Author: Doug Cornelius

You can find out more about Doug on the About Doug page

The One Without the Magic in the Mushrooms

Was Robert Shumake a shaman or a securities fraudster? Or Both?

On one hand he was the shaman of Soul Tribes in Detroit that was trying to “safe and sacred space for individuals to explore the healing benefits of sacred plants.” That apparently included storing over 99 pounds of mushrooms believed to be psilocybin and over 120 pounds of “material believed to be marijuana” from the church. Shumake claimed he was protected under the Religious Freedom Restoration Act. Detroit claimed it was a distribution center for unlawful controlled substances, poorly masquerading as a church. (Soul Tribes was apparently not a licensed marijuana dispensary.)

On the federal side, the Securities and Exchange Commission and the Department of Justice claim that Shumake was running a securities fraud on Minerco. The company claimed to be “first publicly traded company focused on the research, production and distribution of psilocybin mushrooms.”

Minerco was largely defunct company in 2019. According to the SEC complaint, Mineco got his hands on old debt owed by the company that was convertible into Minerco stock. That conversion of stock gave Shumake and his co-conspirator control of the company, gave control of the company to them and the power to issue more shares.

Then they had Minerco issue a bunch of press releases and advertising to pump up the value of the company. The company claimed that it had been reviewed by a third-party and was worth $1 billion.

At the start of the scheme, Minerco’s stock closed at $ 0.000001. Four months later Minerco’s stock closed at $0.0127, a 1,269,900% increase. Trading volume likewise skyrocketed from approximately 22 million shares to nearly 3 billion shares.

During the Relevant Period, Defendants’ pump-and-dump scheme inflicted pecuniary harm on investors who traded Minerco shares. Investors who bought Minerco stock in reliance on the public announcements that were either misleading or false, or that created a false appearance of fact, were duped. They paid a higher price than the shares were worth, and they suffered losses when they tried to sell their shares. Moreover, Minerco’s issuance of one billion additional shares diluted existing stockholders’ equity.

During this time, Shumake and his co-conspirator sold the stock they had acquired for at least $7 million.

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The One Without its Biblical Strategy

Inspire Investing advertises its ETF as “biblically responsible investing.” The obvious problem is how you define what is biblical. If it were so easy to define would we would not have so many sects and theologies of Christianity and Judaism.

Inspire came up with its own methodology for excluding companies. A company is automatically given a negative score for having any “exposure” to fourteen categories. Alcohol is on the list, but weapons are not. Other factors are used to develop a positive score.

Inspire touts a scientific approach in its marketing. It looks like Inspire was not able to prove that it was actually using this approach.

10. For example, certain companies were excluded from Inspire’s investment universe for donating to certain advocacy organizations or sponsoring certain events that Inspire considered to be Prohibited Activities. At the same time, multiple companies held within the Inspire ETF portfolios donated to organizations or sponsored events that were the same or similar.

I suppose these Inspire ETFs would be prohibited investments by some of the 35 states that prohibit ESG investing. The Inspire ETFs take into account factors other than pecuniary factors, which is prohibited by many of those anti-ESG laws. Its “positive score” factors are typical of ESG funds.

The Inspire BIBL ETF also consistently underperforms the market.

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The One With Pig Butchering

What’s with the fake profiles on Facebook, Instagram, or your social networking platform of choice reaching out to you? It’s likely the first step in a “relationship investment scam” or “pig butchering.” The scammer starts with casual conversations, try to build trust, maybe even a little romance. After building some trust/relationship over an extended period of time, they introduce an investment tip. Usually a crypto. Money doesn’t go your new friend, its just a tip. You move the money and then its gone.

The SEC charged two outfits NanoBit and CoinW6 with fraud involved pig butchering.

The Scheme Participants contacted prospective investors through social media platforms, such as LinkedIn and Instagram, and then pursued romantic relationships with them over the messaging platform, WhatsApp. After developing online romantic relationships with prospective investors, the Scheme Participants introduced the investors to so-called “cryptocurrency,” claiming that they had earned hundreds of thousands of dollars through crypto asset products that CoinW6 offered and sold on its websites through an online crypto trading platform (“CoinW6 Platform”). The CoinW6 Platform promised two to three percent passive returns per day from crypto asset staking, mining, or yield farming products that the Defendant purportedly operated.

Of course, it was all fictious and the money disappeared.

The scams slap financial fraud onto a catfishing scam.

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The One with the “Official Wealth Management Partner of”…

Of the nine marketing cases released by the SEC recently, one caught me off-guard and has left me concerned.

Say you’re a proud alumni of Notre Dame. You want to be associated with the athletic program and give some money back to the school. All you ask is that you get to be the official ____ of program. That works for most industries. But if you’re a registered investment adviser…

Is this a problem? The SEC said this was an endorsement that lacked proper disclosure.

The first step is whether this affiliation is advertising for purposes of the Marketing Rule. That is obviously “yes.”

What’s less obvious to me is whether this is an “endorsement” under the Marketing Rule. (Section 206(4)-1(e)(5))

(5) Endorsement means any statement by a person other than a current client or investor in a private fund advised by the investment adviser that:
(i) Indicates approval, support, or recommendation of the investment adviser or its supervised persons or describes that person’s experience with the investment adviser or its supervised persons;
(ii) Directly or indirectly solicits any current or prospective client or investor to be a client of, or an investor in a private fund advised by, the investment adviser; or
(iii) Refers any current or prospective client or investor to be a client of, or an investor in a private fund advised by, the investment adviser.

Does being the “official wealth management partner” indicate support by Notre Dame Athletics? I suppose “partner” does indicate some level of endorsement.

What if you replaced “partner” with “firm”?

Howard Bailey agreed to the SEC’s position and agreed to remove advertisements or add disclosure to advertisements. So now there is this footnote at the bottom of the website:

University of Notre Dame and University of Notre Dame Athletics (“Notre Dame”) are not current clients of Howard Bailey Securities, LLC nor Howard Bailey Financial, Inc. Legends / JMI Rights Holders, on behalf of Notre Dame, was compensated for this Endorsement, as such term is defined under SEC Rule 206(4)-1. More Information

Yes, that “more information” exposes all of the monetary details.

Let’s move down to the local level. How does this work for an investment advisory firm that sponsors the local little league team?

Notre Dame Athletics is a non-profit. Does this carry over to other non-profit sponsorships?

I was looking at the back of my Pan-Mass Challenge jersey with all of the corporate logos. If any of them are RIAs, should they be concerned that the logo placement has created an “endorsement” under the Marketing Rule?

I didn’t sleep well last night thinking about all of the possible implications of this case.

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Cut Those Pennies in Half

I’m old enough to remember when stock prices were quoted in eights. They had been marked that way for 200 years on the New York stock exchange. Then they were shifted to decimals. That pushed the bid-ask spread for many stocks to $.01. Now that penny limit is being cut in half.

The Securities and Exchange Commission just enacted changes to Rule 612 which will reduce the tick size to $.005.

Now we have to figure out what systems and spreadsheets will break because trading is happening in half-pennies.

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The One With No Conflicts

Can an investment adviser really say that they don’t have any conflicts of interest? You certainly can’t say that the firm “provides conflict-free advice” on the website when your Form ADV discloses conflicts of interest.

The SEC released orders against nine investment advisers for violations of the Marketing Rule, claiming the firms made untrue claims, unsubstantiated claims, or made statement that lacked required disclosures.

One of these, Droms Strauss, clearly had a disconnect between compliance and marketing.

Compliance put this statement in the firm’s ADV Part2:

The payment of commissions to DSRM may result in a potential conflict of interest. In order to mitigate this conflict DSRM fully discloses such commission arrangements to Droms Strauss clients before the client purchases any such products. Further, all commissions received by Droms Strauss will be contributed to a non-profit charitable organization selected by the client who purchased the commissionable product from a list of charitable organizations selected by Droms Strauss. Droms Strauss’ policy is always to act in the best interest of its clients. Commissions received by DSRM do not offset advisory fees paid to Droms Strauss. Clients are not contractually obligated to use the services of DSRM.

Marketing published an advertisement on the firm’s public-facing website containing the material statement of fact that one of its investment adviser representatives “provides clients with conflict-free advice” without providing any context for this claim.

Interestingly, the SEC order does not take the position that the statement is false. Not (a)(1) “untrue statement of material fact”. But an (a)(2) violation that the firm made a material statement of fact that the adviser does not have a reasonable basis for believing it will be able to substantiate upon demand by the SEC.

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The One With $11 Trillion

There are a few different ways to calculate Assets Under Management. The SEC has prescribed ways to calculate Regulatory Assets Under Management. Often AUM and RAUM will differ depending on an adviser’s business model and client base.

But you can’t just make up RAUM.

Rubin Cedric Williams did so at his firm Vista Financial Advisors. He registered Vista Financial with the Securities and Exchange Commission in December 2021. He filed an update in April 2022 which listed the firm’s RAUM as $10 billion.

This large amount caught the attention of the SEC and started a “newly registered” exam with Vista Financial to kick the tires. During the exam Mr. Williams said his RAUM had grown to $180 billion and his sole client was a foreign trust. In April 2023, Vista Financial filed an updated Form ADV listing its RAUM as $11 trillion.

During the examination, Vista Financial produced a spreadsheet and delivered it to the SEC that was supposed to back up its claimed RAUM. One item was a bank account with 140 billion Euros. The SEC checked with the bank. That account never had more than $3500.

The spreadsheet listed $42 billion in a single issuance of US Treasury Bonds. That would have made the firm likely owning every bond in the issuance. Assuming the issuance was even that big. The SEC found no evidence that Vista Financial held any treasury bonds.

Then there is the fraud-ier stuff. Vista Financial purported to hold $3 billion in bonds from a corporation (unnamed in the filings). Vista Financial tried to open a brokerage account with a margin loan allowance using some of those bonds as collateral and citing Vista Financial’s registration with the SEC to support its legitimacy.

I was waiting to find some details behind this 2023 case hoping there would be some explanation for this craziness. Alas, the case has settled and no more detail have emerged. Mr. Williams agreed to be barred from any SEC registered firm.

Was Mr. Williams the scammer or was he being scammed? I was hoping to get an answer.

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More Whistleblower Actions

The Denver office of the Securities and Exchange Commission has rolled up a bunch more whistleblower rule violations. This follows up with last week’s settlement with Nationwide Planning for impeding clients from reporting violations to the SEC.

In response to a Congressional mandate in Dodd-Frank, the Securities and Exchange Commission adopted Rule 21F-17 in August 2011, which provides:

(a) No person may take any action to impede an individual from communicating directly with the Commission staff about a possible securities law violation, including enforcing, or threatening to enforce, a confidentiality agreement . . . with respect to such communications.

In prior enforcement actions, the SEC has aggressively pursued actions against firms who have tried to limit the ability of its customers or employees to report violations. Against CBRE, the SEC did not like its form of separation agreement that had a representation that the departing employee had not already filed a compliant. The SEC did not like that Monolith Resources tried to limit whistleblowers by allowing them to report, but not retain any financial rewards for reporting. Nationwide Planning tried to allow clients to talk with the SEC, but only if the SEC started the talk.

In these cases, Smart for Life, LSB, IDEX, Acadia, and Brands Holding took the path of allowing employees to report a violation but preventing employees from getting any financial award from a whistleblower complaint path. The SEC doesn’t like that.

Transunion and AppFolio tried to prevent employees from getting any financial award from a whistleblower complaint. And also addied that the employees give the company notice before disclosing anything.

As with the off-channel communications cases, there is no charge of fraud. The cases merely cite a violation of the rule.

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Another $49 Million in Fines for Texting

The Securities and Exchange Commission continues its relentless assault on firms that have allowed employees to use text messages, WhatsApp, private email, or other “off-channel communications.”  Last week, six rating agencies were caught in regulatory crosshairs. 

Moody’s, S&P, Fitch, HR Ratings, A.M. Best, and Demotech had to pay $49 million in fines to the SEC. 

The SEC’s off-channel task force is tracing messages from one firm to another and slapping fines on each link in the chain for violations. There are no findings of frauds. These fines are merely for record-keeping violations.  

These cases do mark a new segment of record-keeping violations. These six firms are Nationally Recognized Statistical Rating Organizations and are subject to Rule 17g-2(b)(7) applicable to NRSROs.

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Broker-Dealer and Investment Advisers Hit with Violation of Whistleblower Protections

In response to a Congressional mandate in Dodd-Frank, the Securities and Exchange Commission adopted Rule 21F-17 in August 2011, which provides:

(a) No person may take any action to impede an individual from communicating directly with the Commission staff about a possible securities law violation, including enforcing, or threatening to enforce, a confidentiality agreement . . . with respect to such communications.

In prior enforcement actions, the SEC has aggressively pursued actions against firms who have tried to limit the ability of its customers or employees to report violations. Against CBRE, the SEC did not like its form of separation agreement that had a representation that the departing employee had not already filed a compliant. The SEC did not like that Monolith Resources tried to limit whistleblowers by allowing them to report, but not retain any financial rewards for reporting.

A recent case is the first I recall that is taken against a broker-dealer or investment adviser. The order found that Nationwide Planning Associates, Inc. and investment adviser NPA Asset Management, LLC, and state-registered investment adviser Blue Point Strategic Wealth Management, LLC, impeded brokerage customers and advisory clients from reporting securities law violations to the SEC.

The offending language:

“The Recipient represents that [she / he] shall forever keep completely confidential all of the above terms of this Agreement and shall direct all those in privity with them (including their attorneys, CPAs, etc.) to keep the same completely confidential. The Recipient further represent[s] that [she / he] will forever refrain from any discussion, narration, or disclosure of any transaction, circumstance, conversation, or any other aspect of the Recipient relationship with any and all of the Company, with any person or entity.” …

“The confidentiality and non-disclosure provision does not prohibit the Recipient from responding to any unsolicited inquiry (i.e., an inquiry not resulting from or attributable to any actions taken by Recipient or by any third party at Recipient’s direction) about the Agreement or its underlying facts and circumstances initiated by any state, federal or self-regulatory commission or authority that regulates the business or activities of registered investment advisers or their representatives.”

I believe its okay to have the confidentiality provision in the first paragraph, as long as you have a carve-out for reporting to regulators.

These firms tried to get cute by saying the confidentiality provision didn’t apply if the regulators initiated the inquiry. It would still prevent reporting to the regulators by the client.

That’s an impediment to reporting an a violation of Rule 21F-17.

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