Bridging the Week by Gary DeWaal: June 15 to 19 and 22, 2015 (Another CCO Sued; Atypical Price Activity; Unauthorized Swaps; Illegal Swaps; Manipulation)

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Published Date: June 21, 2015

Last week, another chief compliance officer was named in an enforcement action, while a new type of wrongful conduct was identified in the financial services industry – causing “atypical price activity.” In addition, the Commodity Futures Trading Commission resolved two old enforcement matters: a complaint against a former MF Global broker for attempting to manipulate two NYMEX futures contracts, and a complaint against another former broker for unauthorized swaps trades on behalf of a customer. As a result, the following matters are covered in this week’s Bridging the Week:

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Investment Adviser Chief Compliance Officer Blamed in SEC Lawsuit for President’s Theft of Client Funds; SEC Commissioner Criticizes Enforcement Actions Against CCOs Generally

The Securities and Exchange Commission filed two separate administrative complaints last week related to the misappropriation of client funds by the former president of an investment adviser.

In one action, the SEC sued Brian Ourand, the former president of SFX Financial Advisory Management Enterprises, for allegedly stealing client funds from 2006 to 2011. SFX was registered with the SEC as an investment adviser from 1992 through 2012.

In the second action, the SEC sued SFX and Eugene Mason, SFX’s chief compliance officer. The SEC charged Mr. Mason with causing SFX not to have adequate compliance policies and procedures reasonably designed to detect the theft by Mr. Ourand.

According to the SEC, during the relevant time, Mr. Ourand wrote unauthorized checks from client accounts to himself. Without client approval, he also allegedly wired funds from such accounts to others as well as himself. According to the SEC, Mr. Ourand stole in excess of US $670,000 from clients.

The SEC acknowledged that Mr. Mason discovered Mr. Ourand’s activities as a result of a client complaint. In response to the complaint, SFX and Mr. Mason investigated Mr. Ourand’s conduct, SFX fired Mr. Ourand, and SFX reported Mr. Ourand’s theft to criminal authorities, said the SEC.

The SEC said that Mr. Ourand was able to commit his fraud because SFX granted Mr. Ourand full signatory power over client bank accounts. This was because the firm’s compliance policies and procedures “were not reasonably designed, and were not effectively implemented, to prevent the misappropriation of client funds,” said the SEC. The SEC claimed that, as CCO, Mr. Mason was responsible for the implementation of these policies and procedures.

The SEC also said that SFX’s compliance policies and procedures mandated that there be a review of cash flows in client accounts. The SEC said that neither SFX nor Mr. Mason complied with this requirement.

As a result of these and other alleged violations, the SEC charged SFX with engaging in fraudulent conduct and failing to supervise Mr. Ourand, as well as with not having adequate written policies and procedures designed to avoid violations of law. The SEC charged Mr. Mason with causing SFX not to have such policies.

To resolve this matter, SFX agreed to pay a fine of US $150,000 and Mr. Mason a fine of US $25,000, among other sanctions. Mr. Ourand’s action is pending.

In a separate written statement, departing Securities and Exchange Commissioner Daniel Gallagher criticized this and another recent enforcement action involving BlackRock Advisors LLC (click here to access the relevant order) against chief compliance officers, claiming such actions misapplied Commission rules regarding who is responsible for implementing investment adviser compliance policies and procedures.

According to Mr. Gallagher, investment advisers have the responsibility to implement such policies under the applicable rule, not CCOs (SEC Rule 275.206(4)-7; click here to access). Mr. Gallagher claimed that any contrary position risks

sending a troubling message that CCOs should not take ownership of their firm’s compliance policies and procedures, lest they be held accountable for conduct that … is the responsibility of the adviser itself. Or worse, that CCOs should opt for less comprehensive policies and procedures with fewer specified compliance duties to avoid liability when the government plays Monday morning quarterback.

Mr. Gallagher said he voted against the two enforcement actions naming the CCOs of BlackRock and Mr. Mason because, in both cases, the SEC charged the CCO with not implementing compliance policies and procedures that addressed the substantive violation of the investment adviser (in the BlackRock matter, a conflict of interest of one of its portfolio managers and in the SFX matter, the misappropriation of clients funds by the adviser’s former president).

Mr. Gallagher claimed it is unfair to name CCOs in enforcement actions because the language of the relevant regulation "is not a model of clarity" although it appears to place the burden for implementing compliance policies and procedures on investment advisers, not CCOs. In any case, he said, “we should not be resolving this uncertainty through enforcement actions.”

My View: Mr. Gallagher’s legal analysis is spot on. The relevant regulation clearly states that if you are an investment adviser you must “adopt and implement written policies and procedures to prevent violation by you and your supervised persons” of applicable law (emphasis added). The same regulation separately says that chief compliance officers are responsible for administering such policies. The difference between the responsibilities of the adviser itself and the CCO could not be clearer and Mr. Gallagher is diplomatic when he says the relevant language is "not a model of clarity." Worse, the recent enforcement actions against BlackRock’s and SFX’s CCOs continue a worrisome development worldwide whereby regulators increasingly are looking to CCOs as the insurers of financial services firms’ overall compliance with law. (Click here for background in the article, "FCA Sanctions Bank of Beirut, Former Compliance Officer and Former Internal Auditor for Providing Misleading Information Regarding AML Systems and Controls Remediation" in the March 8, 2015 edition of Bridging the Week.) As Mr. Gallagher correctly points out, this confuses the role of CCOs with business supervisors, and places on CCOs untenable obligations and potential liability.


Compliance Weeds: The Mirus Futures settlement serves as a reminder to firms of their obligation to ensure that their automated trading systems are functioning reliably at all times. Although exchanges may not have express provisions requiring firms to maintain robust ATSs, they will use a variety of provisions to prosecute firms if a breakdown in a system impacts a market detrimentally – including possibly charging a firm with disruptive trading itself. (Click here for more details in the article “CME Group and ICE Futures U.S. Each Fine a Trader for Automated Trading System Malfunction” in the March 29, 2015 edition of Bridging the Week.) Both the Financial Industry Association and the Futures Industry Association recently have published best practices for firms in connection with their ATSs. (Click here for details in the article “SEC Proposes FINRA Oversee Certain High-Frequency Trading Firms; FINRA and FIA Issue Best Practice Guidance” in the March 29, 2015 edition of Bridging the Week.) Firms with ATSs should review these best practices and adopt as many as practical.

Compliance Weeds: In this matter, the requirement that an investment company’s board members request and evaluate information “as may be reasonably necessary” to appoint an adviser is established by statute (Section 15(c) of the Investment Company Act; click here to access). Thus the failure of board members to follow this requirement, including following up when incomplete information was provided in response to a request for information, may be deemed a violation of law, as the SEC charged in this matter. However, not following up on incomplete or facially inaccurate information in response to any internal investigation or review, or due diligence inquiry, could cause later regulatory issues for any regulated firm – whether the initial request was mandated by law or not – if it turns out that review of the missed information might reasonably have prevented a regulatory breach down the line. Moreover, the determination of reasonableness will likely only be determined after the fact. Be mindful!

And even more briefly:

And finally -- A Letter to the Editor:

This subject is very significant but your “my view” comment perhaps is insufficient.

Ethics and rules are not about the same thing. I am in NO WAY saying that abuses did not occur in “my day” but there was an ethical overlay that in some measure precluded the necessity for detailed rules. Indeed, as you say, detailed rules promote a box-ticking mentality rather than an ethical code.

One needs to go a little further, however and look at the RESULTS of ethical malfeasance: Who LOST as a consequence of LIBOR rigging? Who GAINED? Clearly the employers, direct and indirect LOST because they were being defrauded into paying bonuses that were revenue-related, but in the wider world? For every borrower who was hurt by a higher LIBOR there was a depositor who obviously benefitted from a higher LIBID.

That the manipulators are scumbags is evident. That they do not deserve to work in any respectable company – ditto. But there needs to be SOME sense of proportion.

Got a vague feeling that compulsory reading (and testing thereon) of a biography of Teddy Roosevelt might be more use than a boxful of rules.

For more information, see:

Business and Principals Stopped by SEC From Transacting in OTC Security-Based Swaps With Retail Persons:

Causing “Atypical Price Activity” in Gold Futures Results in US $200,000 Fine by COMEX

LCM Commodities:
Mirus Futures (Ninja Trading):

CFTC Staff Extends Expiration Date of No-Action Relief Related to Certain Reporting Obligations of Swap Dealers and MSPs:

ESMA and IOSCO Announce Their Strategic Direction Through 2020:

Annual Report:
Strategic Orientation:

FCM Broker Fined US $1.2 Million by CFTC for Unauthorized Swaps Trading for Customer:

Former MF Global Broker Agrees to US $500,000 CFTC Fine for Attempting to Manipulate Palladium and Platinum Settlement Prices From 2006 Through 2008:

Investment Adviser and Mutual Fund Board Members Sued by SEC for Inadequate Advisory Contract Approval Process:

Investment Adviser Chief Compliance Officer Blamed in SEC Lawsuit for President’s Theft of Client Funds; SEC Commissioner Criticizes Enforcement Actions Against CCOs Generally:

SEC Complaints:
SFX and Mason:
Statement of Commissioner Gallagher:

SEC Sanctions Thirty-Six Underwriting Firms More Than US $9 Million for Misleading Offering Statements:

Worldwide Trade Organizations Endorse ISDA’s Key Principles for Governing Trade Reporting and Data Harmonization:

The information in this article is for informational purposes only and is derived from sources believed to be reliable as of June 20, 2015. No representation or warranty is made regarding the accuracy of any statement or information in this article. Also, the information in this article is not intended as a substitute for legal counsel, and is not intended to create, and receipt of it does not constitute, a lawyer-client relationship. The impact of the law for any particular situation depends on a variety of factors; therefore, readers of this article should not act upon any information in the article without seeking professional legal counsel. Katten Muchin Rosenman LLP may represent one or more entities mentioned in this article. Quotations attributable to speeches are from published remarks and may not reflect statements actually made.

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Gary DeWaal

Gary DeWaal is currently Special Counsel with Katten Muchin Rosenman LLP in its New York office focusing on financial services regulatory matters. He provides advisory services and assists with investigations and litigation.

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