On March 15, 2019, the U.S. Securities and Exchange Commission charged a private fund manager and its former chief operating officer with manipulating the price of an asset sold by one client to another. The SEC’s orders charge Talimco LLC and its former Chief Operating Officer Grant Rogers with breaching their fiduciary duties in violation of the anti‑fraud provisions of the Investment Advisers Act of 1940. This action exemplifies the SEC’s continued focus on cross trades and on internal controls relating to conflicts of interest.

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The National Futures Association issued two Interpretive Notices that will affect all private fund managers that are NFA members (i.e., managers with funds or accounts that trade commodity interests and that are not eligible for an exemption from registration with the Commodity Futures Trading Commission). While the Interpretive Notices address different areas of risk — one is focused on the need for more formal supervision of key financial functions, and the other is focused on addressing cybersecurity risks — they both require the attention of senior administrative personnel. Given that the obligations set forth in these notices will become effective on April 1, 2019, all affected managers should take steps to ensure timely compliance.

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The Consumer Financial Protection Bureau (“CFPB”) recently issued a proposal consisting of (i) revisions to its Policy on No-Action Letters — which was finalized in February 2016 (“2016 Policy”) — designed to increase interest in applying for no-action letters (“NALs”) under the 2016 Policy; and (ii) the creation of a CFPB Product Sandbox (collectively, the “Proposal”). The Proposal was issued by the CFPB, among other reasons, to spur innovation in the fintech sector. Comments on the Proposal will be due 60 days after its publication in the Federal Register.

Under the 2016 Policy, which provides for the issuance of NALs consisting of non-binding staff-level no-action recommendations, the CFPB has issued only one such letter to date. The Proposal, which is intended to better incentivize firms — including fintech companies — to seek NALs from the CFPB, has the following overarching goals:

  • Streamlining the application process;
  • Streamlining the CFPB’s processing of applications;
  • Expanding the types of statutory and regulatory relief available;
  • Specifying procedures for an extension where the relief initially provided is of limited duration; and
  • Providing for coordination with existing or future programs offered by other regulators designed to facilitate innovation.

The Proposal was filed on Dec. 10, 2018 and signed by Mick Mulvaney on the last day of his tenure as acting director of the CFPB. Kathy Kraninger, who was sworn in as the director of the CFPB later that same day, has not publicly opined on her position on the Proposal.

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On Oct. 9, 2018, in a wide-ranging notice of proposed rulemaking (the “KISS Proposal”), the Commodity Futures Trading Commission proposed (1) to codify several accepted practices that currently rely on no-action letters and similar CFTC staff guidance and (2) to make a number of substantive changes to CFTC regulations, such as offering broader exemptive relief for offshore funds and imposing disqualifications from certain commonly claimed exemptions.

The proposals are now in a comment period, so investment managers that (1) are CFTC registrants, (2) are claiming one or more exemptions from CFTC registration or (3) operate funds that are claiming one or more exemptions under the CFTC’s regulations should review the proposals to determine what, if any, changes the KISS Proposal would have on their businesses. Some managers may deem it useful to submit comment letters to the CFTC explaining what the effect of these regulations, if adopted, would be on their businesses.

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On Oct. 3, 2018, the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the National Credit Union Administration, the Office of the Comptroller of the Currency and the U.S. Department of the Treasury’s Financial Crimes Enforcement Network (collectively, the “Agencies”) issued an interagency statement regarding the sharing of Bank Secrecy Act (“BSA”) resources (“Interagency Statement”). The Interagency Statement is directed at banks, and does not extend to other financial institutions subject to the BSA, such as money services businesses or broker-dealers. For purposes of the Interagency Statement, the term “bank” includes each agent, agency branch or office within the United States of any bank, savings association, credit union or foreign bank (each, a “Bank”).

The Agencies clarified that Banks, particularly those with “a community focus, less complex operations, and lower-risk profiles for money laundering or terrorist financing,” may decide to enter into collaborative arrangements to share resources to manage their BSA and anti-money laundering obligations more efficiently and effectively — although, each Bank that enters into a collaborative arrangement remains individually responsible for ensuring compliance with its obligations under the BSA. Any collaborative arrangement entered into by a Bank must be designed and implemented in accordance with the Bank’s risk profile for money laundering and terrorist financing, subject to oversight by the Bank’s board of directors and periodic evaluation, appropriately documented and supported by a contractual agreement between the participating Banks that sets forth each institution’s rights, responsibilities and procedures for protecting customer data and confidential information.

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On Sept. 28, 2018, the Commodity Futures Trading Commission filed a civil enforcement action against EOX Holdings LLC, an introducing broker, and one of its registered associated persons, Andrew Gizienski. The CFTC’s complaint, which charges that EOX Holdings and Gizienski misused material, nonpublic information in connection with block trades of energy contracts on the ICE Futures U.S. exchange, represents the latest assertion of CFTC jurisdiction over the relatively new concept of illegal insider trading in the commodity futures, options and swaps markets.

More importantly, on that same day, the CFTC also announced the formation of a special insider trading task force within the CFTC’s Division of Enforcement. The new Insider Trading and Information Protection Task Force aims to identify incidents of potential insider trading in the commodity derivatives markets and to bring charges for illegal insider trading. It is a national effort that draws on several CFTC offices for personnel and support.

Taken together, these steps make it clear that the CFTC is actively trying to expand the scope of its traditional enforcement role and to nurture the growth of traditional insider trading principles in the commodity derivatives markets. The fact that the CFTC is voluntarily undertaking to grow its capabilities in this area, at a time when its overall budget is seen by many observers as not being sufficient to support its growing scope of overall responsibility, only underscores the agency’s determination. Managers that actively trade in this space should ensure that they understand the scope of the CFTC’s new role and that they address the various risks raised by their trading and investment strategies.

To read more about the CFTC’s increasing insider trading enforcement efforts and what the implications are for private fund managers, click here.

On Sept. 26, 2018, the SEC approved a proposal previously filed in January by The Nasdaq Stock Market LLC to amend Nasdaq Listing Rule 5635(d), the shareholder approval rules applicable to discounted private placements. Under the previous version of Nasdaq Listing Rule 5635(d), Nasdaq-listed companies were generally required to obtain shareholder approval prior to the issuance of securities in a nonpublic offering if (1) the number of shares of common stock issued or potentially issuable (including on conversion or exercise of warrants or convertible securities) was equal to 20 percent or more of the common stock outstanding or the voting power prior to the issuance, and (2) the issuance price was less than the greater of the book or market value of the common stock.

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In its budget request for fiscal year 2018, the CFTC outlined an increasingly muscular enforcement effort, stating that, “the Commission will utilize its enforcement resources to continue preserving market integrity[.]” This 2017 request, however, also foreshadowed a new enforcement initiative for 2018, one focused on:

“Increasing effectiveness and efficiency of enforcement through cooperative enforcement with SROs, state, Federal, and international authorities, including achieving efficiencies through referrals[.]”

The fruits of this “cooperative enforcement” initiative became evident in the last three weeks of the CFTC’s 2018 fiscal year. In what has become a familiar pattern with other federal regulators, the close of the fiscal year is preceded by the announcement and resolution of numerous enforcement actions. What was especially noteworthy this year, however, was the number of CFTC enforcement actions that were marked by nearly-simultaneous settlements with self-regulatory organizations, such as the National Futures Association, the self-regulatory organization for the commodity derivatives industry, and CME Group, a global operator of commodity futures and options exchanges.

To read more about these recent settlements and the implications for private fund managers, click here.

On Sept. 12, 2018, the U.S. Securities and Exchange Commission charged the principal of a hedge fund manager and the hedge fund manager itself with illegally profiting from a scheme to drive down the price of Ligand Pharmaceuticals Inc., generating approximately $1.3 million in illegal profits. The SEC’s complaint charges that Gregory Lemelson and Massachusetts-based Lemelson Capital Management LLC issued false information about Ligand after Lemelson took a short position in Ligand on behalf of The Amvona Fund, a hedge fund LCM advised and Lemelson partly owned.

The regulatory action follows the Commission’s stated objective of protecting retail investors and is a continuation of a multi-year effort by the SEC to monitor hedge funds (and others) using social media to disseminate information about public companies.

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On Aug. 27, 2018, the U.S. Securities and Exchange Commission announced settlements with a U.S.-based registered investment adviser, several of its affiliates and two of its executives for alleged misconduct involving quantitative investment models that contained numerous errors.

These settlements, especially when placed in the context of other recent enforcement efforts related to quantitative and systematic trading strategies, make it clear that the SEC staff will utilize its anti-fraud powers to sanction investment advisers employing systematic or quantitative investment strategies that do not design and administer supervisory programs specifically designed to effectively address the risks inherent in algorithmic and similar investment techniques or that do not have accurate, current disclosures on those investment programs. The Aug. 27 settlements also reinforce a broader trend in holding senior personnel of investment advisers personally liable for their roles in causing an adviser’s violations.

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