In prepared remarks at the 37th Annual Conference on Securities Regulation and Business Law, SEC Commissioner Daniel Gallagher discussed the controversy over the granting of exemptions from various types of “bad actor” disqualification under federal securities laws. The current debate follows the disqualification waiver granted to RBS last spring and the more recent decision to grant Oppenheimer & Co. a waiver after the latest enforcement action against it. Arguing that disqualifications should not be used in the manner of enforcement sanctions, Gallagher reviewed the legislative and regulatory history of disqualification provisions. For those provisions for which there is Congressional and SEC commentary, legislative and regulatory history reveals a “common theme of keeping so-called ‘bad actors’ out of the industry and…preventing fraud” and at the same time a willingness to allow exemptions to those “unlikely to abuse that relief through fraudulent or other improper conduct.” He highlighted the tension between using the disqualification and waiver process to reduce recidivism, as has historically been its purpose, and, as is increasingly the case, as a more punitive form of “sanction enhancement,” a dynamic complicated by the role of automatic disqualifications. Gallagher argued that automatic disqualifications are not meant to be used as enforcement sanctions at all, demonstrated by the fact that they were not incorporated into the Securities Law Enforcement Remedies Act of 1990. Automatic disqualifications are, rather, intended to be a screening mechanism, not a flexible form of remedial sanction to be tailored to the severity of the violation. Gallagher argued that if the SEC is unable to agree on a process to fairly consider disqualifications apart from enforcement sanctions or to include waiver requests as part of enforcement settlement proceedings, Congress may need to weigh in to resolve the dispute.
Commissioner Luis Aguilar issued a public statement on February 13 calling for improvements to make the municipal securities market more transparent, liquid and fair. Despite the importance of the municipal securities market in the provision of public resources and to individual investors, particularly retirees, Aguilar alleged that the market has been under-regulated and is placing individual investors at a “distinct disadvantage,” causing them to pay higher markups than institutional investors. After commenting on the structure of the market and new challenges facing it, including the retreat of dealers, Aguilar reviewed recent regulatory initiatives, including proposed MSRB and FINRA rules, before proposing additional remedies to improve the market. Aguilar proposed the following six areas of reform: (1) repealing the Tower Amendment and the exemption for municipal securities from the registration and disclosure provisions of the Securities Act and the Exchange Act, (2) revising Rule 15c2-12 to improve municipal issuers’ disclosures, (3) updating the Commission’s interpretive guidance, (4) improving pre-trade price transparency, (5) continuing to improve post-trade price transparency and (6) enhancing information sharing among regulators.
Litigation & Enforcement
The SEC announced that it had settled administrative proceedings against Water Island Capital LLC, an investment adviser to several alternative mutual funds, related to the SEC’s findings that approximately $247 million in cash collateral for certain of the funds’ total return and portfolio return swap positions was maintained with broker-dealer counterparties instead of with the funds’ bank custodian as required under the Investment Company Act of 1940 and the funds’ compliance policies. The SEC also found that the adviser failed to implement the funds’ policies pursuant to Rule 12b 1(h) under the Investment Company Act which prohibits a fund from compensating a broker-dealer for promoting or selling fund shares by directing brokerage to that broker-dealer. The SEC found that the adviser had not, as required by the funds’ Rule 12b-1(h) procedures, (1) created and maintained an approved list of executing brokers for the funds, and (2) documented efforts to monitor compliance with the procedures. The violations were uncovered during an SEC examination. The adviser agreed to pay a $50,000 civil penalty. In the Matter of Water Island Capital LLC, SEC Release No. IC – 31455 (Feb. 12, 2015).
The U.S. Commodity Futures Trading Commission (CFTC) obtained a federal court Order requiring Defendants Scott M. Ross, and his companies, Maize Capital Management, LLC and Maize Asset Management, LLC, jointly to pay $5,402,818 in restitution to the participants in his fraudulent and illegal “Maize Fund” investment scheme, as well as a $1.3 million civil penalty. According to the original CFTC Complaint, Ross and his companies engaged in extensive fraud and other unlawful conduct by making false statements to prospective investors in marketing materials, issuing false account statements that reflected profits when trading was not profitable, mishandling customer funds, and failing to properly register with the CFTC as a commodity pool operator (CPO). In soliciting funds for and operating the pool, the Defendants provided participants and prospective participants with pitch books and a private placement memorandum that contained materially false and misleading statements, including misrepresentations regarding the pool’s investment strategy, the percentage of customer funds that would be placed at risk at any one time, the qualifications of investors who would participate in the pool, the minimum amount that would be accepted for investment in the pool, and Maize Capital’s legal status as an “exempt” CPO.