Don’t sell it if it doesn’t work right.
That’s an easy lesson learned by Aegon USA, its CIO and Director of New Initiatives. Unfortunately, they were a subadvisor to Transamerica, who had to pay the biggest fine out of the bunch.
Transamerica offered, sold and managed quantitative-model-based mutual funds, variable life insurance investment portfolios, variable annuity investment portfolios and separately managed accounts, which were marketed as “managed using a proprietary quant model” and promised that these quantitative techniques were “emotionless,” “model driven” and “model-supported” and provided descriptions of how the quantitative models were to have operated.
Unfortunately, the models didn’t work as intended and Transamerica didn’t look at them close enough to confirm that the models worked and didn’t disclose the risks with the models.
Aegon had developed the models in 2010. The person who developed the model was an analyst who recently earned his MBA, had no experience in portfolio management, had no formal training in financial modeling, and no training in developing quantitative models for use in managing investment strategies. Aegon and Transamerica named a senior manager as the portfolio manager even though the analyst was the sole architect of the model. That analyst was so significant to the product that internal audit attribute “key person risk” to him.
To its credit, internal audit found that Aegon did not have a process in place to validate its models or conduct peer reviews. Unfortunately, this was after Aegon had launched ten versions of the product. A high level peer review found glaring errors. Those were fixed, but the models were not subject to formal validation until 2013.
During the summer of 2013, Aegon determined that its allocation models contained material errors. For example, Aegon found that the model contained “numerous errors in logic, methodology, and basic math” and concluded that these errors rendered it to “not be fit for purpose.”
In the end, they were pushing a product that didn’t work the way they said it would and oversold the experience behind the product.
Sources:
- Transamerica Entities to Pay $97 Million to Investors Relating to Errors in Quantitative Investment Models
- SEC Order – Transamerica
- SEC Order – Beman
- SEC Order – Giles
- Two individuals included in multi-RIA SEC settlements topping $97 million in IA Watch
- Quantitative Investment Manager Sanctioned by the SEC: Lessons for Private Fund Managers
