Editor's letter

Citation

Davis, H.A. (2015), "Editor's letter", Journal of Investment Compliance, Vol. 16 No. 1. https://doi.org/10.1108/JOIC-02-2015-0018

Editor's letter

Article Type: Editor's letter From: Journal of Investment Compliance, Volume 16, Issue 1

Henry Davis

In the following 14 articles, leading practitioners concerned with legal and regulatory issues relevant to broker-dealers, investment banking firms, investment advisers, mutual funds, hedge funds and private equity firms provide explanation and insight on current issues including regulation of high-speed trading, regulatory issues facing Bitcoin-related businesses, insider stock ownership reporting, changes to money fund regulation, IRS filing requirements for investment managers, systemic risks related to the asset management industry, transactions involving unregistered securities, insider trading by broker-dealer employees, regulation of proxy advisory firms, allocation of expenses by private equity firms, Foreign Account Tax Compliance Act (FATCA) violations, SEC whistleblower awards, and hedge fund manager fraud.

Matt Rossi, Greg Deis, Jerome Roche, and Kathleen Przywara observe that high frequency trading practices have received greater scrutiny from not only the public, but also from government regulators since the publication of Michael Lewis’s Flash Boys. Their article highlights the significant developments from last year that affected high frequency trading firms and offers advice to firms on how to use these developments to navigate this enforcement environment in 2015, which appears poised to persist in its intensity. In particular, the article describes enforcement actions brought by the USA Securities and Exchange Commission (SEC) and criminal actions brought by the USA Department of Justice, and describes how such actions reflect the increased interest into high frequency trading taken by federal and state agencies.

Evan Greebel, Kathleen Moriarty, Claudia Callaway, and Gregory Xethalis provide an overview of the key USA regulatory issues facing companies engaged in Bitcoin-related businesses. They explain and draw conclusions from six recent regulatory and law-enforcement developments relating to bitcoins and virtual currencies. Rather than trying to stifle or control virtual currencies, the authors explain, USA governmental entities recognize the long-term value of virtual currencies and are trying to create a regulatory regime to foster growth and development, and an atmosphere where institutional and retail investors are protected.

Richard Parrino, Peter Romeo and Alan Dye explain an SEC enforcement initiative directed at insider stock ownership reporting violations of the Securities Exchange Act of 1934 by public company officers, directors and significant stockholders. The SEC considers insider ownership reports important because they provide investors with an opportunity to evaluate whether the holdings and transactions disclosed in the reports could be indicative of a company’s prospects. In 34 enforcement actions announced on the same day in September 2014, the authors explain that the SEC’s Enforcement Division provided public company insiders and compliance professionals with a strong warning that delinquent reporting of stock holdings and stock transactions by insiders may no longer benefit from the Division’s benign neglect. In a departure from the SEC’s enforcement approach over the past dozen years, in which it charged insider reporting violations only when they related to fraud or other major violations of the securities laws, the SEC now promises to target the offenders for enforcement on a stand-alone basis without regard to other possible wrongdoing. It appears that technology might be playing a role in this change in enforcement approach. The Enforcement Division indicated in its announcement and at a press conference that it is now better able to bring stand-alone actions based on reporting violations, as well as other violations of the securities laws, due to efficiencies achieved through the use of quantitative data sources and ranking algorithms that enable the SEC to identify violators more easily. This article takes a close look at what this enforcement initiative might mean and how existing reporting compliance programs can be refreshed and enhanced.

Jack Murphy, Stephen Cohen, Brenden Carroll, Aline Smith, Matthew Virag and Justin Goldberg explain problems money market funds encountered during the financial crisis, various proposed solutions to those problems, and the SEC’s July 23, 2014 amendments to Rule 2a-7 and other rules that govern money market funds under the Investment Company Act of 1940. During the financial crisis, at least one money market mutual fund “broke the buck,” or allowed its net asset value to dip below the $1.00 NAV customarily maintained by mutual funds. The Amendments set forth sweeping changes to money fund regulation and will have a profound effect on the money fund industry. Although the most significant provisions of the Amendments – the floating NAV requirement and the imposition of liquidity fees and redemption gates – will not go into effect for two years, the changes to the industry will be apparent almost immediately.

Roger Lorence describes a constant growth in the extent and complexity of information returns and protective return filings required by the USA Internal Revenue Service of participants in the investment management industry. Unfortunately he sees little prospect of relief from tax authorities at any level or from the USA Congress.

Perrie Weiner, Patrick Hunnius and Grant Alexander discuss potential new regulatory action by the SEC in response to the Commission’s apparent increasing concern that the multimillion-dollar asset management industry could create substantial instability to the financial system with the occurrence of a significant event such as a sudden change in interest rates or widespread investor redemptions. It has been suggested that a proposed SEC sweep of alternative mutual funds is part of a larger strategy to bring alternative mutual funds and similarly situated entities such as asset managers or hedge funds under the same regulatory umbrella imposed upon the largest banks and other financial service organizations in response to the 2008 financial crisis. The authors recommend four steps for alternative mutual fund managers to take at this time to protect their interests.

Bruce Bettigole and Charlie Kruly discuss an SEC requirement that broker-dealers conduct “reasonable inquiries” into the circumstances surrounding any customers’ claimed registration exemptions for transactions involving unregistered securities to ensure that those broker-dealers do not inadvertently facilitate any unlawful distributions of securities. Section 5 of the Securities Act of 1933 generally prohibits offers or sales of unregistered securities unless one of several specified exemptions applies. The authors describe a recent $1 million SEC settlement with two broker-dealers that, in their opinion, gives many suggestions but insufficient definitive guidance on what practices the SEC considers sufficient to satisfy a broker-dealer’s obligations to conduct proper inquiries related transactions involving unregistered securities.

Dan Nathan and Tiffany Rowe describe the first case in which the SEC has brought charges against a broker-dealer for failure to adequately protect against insider trading by its own employees. One of that firm’s brokers used a customer’s confidential information regarding an impending acquisition by a private equity firm to purchase stock in the target company. In its settlement order, the SEC found that the broker-dealer failed to establish, maintain and enforce policies and procedures reasonably designed to prevent the misuse of material non-public information – specifically such information obtained from its customers and advisory clients. The authors provide suggestions for firms’ policies and procedures to prevent insider trading.

John Sorkin, Abigail Pickering Bomba, Steven Epstein, Jessica Forbes, Peter Golden, Philip Richter, Robert Schwenkel, David Shine, Arthur Fleischer and Gail Weinstein discuss a staff legal bulletin the SEC issued after a four-year comprehensive review of the proxy system. Despite concerns about the increasing use, influence, and power of proxy advisory firms over the voting of securities in companies in which they have no direct economic interest and may have potential conflicts of interest, the authors note that the SEC’s guidance does not go as far in regulating proxy advisory firms as many anticipated it would. The obligations specified in the guidance are imposed on the investment advisers who engage the proxy firms. They include investment advisers’ duty to oversee their proxy advisers and to investigate their proxy advisers’ errors.

Kenneth Berman, Gregory Larkin, Phil Giglio, Erica Berthou, Michael Harrell, Jordan Murray, Jaime Schechter and Geoffrey Kittredge discuss an SEC enforcement action charging a private equity fund manager with violating the anti-fraud provisions of the Investment Advisers Act of 1940 as well as Advisers Ac Rule 206(4)-7, the “Compliance Rule,” for improperly allocating expenses between two private equity fund clients and failing to adopt and implement written policies and procedures reasonably designed to prevent violations of the Advisers Act with respect to two “integrated” portfolio companies of those funds. The authors advise private equity fund sponsors to ensure that they and their portfolio companies have written policies in place designed to fairly allocate all expenses – including fixed overhead expenses – among all entities that benefit from the activities driving such expenses and that none of the sponsor’s clients are directly or indirectly benefitted or harmed from allocation policies at the portfolio company level.

Cary Meer and Lawrence Patent explain a USA Commodity Futures Trading Commission (CFTC) no-action letter that sets forth a number of conditions with which a commodity pool operator (“CPO”) that delegates its CPO responsibilities (“Delegating CPO”) to a registered CPO (“Designated CPO”) must comply in order to take advantage of no-action relief from the requirement to register as a CPO. Those CPO responsibilities include registration with the CFTC, membership in the National Futures Association (NFA), compliance with CFTC and NFA regulations, and significant regulatory reporting requirements.

Miriam Fisher and Brian McManus describe a federal indictment that marks the first time a Foreign Account Tax Compliance Act (FATCA) violation has been charged as an “overt act” in furtherance of a tax conspiracy and tax fraud, striking a cautionary note for financial institutions and financial service providers that may be used as instrumentalities of crime. The indictment followed a sophisticated, multi-agency undercover operation and clearly demonstrates USA authorities’ commitment to use a wide variety of law enforcement tools to combat offshore tax evasion and financial fraud.

Mark Srere, Mary Beth Buchanan, Elaine Drodge Koch, Jennifer Mammen and Tyson Johnson highlight the first award granted under the SEC Whistleblower Program to a compliance professional. The SEC has highlighted this award to a compliance professional, noting that individuals performing compliance, audit, and legal functions are on the front lines against fraud and corruption and are often privy to the very kinds of specific, timely, and credible information that can prevent an imminent fraud or stop an ongoing fraud. The SEC’s specific courting of compliance and audit personnel makes it even more important for companies to pay particular attention to complaints raised by those individuals.

Majed Muhtaseb describes how a hedge fund manager established and built his business; how he solicited investors; how he falsified financial reporting to investors; how investors discovered his fraud and filed lawsuits; how about 500 investors, including prominent National Football League (NFL) players, lost about $185 million; how the SEC and the Federal Bureau of Investigation (FBI) took disciplinary action; and how the NFL players unsuccessfully sued the NFL and its players’ union for recommending the fraudulent manager’s firm. The author draws lessons from the story for investors and associations.