SEC Tag Archives — Page 13 of 22

SEC Fines Broker-Dealer for Failing to Protect Confidential Client Information

July 19, 2016 | Patricia Klusmeyer

Increased focus on cybersecurity by the Security Exchange Commission’s (“SEC”) continues as it recently issued charges against Morgan Stanley Smith Barney (“Morgan Stanley”) for failing to adopt written policies and procedures reasonably designed to protect confidential client information. These charges stemmed from a cybersecurity breach which began in 2011 and continued until 2014, resulting in the misappropriation of confidential client information in over 730,000 client accounts.

Broker-dealers and investment advisers are required pursuant to Regulation S-P and comparable regulation of the Federal Trade Commission to adopt written policies and procedures reasonably designed to protect client records and information. These policies and procedures must address the administrative, technical, and physical safeguards in place, and must be reasonably designed to insure the security and confidentiality of client records and information, protect against unanticipated threats, and prevent unauthorized access.

SEC Proposes Business Continuity and Transition Plan Rule for RIAs

July 15, 2016 | Steve Parker

The Securities and Exchange Commission (SEC) has frequently said that an investment adviser’s fiduciary duty requires an adviser to plan for unexpected disruptions in business. Consequently, advisers have developed business continuity plans as a “best practice” without necessarily being required to do so by rule. Recently, however, the SEC proposed a rule that would require all SEC-Registered investment advisers to adopt and implement written business continuity and transition plans and to review them no less often than once per year. The SEC also issued guidance for the baseline requirements that such plans should contain.

SEC Charges Private Fund Administrator with Failure to Satisfy Gatekeeper Responsibilities

June 28, 2016 | Patricia Klusmeyer

The Securities Exchange Commission (“SEC”) recently settled charges against a New Jersey private fund administrator, Apex Fund Services (“Apex”), for failing to notice or correct what it contended were clear indications of fraud by two of its clients, ClearPath Wealth Management (“ClearPath”) and EquityStar Capital Management (“EquityStar”). The SEC’s Division of Enforcement noted that Apex failed to “live up to its gatekeeper responsibility” and thereby enabled the fraudulent activities of these two investment advisers.

Apex provided accounting and administrative services to various private funds, including several managed by ClearPath and EquityStar. Its duties as fund administrator included keeping records, preparing financial statements, and preparing investor account statements. The SEC charged both ClearPath and EquityStar with securities fraud in enforcement actions, finding that ClearPath had allegedly misappropriated fund assets and used fund assets for unauthorized investments, and that EquityStar had allegedly made materially false and misleading statements to investors and prospective investors of its funds regarding undisclosed withdrawals of fund assets.

SEC Charges NC Investment Adviser Selling Real Estate-Related Investments with Fraud and Breach of Fiduciary Duty

June 16, 2016 | Patricia Klusmeyer

The Securities Exchange Commission (“SEC”) recently filed suit against a North Carolina investment adviser for allegedly defrauding investors in the sale of certain real estate-related investments in unregistered pooled investment vehicles. The adviser, Richard W. Davis Jr., solicited investors primarily from the Charlotte, North Carolina region and was able to raise approximately $11.5 million from 85 investors, the majority of which were individuals with retirement accounts. However, he allegedly failed to disclose to clients that the money in the funds was being steered towards several other entities beneficially owned by himself.

Davis allegedly told investors in one of his funds that the fund’s capital would be invested in short term fully secured loans to real estate developers. He allegedly failed to mention, however, that many of the real estate developers receiving these loans were companies owned and operated by himself, creating an inherent conflict of interest. Furthermore, the companies never repaid the loans in full and Davis allegedly failed to inform his investors of this or reappraise the value of the fund’s investment. Instead, Davis allegedly misrepresented the value of the pooled fund by repeatedly stating that it had not lost any value.

SEC Issues Report on Review of Definition of “Accredited Investor”

June 14, 2016 | Patricia Klusmeyer

Pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”), the Securities and Exchange Commission (“SEC”) must review the definition of “accredited investor” every four years to determine whether it needs to be modified or adjusted. The SEC staff recently conducted its first review and issued a Report on the Review of the Definition of “Accredited Investor.”

The report provides an in-depth examination of the history of the “accredited investor” definition and discusses possible alternative approaches. The report also responds to comments on the existing definition received from various financial services industry participants, including the Investor Advisory Committee and the Advisory Committee on Small and Emerging Companies. Lastly, the report provides recommendations for potential updates and/or modifications to the existing definition.

Recent SEC Enforcement Actions Signal Shift Towards Closer Scrutiny on Chief Compliance Officers

June 3, 2016 | Patricia Klusmeyer

Chief Compliance Officers (“CCOs”) play an important role in registered investment adviser firms, as they are responsible for ensuring the firm is developing adequate compliance programs and following its compliance policies and procedures. In the past, the Securities Exchange Commission (“SEC”) has generally avoided second-guessing the professional judgment of CCOs. However, recent SEC enforcement actions show a clear trend towards growing scrutiny over the conduct of CCOs and towards enforcement actions being taken against them.

Two high-profile cases from 2015 illustrate the shift in the SEC’s tone towards CCOs. First, in an April enforcement action against BlackRock Advisors the SEC charged the firm with failing to disclose the outside business interests of one of the firm’s portfolio managers to its board of directors or advisory clients, as well as failing to adopt any policies and procedures addressing outside business activities. In addition, the SEC also charged the then-CCO for causing BlackRock’s compliance-related violations by failing to ensure the firm adopted the required policies and procedures. BlackRock settled the charges with a $12 million penalty, while the then-CCO paid $60,000.

SEC Issues No-Action Letter Lessening Custody Rule Requirements for Sub-Advisers

May 31, 2016 | Patricia Klusmeyer

The Securities Exchange Commission (“SEC”) recently released a no-action letter allowing sub-advisers in certain situations to avoid the annual surprise examination requirement of Rule 206(4)-2 for investment advisers with custody of client funds or securities. Going forward, sub-advisers who do not have actual custody of client assets but are deemed to have custody because they are related to the qualified custodian and primary adviser will no longer have to comply with this burdensome requirement, so long as certain conditions are met.

As a review, custody is defined by Rule 206(4)-2 under the Investment Advisers Act of 1940 as the holding, directly or indirectly, of client funds or securities, or having any authority to obtain possession of them. This includes situations where a “related person,” or a person controlled by you or under common control with you, has custody of client funds. Pursuant to SEC Rule 206(4)-2, investment advisers with custody of client funds must take certain steps to safeguard such client assets. Those steps include: 1) maintaining assets with a qualified custodian; 2) notifying clients about the qualified custodian; 3) ensuring that the qualified custodian sends quarterly account statements to client; and 4) obtaining an annual surprise examination by an independent public accountant.

Investment Adviser Accused of Raising Operating Capital From Clients by False and Misleading Statements

May 26, 2016 | Steve Parker

Earlier this month, the Securities and Exchange Commission (“SEC”) instituted an administrative proceeding against Blue Ocean Portfolios, LLC (“Blue Ocean”), an SEC-registered investment advisor with approximately $106 million in regulatory assets under management, and its Principal, CEO and Chief Compliance Officer, James A. Winkelmann, Sr. According to the allegations, Blue Ocean and Winkelmann began raising capital from clients of Blue Ocean in order to generate business proceeds for Blue Ocean in April, 2011. The adviser raised the funds by issuing a number of what it called “Royalty Units,” which were in fact interests that paid a minimum return to the investors with the prospect of a higher return if Blue Ocean’s advertising investment yielded successful new customers with annually recurring revenue.

SEC Issues Investor Bulletin on Performance Claims in Advertising

May 24, 2016 | Patricia Klusmeyer

The Securities Exchange Commission (“SEC”) Office of Investor Education and Advocacy recently released an investor bulletin educating investors on investment performance claims in investment adviser advertising and pointing out specific things they should consider prior to investing. This bulletin and newsletter highlight the increasing emphasis regulators have been placing on performance claims in recent years.

Performance advertising is regulated under the Investment Advisers Act of 1940 (“Advisers Act”) and Rule 206(4)-1. Pursuant to Section 206 of the Advisers Act and Rule 206(4)-1, it is considered fraudulent for a registered investment adviser to publish, circulate, or distribute any advertisement which contains any untrue statement of material fact or which is false or misleading. The SEC has issued specific guidance regarding performance claims in advertising that all investment adviser firms must follow in order for their performance advertising to be considered non-fraudulent.

SEC Fines, Suspends Accounting Firm Over Deficient Audits

May 20, 2016 | Steve Parker

Last month, the Securities and Exchange Commission (“SEC”) brought and simultaneously settled administrative proceedings against accounting firm Santos, Postal & Co. P.C. (“SPC”) and one of its accountants, finding that SPC and the accountant conducted deficient surprise audits of investment adviser SFX Financial Advisory Management Enterprises (“SFX”). The surprise examinations were conducted pursuant to the SEC custody rule and are designed to confirm the adviser’s appropriate handling of assets under their custody and to uncover, to the extent possible, fraudulent activity of the advisers.

As background to this enforcement action, under Advisers Act Rule 206(4)-2, investment advisers with custody of client funds or securities must maintain certain controls, commonly known as “safekeeping procedures,” to protect those assets. State-registered advisers must comply with rules that vary from state to state, but the model rule of the North American Securities Administrators Association is substantially similar to the SEC rule. Since approximately March 2010, the Rule has required advisers that have custody other than because of an ability to deduct client fees to obtain an annual surprise exam by an independent public accountant to verify all client assets. Another basic requirement of the rule applicable to all advisers with custody is having a reasonable basis for believing that a qualified custodian or the adviser sends quarterly account statements to each client for which custody was maintained. Advisers that advise hedge funds or pooled investment vehicles may satisfy the audit requirement and other safekeeping provision by having an audit completed by a PCOAB auditing firm and timely delivering audit results to the fund’s shareholders.