Category: SEC News

SEC Compliance Outreach Seminar

On Thursday November 7, the Securities and Exchange Commission produced an online compliance outreach program for registered investment adviser and investment companies. Here are a few notes and points that caught my attention. There were lots of video production issues and sound issues throughout the program.

It kicked off with a welcome from Chair Gensler, broadcasting from his home office. (I assume he is planning to exit the Commission with the change in administration.) He was introduced by Vanessa Horton, National Associate Director, SEC, Division of Examinations.

That was followed by Marshall Gandy, National Associate Director, Division of Examinations introducing Keith Cassidy, Acting Director, SEC, Division of Examinations. He was joined by Natasha Vij Greiner, Director, SEC, Division of Investment Management and Sam Waldon, Acting Deputy Director and Chief Counsel, SEC, Division of Enforcement, for the SEC Directors Panel.

The discussion started off about the three division talking about how they collaborate. Mr. Cassidy stated that the target for examinations is 3,000 a year. They highlighted the training of examiners for compliance with the marketing rule.

The next panel was Information Security & Operational Resiliency  

Speakers:

  • Alexis Hall, Acting National Associate Director, SEC, Division of Examinations, Technology Controls Program (Moderator)
  • David Joire, Senior Special Counsel, SEC, Division of Investment Management, Chief Counsel’s Office
  • Mike Khalil, Senior Counsel, SEC, Division of Investment Management
  • Salvatore Montemarano, Senior Specialized Examiner, SEC, Division of Examinations, Technology Control Program
  • Nikolay Vydashenko,  Assistant Director, SEC, Division of Enforcement, Fort Worth Regional Office
  • Cheryl Zabala, Chief Compliance Officer, Pretium Partners, LLC

Regulation SP amendments were adopted earlier this year. The compliance date is in 2025. It was highlighted in the examination priorities.

Phishing strategies are the biggest threat to firms. An employee doing the wrong thing is more likely than a skilled hacker busting through your firewalls.

Artificial Intelligence is an upcoming risk. There are no clear rules yet.

Companies need to conduct regular cybersecurity threat assessment.

Off channel communications. Would a single rogue employee trigger an enforcement action? It’s a black and white rule. There are no de minimis waiver. There does not need to be an intent of fraud. Nikolay points out that in the enforcement actions it has been pervasive use of off-channel communications and a violation of a firm’s policy. Push back from the panel is that the perception is that there is zero tolerance policy. Separate firm devices and personal devices is expensive.

Panel III: Private Fund Adviser Topics

The private fund panel, after lunch, lacked any sound. You could see the techs on screen trying to pull up the settings. The entire beginning of the panel was lost. Sadly, this was the panel I was most interested in.

  • Jennifer Duggins, Assistant Director and Co-Head of the Private Funds Unit, SEC, Division of Examinations, New York Regional Office (Moderator)
  • Shane Cox, Regulatory Counsel, SEC, Division of Examinations, Private Funds Unit, Philadelphia Regional Office
  • Lee A. Greenwood,  Assistant Regional Director, SEC, Division of Enforcement, Asset Management Unit, New York Regional Office
  • Adele Kittredge Murray, Private Funds Attorney Fellow, SEC, Division of Investment Management, New York Regional Office
  • Michael Neus, Chief Administrative Officer, Brevan Howard US Investment

IRR calculations net and gross both need to address use of a credit line. Hypothetical performance concerns were highlighted. The first prong is have policies and procedures on who gets hypothetical performance. Substantiation. Fund manager needs to retain back up for the performance figures in a PPM or slide deck. Mike, the industry representative, pointed out that the marketing rule often conflicts with what institutional investors want for data.

Adele highlighted new amendments to Form PF that require additional reporting requirements for Large Hedge Funds. The trigger events are substantial loss like issues at the fund: large margin calls, large redemption requests. You’ve got 72 hours to make the filing. For Private Equity the additional reporting are for secondary offerings and some other events.

Valuation is always a regulatory focus for private funds. Private credit was identified as a new risk.

Enforcement threw bombs at MNPI and highlighted some recent insider trading cases.

Fees and expenses disclosures, are they enough? Is there is enough for a reasonable investor to make an informed decision.

The panel focused on the use of the word “may”. Don’t use “may” if it’s something you do all the time.

Panel IV: Marketing Rule

Speakers

  • Karen Stevenson, SEC, Senior Program Adviser, Division of Examinations, National Exam Program Office (Moderator)
  • Melissa Harke, Senior Special Counsel, SEC, Division of Examinations, Office of Chief Counsel
  • Scott Jameson, Senior Counsel, SEC, Division of Investment Management
  • Brianna Ripa, Assistant Director, SEC, Division of Enforcement, Asset Management Unit
  • Karyn Vincent, Senior Head-Global Industry Standards and GIPS Executive Director, CFA Institute

Always looking for more insight. Dipped the toes into the water as to whether something is an advertisement. Is it an “offer for advisory services” is the standard. Of course, even if it’s not an advertisement, a communication is still subject to the anti-fraud provisions of Section 206.

Material focused on a particular investor is an advertisement if you just pull a stock piece of collateral and slap the investor’s name on the cover.

What is “performance” as opposed to “portfolio attributes”?

DOE ran a sweep on hypothetical performance marketing. The assumption is that is it likely to be deceptive. It can’t be used in broad marketing. So websites are generally bad placed to have hypothetical performance.

Testimonial and endorsements (which one is for clients and which is for non-clients?) require disclosures. There has to be written agreements and oversight.

They spoke about the “Official Wealth Management Partner of”… case. They didn’t provide much justification that this was an endorsement. They pointed out that the firm has other testimonial that weren’t from actual clients.

Panel V: Registered Investment Advisers

  • Ryan Hinson, Regulatory Counsel, SEC, Division of Examinations, Los Angeles Regional Office (Moderator)
  • Aaron DeAngelis, Examination Manager, SEC, Division of Examinations, Philadelphia Regional Office
  • Colin Forbes, Assistant Director, SEC, Division of Enforcement, Boston Regional Office
  • Anna Sandor, Senior Counsel, SEC, Division of Investment Management
  • Jim D’Sidocky, General Counsel & CCO, Sanders Capital, LLC

They pointed out the SEC guidance on the 2019 fiduciary standards of investment advisers: https://www.sec.gov/files/rules/interp/2019/ia-5248.pdf

They also pointed out the guidance on compensation disclosure: https://www.sec.gov/investment/faq-disclosure-conflicts-investment-adviser-compensation

Panel VI:  Hot Topics Lightning Round

  • Steven Levine, Senior Special Counsel, SEC, Division of Examinations, Chicago Regional Office (Moderator)
  • Nadia Brannon, Branch Chief of Crypto Asset Specialized Exams, SEC, Division of Examinations, Technology Controls Program
  • Matt Cook, Senior Counsel, SEC, Division of Investment Management
  • Virginia Rosado Desilets, Assistant Director, SEC, Division of Enforcement
  • Roberto Grasso, Branch Chief, SEC, Division of Examinations, Office of Risk & Strategy, Office of Risk Analysis & Surveillance, Branch of Surveillance and Reporting
  • Maurya Keating, Associate Regional Director, SEC, Division of Examinations, New York Regional Office
  • Sirimal Mukerjee, Senior Special Counsel, SEC, Division of Investment Management
  • Lindsay Topolosky, Regulatory Counsel, SEC, Division of Examinations, National Exam Program Office

AI: If you claim to be using AI in your marketing and disclosure it should be accurate. “Do what you say you do.” No AI washing. There is a rulemaking out there.

The SEC has taken some swings at “internet advisers” and their exemption. There is a revised rule. Basically, the website really needs to work. Vaporware gets you shut down by the SEC.

T+1 Settlement rule as it applies to Investment Advisers.

Pre-IPO offerings. There has been a lot of boiler room operations pushing that they have pre-IPO offering access. The problem is often blowing through the Investment Company exemptions.

FinCEN AML Rule. (Why I stayed to the end.) New AML requirement. January 1, 2026 is the compliance deadline. But get ahead of it. Banks and mutual funds have been subject to this for years. As part of the final rule, the SEC has examination authority. It will start popping up in SEC exams. It applies to “Exempt Reporting Advisers”.

Five obligations: 1 written AML program. 2. Reporting obligations. 3 record keeping requirements. 4. Special information sharing procedures 5. Special standards of diligence for foreign banking affiliations.

What should be in the written AML program?

  1. Establish internal policies, procedures and controls
  2. Independent testing of the program
  3. Designate an officer in charge
  4. Training of firm employees
  5. Implementation of ongoing diligence

It should be risk-based addressing the client risks.

SAR filings is not a clear concept on when to file.

Supreme Court Limits SEC Internal Tribunals

“When the SEC seeks civil penalties against a defendant for securities fraud, the Seventh Amendment entitles the defendant to a jury trial.”

SEC v. Jarkesy

The case presented three issues:

(1) Whether statutory provisions that empower the Securities and Exchange Commission to initiate and adjudicate administrative enforcement proceedings seeking civil penalties violate the Seventh Amendment.
(2) Whether statutory provisions that authorize the SEC to choose to enforce the securities laws through an agency adjudication instead of filing a district court action violate the nondelegation doctrine.
(3) Whether Congress violated Article II by granting for-cause removal protection to administrative law judges in agencies whose heads enjoy for-cause removal protection.

The Supreme Court ruled on the first item and didn’t address the other two. Fights for another day.

Dodd-Frank granted the Securities and Exchange Commission broader rights to use its internal administrative law tribunals for non-registered parties. [Section 929P(a)]. Of course with the addition of private fund managers by Dodd-Frank, the world of non-registered parties got smaller.

Mr. Jarkesy and his Patriot28 fund were investigated by the SEC for inflating the fund values and lying about its service providers prior to Dodd-Frank. It decided to charge them using the in-house tribunal by using its new authority under Dodd-Frank. Mr. Jarksey lost the decision in 2014 and has been fighting ever since.

The Supreme Court decision looks at the Public Rights Exception to Article III jurisdiction. This exception allows some matters to go through administrative law proceedings and don’t require Article III proceedings. The Supreme Court essentially determines that civil penalties are designed to punish and deter and not compensate. Therefore, a case seeking civil penalties can’t go through the in-house tribunal.

Sources:

Private Funds Rule is Vacated

We consider a challenge to the Final Rule by petitioners National Association of Private Fund Managers, Alternative Investment Management Association, Ltd., American Investment Council, Loan Syndications and Trading Association, Managed Funds Association, and the National Venture Capital Association collectively “Private Fund Managers”). For the following reasons, we VACATE the Final Rule.

The central focus is thus on whether the Dodd-Frank Act expanded the Commission’s rulemaking authority to cover private fund advisers and investors under section 211(h) of the Advisers Act, see Part III.B.1., and whether section 206(4) authorizes the Commission to adopt the Final Rule, see Part III.B.2. We hold neither section grants the Commission such authority

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The Court found that the language in Section 211(h) applies to retail customers and therefore the SEC exceeded its authority. It looks at Section 913 of Dodd-Frank and points out that it applies to the defined term “retail customers.” Section 211(h) was enacted under Section 913. Therefore, rules under 211(h) should only be for the protection of retail investors. Private fund investors are not “retail customers.”

As for enacting the Private Fund Rules under the anti-fraud provisions of Section 206, the Fifth Circuit found the SEC conflated “lack of disclosure” with fraud or deception.

The Fifth Circuit found the remedy to be vacating the entire Private Funds Rule.

I assume the SEC will appeal the decision to the Supreme Court. The reasoning of the Fifth Circuit is strong enough that it risks invalidated other SEC rules if left standing. I’m hoping that the SEC will formally announce the delay of the compliance deadlines under the Private Fund Rules. It looks like it is pencils down on these new requirements.

23-60471_Documents-SEC-Private-FUnds-CaseDownload

Goodbye Salt Lake City


“The Securities and Exchange Commission today announced that it will close its Salt Lake Regional Office (SLRO) later this year, reducing its regional footprint from 11 regional offices to 10.”

The SEC’s Salt Lake City office has always stood out for covering such a small area. According to the press release, it has been the SEC’s smallest regional office. It has not housed examination teams for many years.

The One with the Bad Films

Film production is risky. There is need for capital to make the films and there are investors who want to say they helped fund a film. Christopher Conover had clients and investors who wanted to make those investments.

Mr. Conover disclosed that he “receives fees related to Mr. Conover’s role as an Executive Producer for film and television productions” and “a conflict of interest exists to the extent Hudson has an incentive to recommend investments in films and television productions for which Mr. Conover serves as Executive Producer.”

For two years, Hudson failed to disclose the producer compensation in its Form ADV. When it did update the disclosure is failed to disclose that the compensation was based solely on the amounts of money loaned to the Production Company for these films. The SEC felt the disclosure was inadequate.

The real problem is that the investments went bad. Mr. Conover made the mistake of allowing one investor to redeem and take money out while preventing other investors from doing so. According to the fund documents, partners who wanted to redeem their interest had to give at least 90 days’ notice and were capped at a withdrawal of 50% on a quarterly basis. Hudson and Mr. Conover deviated from their practice of satisfying limited partner redemptions on a pro rata basis when it lacked liquidity and redeemed a single investor in full ahead of other simultaneously submitted redemption requests from other investors. That special treatment was a violation of Mr. Conover’s fiduciary duty in the eyes of the SEC.

Sources:

Investment Adviser Statistics

The Securities and Exchange Commission published its 2024 report on Form ADV data for investment advisers.

The number of advisers and total assets have increased dramatically.

From 2012 when Dodd-Frank implemented a change requiring fund managers to register the number of registered investment advisers and Exempt Reporting advisers has increased by 60% from 13,222 to 21,203. The Regulatory assets under management has increased 138% from $55 trillion to $128.8 trillion.

The number of private funds has tripled from 33 thousand to over 100 thousand, with gross assets also tripling from $9 trillion to $27 trillion.

For real estate funds, there 658 registered advisers with over $1.1 trillion in gross assets for the 5,215 real estate funds. Those are increases from 371 advisers, $0.3 trillion in gross assets in 1,827 funds in 2012.

Sources:

Another Fund Manager Falls Victim to a Political Contribution

Another fund manager was heavily fined for an employee making a political contribution. Wayzata Investment Partners had to pay a $60,000 fine.

The Minnesota State Board of Investments made $300 million in commitments to Wayzata funds from 2007 to 2013. In 2022 a Wayzata employee made a $4000 campaign contribution to a Minnesota elected official who was up for re-election. The board of the Minnesota State Board of Investments consists of the Governor, State Auditor, Secretary of State, and Attorney General. All are elected offices. Neither the name of the employee or the politician are named in the SEC action.

Under SEC Rule 206(4)-5 a covered associate of a registered investment adviser can not make a contribution of more than $150 to a elected official who can directly or indirectly influence investment decisions. The Minnesota State Board of Investments falls under the coverage of the Rule.

The $60,000 fine was levied even though the funds were closed-end funds with no opportunity for withdrawal. The contribution was years after the commitments were made. There was no finding that there was a connection between the government investment and the political contribution. Under the Rule, the SEC does not have to prove any connection.

The fine is much less than the full penalty under the SEC rule which would be forfeiture of 2 years of management fees and carried interest. 

As with some other political contribution fines, Commissioner Peirce dissented from the decision in this case. She points out the stifling of political participation.

I’ll point out the magnitude of the fine. In most SEC cases the subject ends up paying a fine that matches the damage. In these political contribution cases, the subject is paying over a 10x penalty.

More Reading:

SEC’s “Gag Rule” Survives Another Challenge

As part of the Wells Report in 1972, the Securities and Exchange Commission adopted its no-admit/no-deny policy. The SEC, in agreeing to settle a case, relinquishes the opportunity to present the case in court. The defendant relinquishes the right to defend the case in court, in the press, and in the eyes of the public.

The New Civil Liberties Alliance as part of its many attacks against administrative law has challenged the policy. It started in 2018 with a petition to amend the rule. Six years later, the SEC denied the petition on January 30, 2024.

The NCLA also took its legal attack to court, supporting an appeal by Christopher Novinger to get out from under this part of his settlement with the SEC. The Fifth Circuit denied his appeal this week on procedural ground. The decision is based deep on federal civil procedure and does not really get to the substance of the appeal. But the procedural hurdles may not allow an appeal.

The SEC complaint charged that Mr. Novinger fraudulently offered and sold life settlement interests by knowingly (or with severe recklessness):

  1. misrepresenting the purported safety and security of the investment;
  2. making false and misleading representations to prospective investors about his business experience ;
  3. failing to disclose to investors the sanctions imposed, and adverse actions taken, against them by multiple regulatory agencies;
  4. creating and using phony, meaningless titles for himself that were not actual, recognized designations in the financial industry – such as “licensed financial consultant,” “licensed financial strategist,” and “licensed consultant” – to create a false air of legitimacy; and
  5. providing investors with a net worth calculator that improperly inflated investors’ assets.

Mr. Novinger settled the case in 2016 and as part of the settlement was barred from association with an broker, dealer, investment adviser and was barred from participating in any penny stock offering. Of course, he agreed to not deny the charges against him.

Sources:

Private Funds Are Bigger Than Commercial Banks

The annual Securities and Exchange Commission request for funding from Congress is not generally very interesting. For fiscal year 2025 its seeking $2.6 billion to support over 5,000 full-time equivalents. Some of the stats are interesting. This one caught my eye:

Looking at the private funds area, in the last five years, the number of funds has increased 54 percent to approximately 56,000. The assets managed by private fund managers, now at $26 trillion in gross assets, surpasses the size of the entire U.S. commercial banking sector of approximately $23 trillion.

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Those 5,000 FTE cover a lot of firms:

We oversee approximately 40,000 entities—including more than 13,000 registered funds, more than 15,400 investment advisers, more than 3,400 broker-dealers, 24 national securities exchanges, 103 alternative trading systems, 10 credit rating agencies, 33 self-regulatory organizations, and six active registered clearing agencies, among other external entities. In addition, the SEC oversees the Public Company Accounting Oversight Board (PCAOB), the Financial Industry Regulatory Authority (FINRA), the Municipal Securities Rulemaking Board (MSRB), the Securities Investor Protection Corporation (SIPC), and the Financial Accounting Standards Board (FASB).

As for examinations of registered investment advisers, the SEC reached 2,362 this past year, expect to reach 2,282 this year and hopes to reach 2,324 in the following year. (See page 22) That’s assuming it gets the budget requested.

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