Tag: Massachusetts

Massachusetts Fires an Arrow at Robinhood

The Secretary of the Commonwealth filed its first enforcement action under the Massachusetts Fiduciary Rule. Robinhood and its gamification of investing are in its bullseye.

The Massachusetts Securities Division adopted amendments to 950 Mass. Code Regs. 12.200 earlier this year as they relate to the standard of conduct applicable to broker-dealers and agents. The amendments apply a fiduciary conduct standard to broker-dealers and agents when dealing with their customers. The Division said it would begin enforcing the amended regulations on September 1, 2020.

“Each broker-dealer shall observe high standards of commercial honor
and just and equitable principles of trade in the conduct of its business.”
– 950 CMR 12.204(1)(a)

According to the data, Robinhood has almost a half million customers in Massachusetts. Approximately 68% of the Massachusetts customers approved for options trading on Robinhood have no or limited investment experience. One advertisement states:

“I’m a broke college student and investments might help my future tremendously.”

The administrative complaint shoots at Robinhood claiming its infrastructure is inadequate. The outages and disruptions in the platform earlier this year are the indicators. The crux of this prong of the complaint is that Robinhood is continuing to recruit new customers without properly improving its infrastructure. The complaint states 70 outages over the course of 2020.

The second prong of the complaint takes that position that Robinhood’s supply of lists of most popular stocks is an encouragement to purchase the security without consideration of the customer’s suitability.

The third prong is Robinhood’s permission and encouragement for customers to trade. The complaint uses the example of one customer that clicked the investment experience button when creating the account. That customer made 12,748 trades this year. An average of 92 trades a day.

A fourth prong is that Robinhood failed to properly screen customers before allowing them to trade options. Robinhood failed to follow its own policies and procedures.

Wrapping it up, the complaint says that each of these four prongs is a violation of the Massachusetts Fiduciary Standard applicable to broker-dealers.

All of this is just the regulators side of the case. A Robinhood spokeswoman said before the complaint was filed that the company has and will continue to work closely with all regulators.

“Robinhood has opened up financial markets for a new generation of people who were previously excluded.”
“We are committed to operating with integrity, transparency, and in compliance with all applicable laws and regulations.”

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Pay to Pour

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Massachusetts regulators have launched an investigation into whether providers are paying for access. In this case, it’s about beer, not political donations. Pay-to-play is illegal under Massachusetts and federal liquor control laws.

The restrictions date back to the end of Prohibition, to keep large breweries from dominating the market. Small breweries have to compete for limited space at the bar. This is not true for the grocery store where non-alcohol manufacturers routinely pay a slotting fee for access to the supermarket shelves.

A local craft brewing company executive aired his grievances on Twitter, and complained that two restaurants would not serve his beer because he would not buy a beer line. The response, in part, was

“I personally don’t even know you, never asked you for a damn thing, never intend to ask you for a damn thing and will not serve your inferior product. ” 

From compliance perspective it looks like the Massachusetts law must hinge on the word “substantial”

No licensee shall give or permit to be given money or any other thing of substantial value in any effort to induce any person to persuade or influence any other person to purchase, or contract for the purchase of any particular brand or kind of alcoholic beverages, or to persuade or influence any person to refrain from purchasing, or contracting for the purchase of any particular brand or kind of alcoholic beverages.

Whenever I go into a bar or liquor store, I see plenty of signs and other items that have clearly been given to the retailer. I guess the glowing Budweiser sign is not “substantial.” The accusations are for payments or merchandise on a grander scale.

Does it matter? Is this a regulation that helps the economics for a consumer?

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Criminal Background Checks for IA Reps in Massachusetts

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There is a new requirement for Investment Advisers Representatives in Massachusetts. Beginning on January 1, 2014 each applicant for registration as an investment adviser representative in Massachusetts will be required to submit a Criminal Offender Record Information (“CORI”) acknowledgement form.

The Secretary of State published proposed changes to the Investment Adviser regulations in March. The changes are effective on January 1, 2014.

The CORI acknowledgement form will be made available in fillable .pdf format on the Division’s website at the URL http://www.sec.state.ma.us/sct/sctcori/cori.htm and is a required component of a complete application. But the IARD system won’t take the form so the completed and executed CORI acknowledgement form has to be filed by e-mail submission to the address [email protected].

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Massachusetts Proposes New Regulations Related to Investment Adviser Representative Registration

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On March 15, 2013, the Massachusetts Securities Division started the process to amend the  regulations for investment adviser representative (“IAR”).

The proposal would require an IAR applicant to submit to a review of the Massachusetts Criminal Offender Record Information (CORI) of the applicant.

The Division believes that it is in the public interest and for the protection of investors to conduct criminal background checks of those individuals seeking IAR registration in order to ensure that the applicant is not subject to a statutory disqualification and has truthfully and accurately disclosed any criminal background required on Form U-4. The Registrations, Inspections, Compliance and Examinations (“RICE”) Section of the Division has recently been granted access to utilize the Massachusetts “iCORI system,” an electronic criminal history database, in order to conduct these reviews.

However, the CRD system for submitting Form ADV is not able to accept the required CORI acknowledgement. So Massachusetts registered investment advisers will have to send the form directly to the state regulators.

Also, Massachusetts is cleaning up its regulations as to Form ADV to comply with the SEC’s 2010 changes to the form. The proposed language is based upon the NASAA model brochure rule. Along with that ate a bunch of other small changes that clean up the Massachusetts investment adviser regulations.

The Request for Comment and the Proposed Regulations are available on the Division’s website at http://www.sec.state.ma.us/sct/sctidx.htm.

The comment period will end on Wednesday, May 15, 2013.  A public hearing on these proposed changes will be held at 10:00 a.m. on Wednesday, May 15 at One Ashburton Place, 17th Floor, Boston, MA 02108.

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Another Danger of Overstating Assets

The Securities Division of the Massachusetts’ Secretary of State’s office filed an administrative complaint against CCR Wealth Management. The complaint seeks to deny CCR Wealth Management registration as an investment adviser.

The secretary of state’s office said inspectors became suspicious when they noticed that CCR had reported static denominations over a period of time, even as its number of accounts fluctuated. According to the complaint, between 2007 and 2011, CCR reported exactly $25 million under management, even as its number of accounts fell from 350 to 250.

That $25 million number is the threshold between registration with the Securities and Exchange Commission and state level registration. With the transition from federal to state, a new set of eyes will be looking at the Form ADV filings and may have a different take on things.

What surprises me most about the story is that the Secretary of State noticed the issue and was able to act on it. I suppose we should credit an astute examiner in Massachusetts who compared the prior filings to the new state filing. I assume that person is overworked with a flood of new filings coming in this year.

It’s not clear what happened or that CCR did anything wrong. The company focuses on wealth management and estate planning. The SEC did impose a new and better defined method for calculating assets under management. The prior filings may have included items that are no longer included.

I find it strange that Massachusetts is seeking to prohibit CCR’s registration with the state. That seems like the nuclear option for something may merely be a misunderstanding rather than an intentional misdeed.

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SEC Brings a Pay-to-Play Action

The Securities and Exchange Commission filed a “pay-to-play” case against Goldman Sachs and one of its former investment bankers, Neil M.M. Morrison. The SEC alleges that Goldman and Morrison made undisclosed campaign contributions to then-Massachusetts state treasurer Timothy P. Cahill while he was a candidate for governor.

The case was brought under the Municipal Securities Rule on pay-to-play: MSRB Rule G-37. The SEC’s investment adviser/private fund rule on pay to play, Rule 206(4)-5, is based closely on that MSRB rule.

The SEC’s order found that Goldman Sachs did not disclose any of the contributions on MSRB forms and did not  keep records of the contributions in violation of MSRB rules.

Goldman Sachs agreed to settle the charges by paying $7,558,942 in disgorgement, $670,033 in prejudgment interest, and a $3.75 million penalty. This is the largest fine ever imposed by the SEC for Municipal Securities Rulemaking Board pay-to-play violations. The SEC’s case against Morrison continues.

According to the SEC’s order against Goldman Sachs, Morrison worked in the firm’s Boston office and solicited underwriting business from the Massachusetts treasurer’s office beginning in July 2008. Morrison was substantially engaged in working on Cahill’s political campaigns. Before joining Goldman Sachs, between January 2003 and June 2007, Morrison was employed by the Massachusetts Treasurer’s Office, which included positions as the first deputy treasurer, chief of staff and assistant treasurer, reporting directly to Cahill.

Morrison participated extensively in Cahill’s gubernatorial campaign, often during working hours from his Goldman Sachs office, and used Goldman Sachs resources (such as phones, e-mail and office space). The SEC claims that Morrison’s use of Goldman Sachs work time and resources for campaign activities constituted valuable in-kind campaign contributions to Cahill that were attributable to Goldman Sachs and disqualified the firm from engaging in municipal underwriting business with certain Massachusetts municipal issuers for two years after the contributions.

While Morrison was an employee and working on the Cahill campaign, Goldman Sachs participated in 30 prohibited underwritings with Massachusetts issuers and earned more than $7.5 million in underwriting fees.

According to the complaint, this seems like an egregious violation of the pay-to-play rules. It does highlight that items beyond cash contributions could be considered a “contribution” under the pay-to-play rule.

We would not consider a donation of time by an individual to be a contribution, provided the adviser has not solicited the individual’s efforts and the adviser’s resources, such as office space and telephones, are not used….

A covered associate’s donation of his or her time generally would not be viewed as a contribution if such volunteering were to occur during non-work hours, if the covered associate were using vacation time, or if the adviser is not otherwise paying the employee’s salary

Sec Release IA-3403 page 46 and footnote 157 (.pdf)

From a compliance perspective, the question is how to value the use of time in the office, email, and phone usage. I suppose you can add up long distance charges. For employees you can use their hourly rate to determine time spent.  For Morrison, it appears that even using a very conservative measurement  of his time and the Goldman resources, the value would be many times in excess of the $250 limit under the MSRB rule. (The SEC limit is $350 if you can vote for the person.)

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Data Breaches in Massachusetts

Through September 30, 2011, the largest share of breaches was not in the financial sector, but in the retail and healthcare industries, along with government. On October 31, 2007, the Commonwealth’s Data
Security Breach Law, Mass. Gen. Law c. 93H, went into effect. On March 1, 2010, the Office of Consumer Affairs and Business Regulation’s Data Security Regulations, 201 CMR 17.00, went into effect.

The Office of Consumer Affairs and Business Regulation has been tracking the data breach notifications it has received under the law. As of Sept. 30, 2011, there had been 1,833 notifications of security breaches. The number of Massachusetts residents affected by the reported incidents since November 1, 2007 now totals 3,166,031. (I’m not sure if the report is double counting “resident” who may be involved in more than one data breach. After all, there are fewer than 7 million residents in Massachusetts.)

The biggest breach in 2011 was the Sony Playstation network incident which affected 560,990 residents. The second largest came from the state itself when 245,000 residents were affected by a large malware data breach in the Department of Unemployment Assistance. That puts entertainment and state government into the top two slots for breach types in 2011 and the third and fourth place for breaches since 2007. Health care and financial services are the leading industry for breaches.

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Private Fund Advisers and State Registration

As a result of the shifting boundaries between state and federal regulation of investment advisers, NASAA created a model rule for Registration Exemption for Investment Advisers to Private Funds. The rule tracks the general parameters of the new federal rules for investment adviser registration for private fund advisers.

Massachusetts became the latest state to adopt its own regulations with such an exemption. A new private fund adviser exemption was adopted by the Massachusetts Securities Division, along with amendments to the “qualified institutional buyer” definition and IA custody requirements.

While the amendments took effect February 3, 2012, they will be not be enforced until August 3, 2012. You’ve got six months to get in compliance. The rules apply to adviser firms doing business in the Commonwealth, which generally means having a place of business in Massachusetts.

The new Massachusetts exemption is available to advisers to private funds that take money only from “qualified clients.” That definition carries over from Rule 205-3. Under that updated SEC rule,  “qualified clients” must have at least $1 million of assets under management with the adviser, up from $750,000, or a net worth of at least $2 million, up from $1 million.

Private funds using the Section 3(c)(7) exemption under the Investment Company should already meet this standards. Managers to section 3(c)1 funds will need to increase their threshold for investors from accredited investors to qualified clients.

The Massachusetts regulation tries to complement the SEC changes affecting private fund advisers under Dodd-Frank. So private fund advisers with between $25M-$150M in AUM, would have to file the exempt-reporting adviser sections of Form ADV. Those with more than $150M in AUM would have to notice file in the state as well as register with the SEC. Those private fund advisers with under $25M in AUM would also complete the exempt reporting sections of the form for Massachusetts.

States are still trying to catch up to the Dodd-Frank requirements:

They are well behind, leaving some uncertainty for managers of smaller private funds about their registration requirements.

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Placement Agent Policies for Massachusetts Public Pension Systems

The local retirement boards in Massachusetts are subject to new regulations regarding placement agents. That means if you have one of the boards as investor in your fund or a client in your advisory business, you need to supply new information to your clients/investors.

Public Employee Retirement Administration Commission is the umbrella regulatory organization that oversees the dozens of local retirement boards in the Commonwealth. Last month they issued Memorandum #34 that implements the new PERAC Placement Agents Policy (.pdf).

As a manager you will need to provide:

(a) a statement whether you used a placement agent

(b)  a resume detailing education, professional designations, regulatory licenses and investment and work experience.  If he or she is a current or former member of a retirement board, employee or consultant or immediate family of such a person that fact should be specifically noted.

(c)  a description of any and all compensation of any kind provided or agreed to be provided to a placement agent, including the nature, timing and value thereof;

(d)  a description of the services to be performed by the placement agent

(e) a written copy of any and all agreements between the manager and the placement agent

 (f) in the event that any current or former Massachusetts public pension system board members, employees, consultants or other service providers have suggested the retention of the placement agent, the names of that person

 (g)  a statement that the placement agent has a minimum of three years experience in the investment field

 (h)  a statement that the placement agent is registered with the Securities and Exchange Commission or the Financial Industry Regulatory Authority, or, if appropriate, the Commodity Futures Trading Commission

The pension board will have to include a provision in the investment management agreement that in the case of a breach will allow the board to terminate the agreement and have two years of management fees returned.

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Massachusetts Revises Proposed Private Fund Adviser Exemption

From my discussions, many real estate fund managers are still not sure if they are subject to registration under the Investment Advisers Act. The definition of “private fund” can exclude many real estate funds depending on the structure of their investments. I think the result is that you end up under the federal level of registration and in the state level of regulation. Many states are still trying to get their regulations to mesh better with the changes coming from Dodd-Frank.

One of those is my home state of Massachusetts. Back in April the Massachusetts Securities Division proposed changes to 950 CMR 12. 00 et. seq. that would alter the definition of institutional buyer found at 950 CMR 12.205(1)(a)(6) and proposed an exemption for certain “private fund” advisers. A public hearing was held on June 23, 2011. In light of the comments and the SEC’s changes in the regulatory framework since the original proposal, the Securities Division has amended the proposed regulations and is now seeking additional comment.

A public hearing is scheduled for December 6. That’s going to be a tight time frame for advisors that are trying navigate through the new regulatory framework and face a mid-February filing deadline.

Currently, Massachusetts has an exemption from registration for advisers who only clients are “institutional buyers.”

An investing entity whose only investors are accredited investors as defined in Rule 501(a) under the Securities Act of 1933 (17 CFR 230.501(a)) each of whom has invested a minimum of $50,000.

For a private fund manager, this was a great exemption since their investors would need to be accredited investors. As long they kept capital commitments at a minimum of $50, 000 they could usually take advantage of this exemption.

The proposed regulations would phase out the use of the institutional buyer exemption for new funds. The regulations would also create an exemption for private fund advisers that is better aligned with the federal exemptions.

The regulations probably will not help real estate fund advisers who are looking at state-level exemptions to avoid registration.

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