of their RIAs, and the oversight practices of their boards of directors. Broker-dealer examinations will focus on issues relating to the preparation for and implementation of recent rulemaking, along with trading practices. Municipal advisor examinations will include review of registration and continuing education requirements and municipal advisor fiduciary duty obligations to municipal entity clients.

Anti-Money Laundering Programs – OCIE will continue to review for compliance with applicable anti-money laundering (AML) requirements, including whether entities are appropriately adapting their AML programs to address their regulatory obligations.

Financial Technology (Fintech) and Innovation, Including Digital Assets and Electronic Investment Advice – OCIE recognizes that advancements in financial technologies, methods of capital formation and market structures, as well as registered firms’ use of new sources of data (often referred to as “alternative data”), warrant ongoing attention and review. OCIE also will continue to identify and examine SEC-registered firms engaged in the digital asset space, as well as RIAs that provide services to clients through automated investment tools and platforms, often referred to as “robo-advisers.”

FINRA and MSRB – OCIE will continue its oversight of the Financial Industry Regulatory Authority (FINRA) by focusing examinations on FINRA’s operations, regulatory programs, and the quality of FINRA’s examinations of broker-dealers and municipal advisors. OCIE will also continue to examine the Municipal Securities Rulemaking Board (MSRB) to evaluate the effectiveness of its operations and internal policies, procedures, and controls.

The published priorities for FY 2020 are not exhaustive and will not be the only areas OCIE focuses on in its examinations, risk alerts, and investor and industry outreach. While the priorities drive OCIE’s examinations, the scope of any examination is determined through a risk-based approach that includes analysis of a given entity’s history, operations, services, products offered, and other risk factors.

The collaborative effort to formulate the annual examination priorities starts with feedback from examination staff who are uniquely positioned to identify the practices, products, services and other factors that may pose risk to investors or the financial markets. OCIE staff also takes into account input and advice from the Chairman and other Commissioners, staff from other SEC divisions and offices, and other federal financial regulators. [Please
login to the IA Act UnwrappedTM Examination Tools Database/2020 Information to view the full text of OCIE's 2020 Examination Priorities publication.] Top 


SEC Proposes to Codify Certain Consultations and Modernize Auditor Independence Rules


The Commission announced that it is proposing amendments to codify certain staff consultations and modernize certain aspects of its auditor independence framework.  The proposed amendments would update select aspects of the nearly two-decade-old auditor independence rule set to more effectively structure the independence rules and analysis so that relationships and services that would not pose threats to an auditor’s objectivity and impartiality do not trigger non-substantive rule breaches or potentially time consuming audit committee review of non-substantive matters. 

“The proposed amendments are based on years of Commission staff experience in applying our auditor independence rule set and respond to recent and longer term feedback received from a wide range of market participants,” said Chairman Jay Clayton.  “The proposal is consistent with the Commission’s long-recognized view that an audit by an objective, impartial, and skilled professional enhances both investor protection and market integrity, and, in turn, facilitates capital formation.  In practice, the proposed amendments also would increase the number of qualified audit firms an issuer could choose from and permit audit committees and Commission staff to better focus on relationships that could impair an auditor’s objectivity and impartiality.”

Since the initial adoption of the auditor independence framework in 2000 and revisions in 2003, there have been significant changes in the capital markets and those who participate in them.  The proposed amendments primarily focus on fact patterns presented to Commission staff through consultations that involve a relationship with, or services provided to, an entity that has little or no relationship with the entity under audit, and no relationship to the engagement team conducting the audit.  In these scenarios (including the examples outlined below), the staff regularly observes that the audit firm is objective and impartial and, as a result, does not object to their continuing the audit relationship with the audit client.  

The public comment period will remain open for 60 days following publication of the proposing release in the Federal Register. [Please
login to the IA Act UnwrappedTM Releases Database to view proposing Release No. IA-5422 Amendments to Rule 2-01, Qualifications of Accountants.]

FACT SHEET - Amendments to Rule 2-01, Qualification of Accountants

Highlights


The Commission proposed amendments designed to modernize certain auditor independence requirements.  Many of the current independence requirements have not been updated since their initial adoption in 2000 and amendments in 2003.  Since that time, the Commission and our staff have, through several consultations per year, continued to learn about the application of our independence rule set and the efficiency and effectiveness of our independence requirements as market conditions and industry practices have changed.  The proposed amendments to Rule 2-01 are designed to respond to these changes, reflect the SEC staff’s experience administering the independence requirements, and incorporate consideration of the recent and longer term feedback received from the public.

Aspects of Current Rules that Do Not Impact Audit Firm Objectivity and Impartiality

The following examples, based, in part, on the SEC staff’s consultation experience, help to illustrate some of the concerns with the current rules that the proposals would address.

Example 1 – Student Loans

Audit Firm has an audit partner based in Atlanta who continues to pay his student loans taken to attend college before starting his career at Audit Firm.  A different audit partner in Atlanta audits the lender that provided the student loan, a large student loan company that originates thousands of student loans.  Under the current rules, the student loan of the audit partner who is not part of the audit would still lead to an independence violation for the audit engagement of the lender.

Example 2 – Portfolio Companies

Assume Company X is a U.S.-based portfolio company of Fund F.  Fund F invests in various companies around the globe, perhaps dozens or even hundreds, including Company X.  Audit Firm A is the auditor of Company X.  Also assume that two of Audit Firm A’s global network affiliates provide the services discussed below to two separate portfolio companies of Fund F.  Call them Company Y and Company Z.  Further assume that Company Y and Company Z have no relation to each other or to Company X except for the fact that Fund F is invested in each Company.  To add practical context, further assume that:

•    An Australian affiliate of Audit Firm A provides limited staffing services to a healthcare portfolio company based in Australia – Company Y – for a short-period of time to meet a resource need.

•    A Spanish affiliate of Audit Firm A provides payroll services for a lodging (hotel chain) portfolio company based in Spain – Company Z – for a short-period of time.

Also assume that Company X has its own separate governance structure that is unrelated to Company Y or Z, and Company Y and Z are not material to Fund F.  Under the current auditor independence rules, if Company X registers with the SEC (e.g., by conducting an IPO), Audit Firm A would not be independent of Company X as a result of the services provided to either Company Y or Z.  This is the case regardless of whether, as the SEC staff has observed in similar situations, these limited services at immaterial portfolio companies (Companies Y and Z) have no impact on the entity under audit in any way and do not impact the objectivity and impartiality of the auditor in conducting the audit for Company X.

The intent of the proposed amendments to the auditor independence rules is to avoid requiring Company X, under these and similar circumstances, to (1) replace Audit Firm A with another audit firm, (2) wait to register with the SEC for up to three years after termination of the services provided to Company Y and Company Z, or (3) make a determination, likely in consultation with Commission staff and/or the audit committee, that the rule violation did not impair the auditor’s objectivity and impartiality.

In some situations, the existing audit firm cannot be replaced as a practical matter because all other qualified audit firms have themselves provided services or established other relationships with portfolio companies of Fund F that triggered a breach of our independence rule.  The issue of the independence rule set affecting auditor choice is brought home by this example and has increased significantly as the asset management industry has grown, investments have become more global and the global audit services ecosystem has consolidated and become more specialized.

The hypothetical scenario described above is based directly on SEC staff’s experience over the past decade.  For the 12-month period ending September 30, 2019, the SEC staff has conducted a number of consultations in which this fact pattern, or one similar to it, was raised to the SEC staff by the registrant’s audit committee and its auditor, and the SEC staff, under such circumstances, did not object to the auditor’s and the audit committee’s conclusion that the auditor’s objectivity and impartiality would not be impaired.  SEC staff has provided similar feedback in these types of scenarios over the past decade.

Proposed Amendments to Rule 2-01

The proposed amendments would, if adopted:

•    Amend the definitions of affiliate of the audit client, in Rule 2-01(f)(4), and Investment Company Complex, in Rule 2-01(f)(14), to address certain affiliate relationships, including entities under common control;

•    Amend the definition of the audit and professional engagement period, specifically Rule 2-01(f)(5)(iii), to shorten the look-back period, for domestic first time filers in assessing compliance with the independence requirements;

•    Amend Rule 2-01(c)(1)(ii)(A)(1) and (E) to add certain student loans and de minimis consumer loans to the categorical exclusions from independence-impairing lending relationships;

•    Amend Rule 2-01(c)(3) to replace the reference to “substantial stockholders” in the business relationship rule with the concept of beneficial owners with significant influence;

•    Replace the outdated transition and grandfathering provision in Rule 2-01(e) with a new Rule 2-01(e) to introduce a transition framework to address inadvertent independence violations that only arise as a result of merger and acquisition transactions; and

•    Make certain miscellaneous updates.

What’s Next?


The public comment period will remain open for 60 days following publication of the proposing release in the Federal Register.  Top 

 

SEC Proposes to Modernize Regulation of the Use of Derivatives by Registered Funds and Business Development Companies

The SEC has voted to propose a new rule designed to enhance the regulation of the use of derivatives by registered investment companies, including mutual funds, exchange-traded funds (ETFs) and closed-end funds, as well as business development companies. The proposed rule would provide an updated and more comprehensive approach to the regulation of funds’ derivatives use.

“The Commission’s proposal recognizes the extensive changes that have taken place in our capital markets and the fund industry over the past several decades, including the importance of derivatives in effective portfolio management,” said SEC Chairman Jay Clayton. “Funds frequently use derivatives to gain exposure to certain asset classes more efficiently and to mitigate risks, but in certain cases derivatives can heighten risks to investors and markets, including risks related to leverage. By standardizing the framework for funds’ derivatives risk management, the proposal would benefit investors, funds and our markets, including by providing for more-effective risk management across funds and enhanced investor protections.”

The Investment Company Act limits the ability of registered funds and business development companies to obtain leverage, including by engaging in transactions that involve potential future payment obligations. Leverage is commonly thought of in terms of purchasing securities with borrowed funds. However, derivatives, such as forwards, futures, swaps and written options, can also create future payment obligations. The proposed rule would permit these funds to use derivatives that create such obligations, provided that they comply with certain conditions designed to protect investors.

These conditions include adopting a derivatives risk management program and complying with a limit on the amount of leverage-related risk that the fund may obtain, based on value-at-risk. A streamlined set of requirements would apply to funds that use derivatives in a limited way. The proposed rule would also permit a fund to enter into reverse repurchase agreements and similar financing transactions, as well as “unfunded commitments” to make certain loans or investments, subject to conditions tailored to these transactions.

Certain registered investment companies that seek to provide leveraged or inverse exposure to an underlying index—including leveraged ETFs—would not be subject to the proposed limit on fund leverage risk but instead would be subject to alternative requirements under the Commission’s proposal. These funds would have to limit the investment results they seek to 300% of the return (or inverse of the return) of their underlying index (i.e., three times leveraged). Sales of these funds also would be subject to proposed new sales practices rules. Under these new rules, a broker, dealer, or investment adviser that is registered with the Commission would have to exercise due diligence in approving a retail customer or client’s account to buy or sell shares of these funds, as well as shares of exchange-listed commodity or currency pools that have similar investment strategies. These proposed new rules are designed to help ensure that retail investors in these products are limited to those who are capable of evaluating their characteristics—including that the funds would not be subject to all of the leverage-related requirements under the proposed rule applicable to registered investment companies generally—and the unique risks they present.

The proposal will be published on SEC.gov and in the Federal Register. The comment period for the proposal will be 60 days after publication in the Federal Register.

FACT SHEET


Use of Derivatives by Registered Investment Companies and Business Development Companies; Required Due Diligence by Broker-Dealers and Registered Investment Advisers Regarding Retail Customers’ Transactions in Certain Leveraged/Inverse Investment Vehicles

Highlights


The Commission voted to propose new rules, and rule and form amendments, designed to provide an updated, comprehensive approach to the regulation of funds’ use of derivatives and certain other transactions. Proposed new rule 18f-4, an exemptive rule under the Investment Company Act of 1940 (the “Act”),would permit mutual funds, exchange-traded funds (“ETFs”), registered closed-end funds, and business development companies (collectively, “funds”)to enter into derivatives transactions and certain other transactions notwithstanding the restrictions under section 18 of the Act.

The Commission also proposed new sales practice rules—rule 15l-2 under the Securities Exchange Act of 1934 and rule 211(h)-1 under the Investment Advisers Act of 1940—designed to address specific considerations raised by certain leveraged or inverse funds and exchange-listed commodity or currency pools (“leveraged investment vehicles”). In connection with these proposed new rules, the Commission proposed to amend rule 6c-11 under the Act to allow certain leveraged or inverse ETFs to operate without obtaining an exemptive order.

Finally, the Commission proposed new reporting requirements and amendments to certain disclosure forms.

Proposed Rule 18f-4 Under the Investment Company Act

The development of staff guidance and industry practice on an instrument-by-instrument basis, together with growth in the volume and complexity of derivatives markets over past decades, has resulted in situations in which different funds may treat the same kind of derivative differently, based on their own view of our staff’s guidance or observation of industry practice. Where there is no specific guidance, or where the application of existing guidance is unclear or applied inconsistently, funds may take approaches that may not address the purposes and concerns underlying section 18.

Proposed rule 18f-4 would impose a uniform set of conditions and provide certain exemptions from the Act. The conditions include the following:

Proposed Sales Practice Rules and Amendments to Rule 6c-11

The proposed sales practice rules would establish a set of due diligence and approval requirements for broker-dealers and SEC-registered investment advisers with respect to trades in shares of certain leveraged investment vehicles.

Under the proposed rules, a firm would have to exercise due diligence in determining whether to approve a retail customer or client’s account to buy or sell leveraged investment vehicles. A broker-dealer or investment adviser could only approve the account if it had a reasonable basis to believe that the customer or client is capable of evaluating the risks associated with these products.

The proposed amendments to Investment Company Act rule 6c-11 would permit certain leveraged or inverse ETFs to rely on rule 6c-11. The Commission proposed to rescind the exemptive orders previously issued to the sponsors of leveraged or inverse ETFs in connection with any adoption of the proposed amendments.

Reporting Requirements


The proposal would require a fund to report confidentially to the Commission on a current basis on Form N-LIQUID (to be renamed “Form N-RN”) if the fund is out of compliance with the VaR-based limit on fund leverage risk for more than three consecutive business days. The proposal also would amend Forms N-PORT and N-CEN to require funds that are currently required to file these forms to provide certain information regarding a fund’s derivatives exposure and, as applicable, information regarding the fund’s VaR. This information would be publicly available.

Review of Relevant Staff Guidance

In view of the proposal’s updated, comprehensive approach to the regulation of funds’ derivatives use, the Commission proposed to rescind a 1979 General Statement of Policy (Release 10666), which provides Commission guidance on how funds may use certain derivatives and derivatives-like transactions in light of section 18’s restrictions. In addition, staff in the Division of Investment Management is reviewing its no-action letters and other guidance addressing funds’ use of derivatives and other transactions covered by proposed rule 18f-4 to determine which letters and staff guidance, or portions thereof, should be withdrawn in connection with any adoption of the proposal.

What’s Next?
The proposal will be published on SEC.gov and in the Federal Register. The public comment period will remain open for 60 days after publication in the Federal Register.

The Commission also approved for use two short-form tear sheets to gather information. Funds are encouraged to submit additional feedback on proposed rule 18f-4 in light of their current risk management practices. Broker-dealers and investment advisers are encouraged to submit additional feedback on the proposed sales practice rules. While any commenter could use these tear sheets, they are particularly aimed at smaller funds, advisers, and broker-dealers, and are designed to help these smaller entities provide feedback on how the proposal would affect them. [Please
login to the IA Act UnwrappedTM Release Database to access Proposing Release No. IA-5413 Use of Derivatives by Registered Investment Companies and Business Development Companies; Required Due Diligence by Broker-Dealers and Registered Investment Advisers Regarding Retail Customers’ Transactions in Certain Leveraged/Inverse Investment Vehicles]   Top 

New Frequently Asked Questions on Form CRS

The staff of the Division of Investment Management and the Division of Trading and Markets have prepared responses to questions about Form CRS and expect to periodically update responses to additional questions.  These responses represent the views of the staff of the Division of Investment Management and the Division of Trading and Markets.  Replies to questions under the new FAQs include  Relationship Summary Format and Delivery Requirements. [Please
login to the IA Act UnwrappedTM Regulatory Database Rule 204-5:Delivery of Form CRS to access the new questions and answers.]   Top 

SEC Revokes Registration of Adviser Engaged in $60 Million Fraud

The SEC has revoked the registration of New York-based investment adviser International Investment Group LLC (IIG), which the Commission recently charged with securities fraud for hiding losses in its flagship hedge fund and selling at least $60 million in fake loan assets to clients.

The SEC's complaint, filed on Nov. 21, 2019, in federal court in New York, alleges that IIG grossly overstated the value of defaulted loans in the fund’s portfolio to conceal losses in its flagship hedge fund. In an effort to continue its deception, IIG allegedly doctored the firm's records to show that the defaulted loans had been repaid and that the proceeds had been used to make new loans, when in fact there had been no repayment and the purported new loans were fake. The SEC's complaint further alleges that IIG sought to raise money to meet investor redemption requests and other liabilities by selling at least $60 million in fake trade finance loans to other clients. To deceive clients into purchasing these loans, an IIG employee allegedly had fake documentation created to substantiate the non-existent loans, including fake promissory notes and a forged credit agreement.

"This case shows that even sophisticated professional investors can fall victim to Ponzi schemes," said Daniel Michael, Chief of the SEC's Complex Financial Instruments Unit. "The revocation of IIG's registration is necessary to protect the public in light of IIG's egregious breaches of its fiduciary duty as an investment adviser."

IIG consented to a bifurcated settlement under which it is enjoined from future violations of the antifraud provisions of the federal securities laws. The judgment, which the court entered on Nov. 26, 2019, also imposes a preliminary asset freeze, but reserves the issue of any monetary relief, including disgorgement, prejudgment interest, and civil penalties, for further determination by the court upon motion of the SEC. [Please
login to IA Act UnwrappedTM to view Release No. IA-5414 In the Matter of International Investment Group, LLC]   Top 

 

2020 Renewal Program
 

The 2020 Renewal Program Calendar is now available. Preliminary Statements will be available November 11 in E-Bill. Renewal reports will continue to be available through IARD/CRD for reconciliation purposes. See the IARD Reports Quick Reference Guide for additional information.

Note: Effective with the 2020 Renewal program, the Annual IA Representative System Processing Fee will increase from $10 to $15. The Initial IA Representative System Processing Fee will also increase to $15 dollars on January 2, 2020. [Please
login to the IA Act UnwrappedTM Regulatory Database - Rule 204-1 Form ADV Amendments for more information regarding renewals.]  Top

 

Enforcement Publishes Annual Report for FY2019

The SEC's Division of Enforcement has issued its annual report for fiscal year 2019. The report details the division’s efforts and initiatives on behalf of investors, highlights several significant actions, and presents the activities of the division from both a qualitative and quantitative perspective.

“The results depicted in this report reflect the division’s focus on rooting out misconduct that can do significant harm to investors and our markets, and the focus the division places on identifying wrongdoing and taking prompt action to effectively help harmed investors,” said SEC Chairman Jay Clayton. “Across a broad array of cases, the Enforcement staff has continued to show determination, sophistication, and thoughtfulness in detecting and deterring bad conduct and crafting meaningful remedies. I thank the dedicated women and men of the division, in our home office and in our 11 regional offices, for their efforts in support of our mission and investors.”

As in prior years, the report describes the division’s efforts guided by five core principles: (1) focus on the Main Street investor, (2) focus on individual accountability, (3) keep pace with technological change, (4) impose remedies that most effectively further enforcement goals, and (5) constantly assess the allocation of resources.

“The report shows how the principles we have articulated inform our work to protect investors and ensure that the U.S. securities markets remain the safest and strongest in the world,” said Stephanie Avakian, Co-Director of the SEC’s Division of Enforcement.

In fiscal year 2019, the SEC brought a diverse mix of 862 enforcement actions, including 526 standalone actions. These actions addressed a broad range of significant issues, including issuer disclosure/accounting violations; auditor misconduct; investment advisory issues; securities offerings; market manipulation; insider trading; and broker-dealer misconduct. Through these actions, the SEC obtained judgments and orders totaling more than $4.3 billion in disgorgement and penalties. Importantly, the SEC also returned roughly $1.2 billion to harmed investors as a result of enforcement actions.

“The actions and initiatives described in the report reflect our deliberate, principled approaches to investigations, litigation, and case resolutions,” said Steven Peikin, Co-Director of the SEC’s Enforcement Division. “We are proud of the work Enforcement staff did in enabling the SEC to punish misconduct, deter future wrongdoing, and obtain relief for harmed investors.” [Please
login to the IA Act UnwrappedTM Examination Tools Database/2019 Information to access the full report.]  Top 

 

SEC Proposes to Modernize the Advertising and Cash Solicitation Rules for Investment Advisers

The SEC has voted to propose amendments to modernize the rules under the Investment Advisers Act addressing investment adviser advertisements and payments to solicitors. The proposed amendments are intended to update these rules to reflect changes in technology, the expectations of investors seeking advisory services, and the evolution of industry practices.

“The advertising and solicitation rules provide important protections when advisers seek to attract clients and investors, yet neither rule has changed significantly since its adoption several decades ago,” said SEC Chairman Jay Clayton. “The reforms we have proposed today are designed to address market developments and to improve the quality of information available to investors, enabling them to make more informed choices.”

The proposed amendments to the advertising rule would replace the current rule’s broadly drawn limitations with principles-based provisions. The proposed approach would also permit the use of testimonials, endorsements, and third-party ratings, subject to certain conditions, and would include tailored requirements for the presentation of performance results based on an advertisement’s intended audience.

The proposed amendments to the solicitation rule would expand the current rule to cover solicitation arrangements involving all forms of compensation, rather than only cash, subject to a new de minimis threshold. They also would update other aspects of the rule, such as who is disqualified from acting as a solicitor under the rule.

The public comment period will remain open for 60 days following publication of the proposal in the Federal Register.

FACT SHEET
Investment Adviser Advertisements; Compensation for Solicitations
Nov. 4, 2019

Highlights


The Commission today voted to propose amendments to the rules that prohibit certain investment adviser advertisements and payments to solicitors, respectively, under the Investment Advisers Act of 1940 (the “Act”). Neither rule has been amended significantly since its adoption in 1961 and 1979, respectively. Since that time, the Commission and our staff have continued to learn about adviser marketing and solicitation practices, as those practices have evolved significantly with advancements in technology and the changes within the asset management industry and its investor base. The proposed amendments to Rule 206(4)-1 and Rule 206(4)-3 are designed to respond to these changes.

The Commission has also voted to propose amendments to Form ADV, the investment adviser registration form, and Rule 204-2, the books and records rule, which would reflect the changes proposed to the advertising and solicitation rules.

Proposed Amendments to Advertising Rule

The proposed amendments to Rule 206(4)-1 would replace the current rule’s broadly drawn limitations with more principles-based provisions, as described below.

Definition of Advertisement.  The proposal would update the definition of “advertisement” so that it is flexible enough to remain relevant and effective in the face of advances in technology and evolving industry practices.  

The definition would include any communication, disseminated by any means, by or on behalf of an investment adviser, that offers or promotes investment advisory services or that seeks to obtain or retain advisory clients or investors in any pooled investment vehicle advised by the adviser.

The Commission proposed exclusions from this definition for:  (1) live oral communications that are not broadcast, (2) responses to certain unsolicited requests for specified information, (3) advertisements, other sales material, or sales literature that is about a registered investment company or a business development company and is within the scope of other Commission rules; and (4) information required to be contained in a statutory or regulatory notice, filing, or other communication.

General Prohibitions.  The proposed rule would prohibit the following advertising practices:  

Testimonials and Endorsements.  The proposal would permit testimonials and endorsements, subject to specified disclosures, including whether the person giving the testimonial or endorsement is a client and whether compensation has been provided by or on behalf of the adviser.

Third-Party Ratings.  The proposed rule would permit third-party ratings, subject to specified disclosures and certain criteria pertaining to the preparation of the rating.

Performance Information Generally.  The proposal would prohibit including in any advertisement: 

Performance Information in a Retail Advertisement. The proposed rule would provide additional protections for an advertisement targeted to a retail audience:  (1)requiring the presentation of net performance alongside any presentation of gross performance, and (2)requiring generally the presentation of the performance results of any portfolio or certain composite aggregations across 1-, 5-, and 10-year periods.

Internal Pre-Use Review and Approval.  In addition, the proposed amendments would require advertisements to be reviewed and approved in writing by a designated employee before dissemination, except for advertisements that are:  (1) communications disseminated only to a single person or household or to a single investor in a pooled investment vehicle; or (2) live oral communications broadcast on radio, television, the internet, or any other similar medium. 

Proposed Amendments to Solicitation Rule

The proposed amendments to Rule 206(4)-3 would largely make refinements in scope, written agreement content, and disclosure requirements, as described below.

Scope.

All Forms of Compensation.  The proposed rule would apply regardless of whether an adviser pays cash or non-cash compensation to a solicitor.  Non-cash compensation would include directed brokerage, awards or other prizes, and free or discounted services.

Private Fund Solicitors.  The proposed rule would apply to the solicitation of current and prospective investors in private funds, rather than only to the solicitation of current and prospective clients of the adviser.

Exempt Arrangements.  The proposed rule would substantially retain the current rule’s partial exemptions for (1) solicitors that refer investors for impersonal investment advice, and (2) solicitors that are employees or otherwise affiliated with the adviser.  However, these arrangements would no longer be subject to the current rule’s written agreement requirement.  The proposal would also add two new full exemptions for: (1) de minimis compensation to solicitors, and (2) advisers that participate in certain nonprofit programs.

Disqualified Solicitors
.  The proposed rule contains an expanded list of disciplinary events for which persons would be disqualified from acting as a solicitor, with a limited exception.

Written Agreement.  Under the proposed rule, an adviser that compensates a solicitor for solicitation activities would be required to enter into written agreement with the solicitor, unless an exemption applies.  The proposed rule would require that the written agreement include: (1) a description of the solicitation activities and compensation, (2) a requirement that the solicitor perform its solicitation activities in accordance with certain provisions of the Advisers Act, and (3) a requirement that solicitor disclosure be delivered to investors.  The proposed rule would eliminate the current rule’s requirements that the solicitor agree to deliver the adviser’s Form ADV brochure and perform its solicitation activities consistent with the instructions of the adviser. 

Disclosure Requirements. The solicitor disclosure required under the proposed rule would continue to highlight for investors the solicitor’s financial interest in the client’s choice of an investment adviser.  Our proposal would modify the current solicitor disclosure to include additional information about a solicitor’s conflict of interest. Our proposal would eliminate the current rule’s requirement that the adviser obtain from each investor acknowledgments of receipt of the disclosures.

Oversight of Solicitors. The proposed rule would require that the adviser have a reasonable basis for believing that the solicitor has complied with the rule’s written agreement, including complying with the solicitor disclosure requirement. This requirement would be largely the same as the current rule.

Proposed Amendments to the Books and Records Rule and to Form ADV

The proposed amendments to Rule 204-2 relate to the proposed amendments to the advertising and solicitation rules.

Finally, today’s proposal would amend Form ADV to provide additional information regarding advisers’ advertising practices to help facilitate the Commission’s inspection and enforcement capabilities.

Review of Relevant Staff Guidance

Staff in the Division of Investment Management have issued a number of no-action letters and other guidance addressing the application of the current advertising and solicitation rules.  The Commission’s release accompanying the proposed amendments includes a list of the relevant letters and guidance.  The staff is reviewing these letters to determine whether any should be withdrawn in connection with any adoption of the proposed amendments.

What’s Next? - The proposed amendments will be published on the Commission’s website and in the Federal Register.  The public comment period will remain open for 60 days after publication in the Federal Register.

The Commission also approved for use two short-form tear sheets (“feedback flyers”) to gather information. Investors are encouraged to submit additional feedback about their experiences with adviser marketing on the investor feedback flyer. Smaller advisers are encouraged to submit additional feedback about how the proposed rules would affect them on the adviser feedback flyer The feedback flyers are available on the Commission’s website. [Please
login to the IA Act UnwrappedTM Releases Database to view Release No. IA-5407 Investment Adviser Advertisements; Compensation for Solicitations]  Top

Regulatory Agencies Join the Global Financial Innovation Network

The Commodity Futures Trading Commission (CFTC), Federal Deposit Insurance Corporation (FDIC), Office of the Comptroller of the Currency (OCC), and the Securities and Exchange Commission (SEC) have announced joining the Global Financial Innovation Network (GFIN).

U.S. financial regulators have taken proactive steps in recent years to enhance regulatory clarity and understanding for all stakeholders and promote early identification of emerging regulatory opportunities, challenges, and risks. Participation in the GFIN furthers these objectives and enhances the agencies’ abilities to encourage responsible innovation in the financial services industry in the United States and abroad. By promoting knowledge-sharing on innovation in financial services, U.S. members of GFIN will seek to advance financial and market integrity, consumer and investor protection, financial inclusion, competition, and financial stability. Participation in international organizations such as this helps U.S. financial regulators represent the interests and needs of the nation and its financial services stakeholders.

The agencies join 46 other financial authorities, central banks, and international organizations from around the globe that are members of the GFIN to foster greater cooperation among financial authorities on a variety of innovation topics, regulatory approaches, and lessons learned. Top 

FAQs Regarding Disclosure of Certain Financial Conflicts Related to Investment Adviser Compensation

The Division of Investment Management has published Frequently Asked Questions discussing certain compensation arrangements and related disclosure obligations arising from both the investment adviser’s fiduciary duty and Form ADV.

Compensation that an investment adviser, its affiliates or its associated persons receives in connection with the investments it recommends and related services it provides can result in the investment adviser having interests that conflict with those of its clients.

The Division notes that many investment advisers appear to have recognized these conflicts and have responded through practices designed to address them, including through elimination, disclosure or a combination of disclosure and mitigation. However, SEC examinations staff have observed and enforcement cases have illustrated that, in some instances, investment advisers have not appropriately addressed these conflicts of interest. [Please
login to the IA Act UnwrappedTM Examination Tools Database/2019 Information to view the full text of the Division’s publication and FAQs.]   Top 

 

SEC Announces the Formation of Asset Management Advisory Committee

The SEC has announced the formation of an Asset Management Advisory Committee formed to provide the Commission with diverse perspectives on asset management and related advice and recommendations. Topics the committee may address include trends and developments affecting investors and market participants, the effects of globalization, and changes in the role of technology and service providers. The committee is comprised of a group of outside experts, including individuals representing the views of retail and institutional investors, small and large funds, intermediaries, and other market participants.

“Asset management is a critical component of our markets and is especially important to Main Street investors,” said SEC Chairman Jay Clayton. “This committee will help the Commission ensure that our regulatory approach to asset management meets the needs of retail investors and market participants at a time when the industry is evolving rapidly. I would like to thank each of the committee members for agreeing to participate on this important committee.”

Chairman Clayton has appointed Edward Bernard, Senior Advisor to T. Rowe Price, as the initial committee Chairman. Other committee members include:


John Bajkowski, President and Chief Executive Officer, American Association of Individual Investors
Michelle McCarthy Beck, Chief Risk Officer, TIAA Financial Solutions
Jane Carten, Director, President, Director, and Portfolio Manager, Saturna Capital
Scot Draeger, President-Elect, General Counsel, and Director of Wealth Management, R.M. Davis Inc.
Mike Durbin, President, Fidelity Institutional
Gilbert Garcia, Managing Partner, Garcia Hamilton & Associates
Paul Greff, Chief Investment Officer, Ohio Public Employees Retirement System
Rich Hall, Deputy Chief Investment Officer, The University of Texas/Texas A&M Investment Management Co.
Neesha Hathi, Executive Vice President and Chief Digital Officer, Charles Schwab Corp.
Adeel Jivraj, Partner, Ernst & Young LLP
Ryan Ludt, Principal and Global Head of ETF Capital Markets and Broker/Index Relations, Vanguard
Susan McGee, Board Member, Goldman Sachs BDC Inc.
Jeffrey Ptak, Head of Global Manager Research, Morningstar Research Services
Erik Sirri, Professor of Finance, Babson College, and Independent Trustee, Natixis Funds, Loomis Sayles Funds, and Natixis ETFs
Aye Soe, Managing Director and Global Head of Product Management, S&P Dow Jones Indices
Ross Stevens, Founder and Chief Executive Officer, Stone Ridge Asset Management
Rama Subramaniam, Head of Systematic Asset Management, GTS
John Suydam, Chief Legal Officer, Apollo Global Management
Mark Tibergien, Managing Director and Chief Executive Officer of Advisor Solutions, BNY Mellon | Pershing
Russ Wermers, Dean’s Chair in Finance and Chairman of the Finance Department, University of Maryland’s Smith School of Business, and Managing Member, Wermers Consulting LLC 
Alex Glass, Indiana Securities Commissioner (non-voting)
Tom Selman, Executive Vice President, Regulatory Policy, and Legal Compliance Officer, FINRA (non-voting)


The committee will be formally established on Nov. 1, 2019 for an initial two-year term, which can be renewed by the Commission. The Commission will announce further details about the committee in the near future. Top 

SEC Charges IAs with Unlawful Proxy Voting of Client Securities

The SEC announced settled charges against two registered investment advisers, New York-based Amadeus Wealth Advisors LLC and California-based Three Bridge Wealth Advisors LLC, for the unlawful proxy voting of client securities.

The SEC's orders find that on two separate occasions in 2015, Amadeus and Three Bridge both voted client proxies notwithstanding representations in their client advisory agreements and regulatory filings with the SEC that they would not accept or exercise proxy voting authority over client securities. Both firms managed mainly retail accounts during that period. According to the SEC's orders, at the request of representatives of the same registered broker-dealer, Amadeus and Three Bridge each executed and returned to the broker-dealer letters voting proxies for numerous clients in securities of issuers affiliated with that broker-dealer. In each instance, the advisory firms cast their clients' votes in favor of the proposition at issue for the proxy being solicited on behalf of the issuer. Neither advisory firm made any disclosure to any of the clients or sought authority to vote those clients' proxies prior to executing and returning the letters to the broker-dealer. Amadeus voted client proxies without authority for a total of 20 client accounts, while Three Bridge did so for over 65 client accounts.

The SEC's orders find that Amadeus and Three Bridge violated Section 206(2) of the Investment Advisers Act of 1940 by engaging in this conduct. Without admitting or denying the SEC's findings, Amadeus and Three Bridge each consented to a cease-and-desist order and agreed to pay civil monetary penalties of $40,000 and $60,000, respectively. [Please
login to IA Act UnwrappedTM to view Release Nos. IA-5375 In the Matter of Three Bridge Wealth Advisors, LLC & IA-5374 In the Matter of Amadeus Wealth Advisors, LLC under Regulatory Database Rule 206(4)-6 Risks/Significant Cases Tab]  Top 


Cash Solicitation Rule Violations

On September 26, 2019, the SEC issued Release No. IA-5371 In the Matter of Cetera Investment Advisers LLC.  These proceedings arise out of Cetera’s violation of Section 206(4) of the Advisers Act and Rule 206(4)-3 thereunder (the “Solicitor Rule”), which prohibit a registered investment adviser from paying a solicitor a cash fee for solicitation activities unless, among other things, the solicitor furnishes the client with a separate written disclosure document identifying the solicitor and the investment adviser, describing the nature of the relationship between the solicitor and the investment adviser, and specifying the terms of the compensation arrangement.

Since at least January 2007, Cetera has paid cash fees to approximately 350 banks to, among other things, solicit investment advisory clients on behalf of Cetera. As part of this process, Cetera did not require the banks to give clients a separate written disclosure document or otherwise provide the information required under the Solicitor Rule.

As a result, Cetera’s clients were not informed of the extent of the banks’ financial interest in the clients’ choice of Cetera as an investment adviser and did not have all of the information that would enable them to evaluate the solicitor’s recommendation. By paying cash fees for solicitation activities and not ensuring that advisory clients received the required disclosures, Cetera violated the Solicitor Rule.
[Please login to IA Act UnwrappedTM to view Release No. IA-5371 In the Matter of Cetera Investment Advisers LLC under Regulatory Database Rule 206(4)-2 Risks/Significant Cases.]  Top   
 

SEC Orders IA to Return Nearly $1.5 Million to Clients Harmed by Share Class Selection Disclosure Violations

On September 30, 2019, the Commission announced that dually-registered investment adviser and broker-dealer Founders Financial Securities, LLC has agreed to settle charges that it invested clients in more expensive mutual fund share classes, which provided the firm with financial benefits, without disclosing this conflict to clients. The settlement includes a distribution to harmed investors.

The SEC's order finds that Maryland-based Founders purchased, recommended or held for advisory clients mutual fund share classes that charged 12b-1 fees instead of available lower-cost share classes of the same funds for which the clients were eligible. Those 12b-1 fees were then passed on to Founders, or used to offset amounts due from Founders for the cost of client custody services. This practice created a conflict of interest that the firm did not adequately disclose to clients.

In addition, the order finds that Founders breached its duty to seek best execution for its clients by investing them in mutual fund share classes with 12b-1 fees rather than available lower-cost share classes of the same funds. According to the SEC's order, Founders also failed to adopt and implement written policies and procedures designed to prevent these violations.

The SEC's order finds that Founders violated the antifraud provisions of Sections 206(2) and 206(4) of the Investment Advisers Act of 1940 and Rule 206(4)-7 thereunder. Without admitting or denying the SEC's findings, Founders will pay disgorgement of $1,246,133, prejudgment interest of $229,332, and a civil penalty of $140,000. Founders has agreed to distribute $1,475,465 to harmed investors. Founders also consented to a censure and the entry of a cease-and-desist order from committing or causing further violations of these provisions of the federal securities laws.  [Please
login to IA Act UnwrappedTM to view Release No. IA-5397 In the Matter of Founders Financial Securities, LLC]  Top 

SEC Charges Hedge Fund Adviser and Top Executives With Fraud

 

The SEC has charged SBB Research Group, LLC, a Chicago-area hedge fund adviser and its two top executives with a multi-year fraud that inflated fund values.  According to the SEC's complaint, SBB Chief Executive Officer Samuel Barnett founded the firm in 2010 while still in college, raised millions from friends and family members, and invested almost exclusively in structured notes. The complaint alleges that as SBB sought outside investors, Barnett and Chief Operating Officer and Chief Compliance Officer Matthew Aven promised prospective investors that they would use "fair value" when recording investments. Instead, they used their own valuation model to artificially inflate the value of the structured notes.

 

As a result, SBB misstated the funds' historical performance and overcharged investors approximately $1.4 million in fees. According to the complaint, once the valuation issues were uncovered by SEC exam staff, the defendants took steps to conceal their fraud from investors and SBB's auditor. The complaint alleges that when SBB hired an outside valuation firm in 2016, performance for its flagship fund was slashed, and SBB surreptitiously credited investors for the overcharged fees but did not disclose the underlying problem.

 

"Investors rely on investment advisers to accurately value assets and disclose fund performance," said Daniel Michael, Chief of the SEC Division of Enforcement’s Complex Financial Instruments Unit. "As alleged in the SEC's complaint, SBB, Barnett, and Aven intentionally manipulated valuation models to deceive current and prospective investors."

 

The SEC's complaint, filed in the U.S. District Court for the Northern District of Illinois, charges the defendants with violations of the antifraud provisions of the federal securities laws and seeks permanent injunctions and civil penalties.  Top 

 

SEC Orders an Additional 16 Self-Reporting Advisory Firms to Pay Nearly $10 Million to Investors
Orders Firm That Did Not Self-Report to Pay $300,000 Penalty for Disclosure Failures

The SEC announced settled charges against 17 investment advisers for disclosure failures regarding their mutual fund share class selection practices. The firms include 16 advisers that self-reported as part of the Division of Enforcement’s Share Class Selection Disclosure Initiative and one adviser that did not self-report and was ordered to pay a $300,000 civil penalty.

As part of the initiative announced on Feb. 12, 2018, the Division of Enforcement agreed that for eligible firms that self-reported by the deadline, the Division would recommend standardized settlement terms to the Commission, including that the Commission not impose a civil penalty. On March 11, 2019, the Commission instituted actions against 79 advisers that participated in the initiative, ordering the payment of over $125 million in disgorgement and prejudgment interest to investors. Today, the Commission issued orders against 16 additional advisers that self-reported as part of the initiative, bringing the total amount ordered to be returned to investors to over $135 million. The Commission did not order a civil penalty as to any of those self-reporting firms.

The Commission today also charged Mid Atlantic Financial Management Inc., which was eligible to self-report as part of the initiative but did not. The Commission found that Mid Atlantic, whose affiliate received 12b-1 fees, failed to fully disclose the conflicts arising from its selection of more expensive mutual fund share classes for clients when lower-cost share classes for the same fund were available. Among other things, the SEC ordered Mid Atlantic to pay over $1 million in disgorgement and prejudgment interest. Unlike the firms that self-reported as part of the initiative, however, the Commission also ordered Mid Atlantic to pay a $300,000 civil monetary penalty.

“Today’s actions reaffirm the benefits to advisers and their clients for self-reporting as part of the Initiative,” said C. Dabney O’Riordan, Co-Chief of the Asset Management Unit. “They also demonstrate the Commission’s commitment to holding advisers accountable for selecting more expensive investments that eat away at their clients’ investment returns without proper disclosure.”

The SEC’s orders find that the 16 self-reporting firms violated Section 206(2) of the Investment Advisers Act of 1940, and ordered that they are censured, that they cease and desist from future violations, that they pay disgorgement and prejudgment interest totaling nearly $10 million and that they comply with certain undertakings, including returning the money to investors. As to Mid Atlantic, the SEC’s order finds that it violated Sections 206(2) and 206(4) of the Investment Advisers Act of 1940 and Rule 206(4)-7 thereunder, and ordered that it is censured, that it cease-and-desist from future violations, that it pay disgorgement and prejudgment interest totaling over $1 million and a $300,000 civil penalty, and that it comply with certain undertakings, including returning the money to investors.  Top 

Two BMO Advisory Firms Pay Over $37 Million to Harmed Clients for Failing to Disclose Conflicts of Interest

Two BMO advisers have agreed to pay over $37 million to settle charges regarding their failure to tell clients about certain aspects of how the advisers selected investments in their retail investment advisory program, known as the Managed Asset Allocation Program (MAAP), which included the selection of more expensive investments from which BMO advisers profited.

According to the SEC’s order, when selecting investments for clients, BMO Harris Financial Advisors Inc. (BMO Harris) and BMO Asset Management Corp. (BMO Asset Mgmt) preferred mutual funds managed by BMO Asset Mgmt (proprietary funds) and invested approximately 50% of MAAP client assets in proprietary funds. This practice resulted in payment of additional management fees to BMO Asset Mgmt, however, the SEC’s order found that neither BMO adviser disclosed this practice or the associated conflict of interest to clients. Moreover, the SEC’s order found that, when considering mutual funds for MAAP, BMO Asset Mgmt evaluated the lower-cost institutional share class for both proprietary and non-proprietary funds, but the higher-cost, non-institutional share class for proprietary mutual funds always was selected for MAAP.

In addition, the SEC found that BMO Harris failed to disclose its conflicts of interest arising from investing MAAP client assets in higher-cost share classes of certain mutual funds, including funds managed by BMO Asset Mgmt, when lower-cost share classes were available. By selecting the higher-cost share classes, BMO Harris received revenue sharing payments and avoided paying certain transaction costs, while clients received lower returns on these investments.

“These BMO advisers repeatedly put their own financial interests ahead of clients by giving preference to their own mutual funds or selecting higher-cost share classes,” said C. Dabney O’Riordan, Co-Chief of the SEC Enforcement Division’s Asset Management Unit. “This is important information for an adviser to tell clients as it goes to the heart of the adviser-client relationship and will impact the clients’ returns.”

The SEC’s order finds that BMO Harris and BMO Asset Mgmt willfully violated Sections 206(2) and 206(4) of the Investment Advisers Act of 1940 and Rule 206(4)-7 thereunder. Without admitting or denying the SEC’s findings, BMO Harris and BMO Asset Mgmt agreed to cease and desist from committing or causing any future violations of these provisions, to pay disgorgement and prejudgment interest of $29.73 million, and to pay a civil penalty of $8.25 million, amounts which will be distributed to harmed investors, and to be censured. [Release No. IA-5377 In the Matter of BMO Harris Financial Advisors, Inc. and BMO Asset Management Corp.]  Top 

IA Ordered to Pay $2.5 Million to Clients Related to Mutual Fund Share Class Selection Violations

Registered investment adviser Sigma Planning Corp. has agreed to settle charges that it selected mutual fund investments for clients that provided the firm with financial benefits without disclosing its conflicts to clients. The settlement includes a distribution to harmed investors.

The SEC's order finds that Sigma had two undisclosed financial conflicts with respect to the selection of 12b-1 fee-paying mutual fund share classes. First, Sigma failed to fully disclose its conflicts relating to select mutual fund share classes for which Sigma was paid a portion of the 12b-1 fees when lower cost share classes for the same mutual fund were available to Sigma's clients. Second, Sigma failed to disclose to clients that by selecting these 12b-1 fee share classes, the firm also avoided paying its clearing broker an asset-based fee that it would have otherwise had to pay. In addition, Sigma failed to disclose the conflicts associated with its broker-dealer affiliates receiving revenue-sharing payments in connection with certain alternative investment products that Sigma purchased for its advisory clients. The order also finds that Sigma itself acted as an unregistered broker-dealer.

The SEC's order finds that Sigma violated the antifraud provisions of Sections 206(2) and 206(4) of the Investment Advisers Act of 1940 and Rule 206(4)-7 thereunder, as well as the broker registration provisions of Section 15(a) of the Securities Exchange Act of 1934.

Without admitting or denying the SEC's findings, Sigma will pay disgorgement of $1,920,809, prejudgment interest of $225,909, and a civil penalty of $400,000. Sigma has agreed to distribute these funds to harmed investors. Sigma also consented to a censure and the entry of a cease-and-desist order from committing or causing further violations of these provisions of the federal securities laws.
[Please login to IA Act UnwrappedTM to view Release No. IA-5356 In the Matter of Sigma Planning Corp.] Top

SEC Charges Morgan Stanley for Recommending Unsuitable Municipal Bond Transactions

On September 17, 2019, the SEC announced administrative and cease-and-desist proceedings against Morgan Stanley Smith Barney LLC (Morgan Stanley), a registered broker dealer and investment adviser that is also registered with the Municipal Securities Rulemaking Board (MSRB), for allegedly recommending unsuitable municipal bond transactions to its customers.

According to the SEC's order, from June 2013 through December 2017, Morgan Stanley recommended 135 "swap" transactions to its retail customers in which the customers sold one municipal bond while purchasing another municipal bond that was nearly identical to the bond sold or that otherwise provided no apparent economic benefit to the customer. Further, the order finds Morgan Stanley did not document information about the customers that indicated that any of the swaps were suitable for the customers. Morgan Stanley received over $340,000 in commissions and fees upon execution of these swap transactions, which Morgan Stanley returned, with interest, to affected customers during the course of the SEC's investigation.

The order instituting the proceeding found that Morgan Stanley willfully violated Section 15B(c)(1) of the Securities Exchange Act of 1934, which prohibits broker dealers from effecting transactions in municipal securities in contravention of MSRB Rules, and also found that Morgan Stanley violated MSRB Rules G-8, G-17, G-19, and G-27. Morgan Stanley consented, without admitting or denying the findings in the SEC's order, to the entry of a cease-and-desist order, to be censured, and to pay a $225,000 civil penalty. [Please
login to IA Act UnwrappedTM to view Release No. IA-5354 In the Matter of Morgan Stanley Smith Barney, LLC]  Top

Investment Adviser Principal and Agency Cross Trading Compliance Issues

On September 4, 2019 OCIE issued a Risk Alert to provide an overview of the most compliance issues identified by OCIE related to principal trading and agency cross transactions under Section 206(3) of the Advisers Act, which were identified in examinations of investment advisers. Examples of the four most common compliance issues are:

1. Section 206(3) requirements not followed.  OCIE staff observed advisers that did not appear to follow the specific requirements of Section 206(3).  For example, OCIE staff observed: 

• Advisers that, acting as principal for their own accounts, had purchased securities from, and sold securities to, individual clients without recognizing that such principal trades were subject to Section 206(3).  Thus, these advisers did not make the required written disclosures to the clients or obtain the required client consents. 
 
• Advisers that had recognized that they engaged in principal trades with a client, but did not meet all of the requirements of Section 206(3), such as:

 o Failing to obtain appropriate prior client consent for each principal trade.

 o Failing to provide sufficient disclosure regarding the potential conflicts of interest and terms of the transaction.

• Advisers that had obtained client consent to a principal trade after the completion of the transaction.

2. Principal trade issues related to pooled investment vehicles.  OCIE staff observed advisers that engaged in certain transactions involving pooled investment vehicle clients where such advisers did not appear to follow the requirements of Section 206(3).  For example, OCIE staff observed:


• Advisers that effected trades between advisory clients and an affiliated pooled investment vehicle, but failed to recognize that the advisers’ significant ownership interests in the pooled investment vehicle would cause the transaction to be subject to Section 206(3).
 
• Advisers that effected principal trades between themselves and pooled investment vehicle clients, but did not obtain effective consent from the pooled investment vehicle prior to completing the transactions.

3. Agency cross transactions.  OCIE staff observed advisers’ practices that gave rise to compliance issues in connection with agency cross transactions.  For example, OCIE staff observed:

• Advisers that disclosed to clients that they would not engage in agency cross transactions, but in fact engaged in numerous agency cross transactions in reliance on Rule 206(3)-2.  
 
• Advisers that effected numerous agency cross transactions and purported to rely on Rule 206(3)-2, but could not produce any documentation that they had complied with the written consent, confirmation, or disclosure requirements of the rule. 

4. Policies and procedures related to Section 206(3).  OCIE staff observed advisers that did not have policies and procedures relating to Section 206(3) even though the advisers engaged in principal trades and agency cross transactions.  OCIE staff also observed advisers that established—but failed to follow—policies and procedures regarding principal trades and agency cross transactions.

OCIE encourages advisers to review their written policies and procedures and the implementation of those policies and procedures to ensure that they are compliant with principal trading and agency cross transaction provisions of the Advisers Act and the rules therender. [Please
login to IA Act UnwrappedTM to view the full text of the Investment Adviser Principal and Agency Cross Trading Compliance Issues Risk Alert in the Examination Tools Database, or under Regulatory Database Rule 206(3)-2 Risks Tab.]  Top 

 

Headline News

SEC Awards $450,000 to Compliance Whistleblower

Read more ...

 

SEC Extends Conditional Exemptions From Reporting and Proxy Delivery Requirements for Public Companies, Funds, and Investment Advisers Affected by COVID-19

Form ADV & Form PF Filing Date Extended to June 30, 2020
Read more ...

 

OCIE Statement on Operations and Exams – Health, Safety, Investor Protection and Continued Operations are our Priorities

Conducting exams off-site through correspondence except where absolutely necessary

Read more ...

 

Order Regarding Pending Administrative Proceedings

Requests filings to be submitted electronically

Read more ...

 

SEC Takes Targeted Action to Assist Funds and Advisers
Permits Virtual Board Meetings and Provides Conditional Relief from Certain Filing Procedures

Read more ...

Updates

Brightline Solutions updates IA Act UnwrappedTM on a daily basis. Recent updates are listed below. Click HERE for a more detailed summary of the information.

Investors Remain Front of Mind at the SEC: Approach to Allocation of Resources, Oversight and Rulemaking; Implementation of Regulation Best Interest and Form CRS
Remarks by SEC Chairman Jay Clayton
Added to the IA Act UnwrappedTM Examination Tools Database/2020 Information

IA-5472 In the Matter of Barton W. Stuck

IA-5471 In the Matter of Adam Matthew Root

IA-5470 SemiAnnual Regulatory Flexibility Agenda

Getting Back to Basics - Protecting, Serving, and Empowering Investors  
Remarks by SEC Commissioner Allison Herren Lee before the Investment Advisers Association Compliance Conference
   - Investment Adviser Advertising
   - Climate Risk Disclosure
   - Proxy Reform
Added to the IA Act UnwrappedTM Examination Tools Database/2020 Information

LR-24780 SEC v. Donald H. Hunter

IA-5468 In the Matter of Nicholas J. Genovese

IA-5469 SEC Extends Conditional Exemptions From Reporting and Proxy Delivery Requirements
Form ADV & Form PF Filing Date Extended to June 30, 2020

IA-5467 In re: Pending Administrative Proceedings

LR-24773 SEC v. Brandon E. Copeland and E.B. & Copeland Capital, Inc.

IA-5456 In the Matter of E. Herbert Hafen

IA-5455 In the Matter of Daniel B. Vazquez, Sr.

LR-24769 SEC v. Stacey Beane, Justin Deckert and Travis Laska

LR-24767 SEC v. Kinetic Investment Group, LLC, et al

LR-24764 SEC v. E. Herbert Hafen

IA-5466 In the Matter of Randall S. Goulding

IA-5465 In the Matter of Marcus Boggs

IA-5464 In the Matter of HSBC Securities (USA) Inc.

IA-5462  In the Matter of Motty Mizrahi

IA-5461 In the Matter of Naya Ventures, LLC, Dayakar Puskoor, and Prabhakar Reddy

IA-5460 In the Matter of Bruce C. Worthington

IA-5458 In the Matter of Eric D. Lyons

IA-5457 In the Matter of Motty Mizrahi

IA-5463 Order under Section 206 of the Investment Advisers Act of 1940 Granting Exemptions from Speicified Provisions of the Investment Advisers Act and Certain Rules Thereunder
Order granting extention to file Form ADV and Form PF until April 30, 2020

IA-5459 In the Matter of John Thomas Capital Management Group LLC and George R. Jarkesy Jr.

IA-5454 Exemptions From Investment Adviser Registration for Advisers to Certain Rural Business Investment Companies
FINAL RULE
Release added to the IA Act UnwrappedTM Releases Database; amendments reflected under Regulatory Database Rules 203(l)-1 & 203(m)-1