Swiftly racing to the finish line, Gary Gensler’s SEC issued an array of announcements about recent settlements with recognizable businesses and even a few executives, including one chief compliance officer. The charges ranged from firms making misleading claims, supervisory failures, anti-money-laundering program failures and other compliance lapses.
Let’s dig in.
Arete recordkeeping and fraud
The SEC announced charges against Joey Miller, Jeff Larson, and Randy Larson, formerly dually registered personnel with Arete Wealth Management LLC, a broker-dealer, and Arete Wealth Advisors LLC, an affiliated investment adviser, for fraud, registration violations, and aiding and abetting Arete Wealth Management’s recordkeeping violations.
The SEC also charged Arete Wealth Advisors and its Chief Compliance Officer and General Counsel, UnBo (Bob) Chung (see link above for Larson/Miller), with various violations of the federal securities laws related to a cover up of the representatives’ allegedly fraudulent conduct and other compliance failures, and charged Arete Wealth Management with recordkeeping violations.
The SEC’s charges stem from a previously-described scheme in which Richard Dale Sterritt, Jr, and six others allegedly defrauded investors through a sham oil-and-gas company, Zona Energy Inc.
The complaint alleges that from approximately October 2018 to May 2020, despite the fact that Arete had not approved Zona securities for offer and sale, Miller and the Larsons sold more than $8m worth of Zona shares to many of their Arete clients and customers, a practice called “selling away,” which is prohibited by securities laws.
The three defendants, as alleged in the complaint, tried to hide the sales by communicating through means not subject to surveillance by Arete, such as through personal phones and email.
Claims for relief revolved around rules prohibiting fraud in the sale of securities (SEC Rule 10b-5 and Rule 17(a)) and the Compliance Program Rule (Rule 206(4)-7).
LPL Financial AML charges
The SEC brought charges against broker-dealer and investment adviser LPL Financial LLC for multiple failures related to its anti-money-laundering (AML) program. LPL failed to close or restrict some high-risk accounts, such as cannabis-related and foreign accounts. It agreed to pay a civil penalty of $18m and implement improvements to its AML policies and procedures.
According to the SEC’s order, from at least May 2019 through December 2023, LPL experienced longstanding failures in its customer identification program, including a failure to timely close accounts for which it had not properly verified the customer’s identity. Furthermore, the SEC said LPL failed to close or restrict thousands of high-risk accounts, such as cannabis-related and foreign accounts, that were prohibited under LPL’s AML policies.
The firm was charged with violations of SEC Rule 17a-8 which mandates financial recordkeeping and reporting of currency and foreign transactions.
Vanguard retirement fund tax issues
The SEC announced that The Vanguard Group, Inc, will pay $106.41m to settle charges for misleading statements related to capital gains distributions and tax consequences for retail investors who held Vanguard Investor Target Retirement Funds (Investor TRFs) in taxable accounts. The settlement amount will be distributed to harmed investors.
The order also finds that Vanguard Investor TRFs’ prospectuses, effective and distributed in 2020 and 2021, were materially misleading, as they failed to disclose the potential for increased capital gains distributions resulting from investors switching from the Investor TRFs to the Institutional TRFs.
Parallel investigations into this matter were conducted by authorities in New York, Connecticut and New Jersey. And the $106.41m penalty ordered here was in addition to $40m that Vanguard agreed to pay to settle an investor class action lawsuit originating in a federal district court in Pennsylvania.
The firm was charged with violations of SEC Rule 206(4)-7 (The Compliance Program Rule) and SEC Rule 206(4)-8, the rule prohibiting fraudulent and deceptive practices with pooled investment vehicles.
Wells Fargo advisory firms, Merrill Lynch
The firms were found to have failed to consider the best interests of clients when evaluating and selecting which cash sweep program options to make available to clients.
The SEC settled charges against registered investment advisers Wells Fargo Clearing Services LLC and Wells Fargo Advisors Financial Network LLC, and against Merrill Lynch, Pierce, Fenner & Smith Inc for failing to adopt and implement written policies and procedures reasonably designed to prevent violations of the Advisers Act and the rules thereunder relating to the firms’ cash sweep programs.
The SEC alleged that the advisory firms offered bank deposit sweep programs (BDSPs) as the only cash sweep option for most advisory clients and received a significant financial benefit from advisory client cash in the BDSPs.
The orders find that these firms or their affiliates set the interest rates offered in the BDSPs and that, during periods of rising interest rates, the yield differential between the BDSPs and other cash sweep alternatives at times grew to almost 4%. According to the orders, Wells Fargo Advisors and Merrill Lynch failed to adopt and implement reasonably designed policies and procedures to consider the best interests of clients when evaluating and selecting which cash sweep program options to make available to clients, including during periods of rising interest rates.
Wells Fargo Clearing Services agreed to pay a civil penalty of $28m; Wells Fargo Advisors Financial Network agreed to pay a civil penalty of $7m; and Merrill Lynch agreed to pay a civil penalty of $25m. Violations revolved around the Compliance Program Rule or Rule 206(4)-7 under the Adviser’s Act.
Two Sigma investment model vulnerabilities
The SEC said the firm required departing individuals, in separation agreements, to state as fact that they had not filed a complaint with any governmental agency.
According to the SEC’s order, in or before March 2019, employees at Two Sigma Investments LP and Two Sigma Advisers LP identified and recognized vulnerabilities in certain Two Sigma investment models that could negatively affect clients’ investment returns, but Two Sigma waited until August 2023 to address the issues.
Despite recognizing these vulnerabilities, Two Sigma failed to adopt and implement written policies and procedures to address them and failed to supervise one of its employees who made unauthorized changes to more than a dozen models, the SEC’s order states.
In addition, the SEC’s order separately finds that Two Sigma violated the SEC’s whistleblower protection rule by requiring departing individuals, in separation agreements, to state as fact that they had not filed a complaint with any governmental agency.
The securities watchdog pointed out that this requirement could identify whistleblowers and prohibit them from receiving post-separation payments and benefits. Both are actions to impede departing individuals from communicating directly with Commission staff about possible securities law violations, in violation of the whistleblower protection rule.
The firm was charged with violating SEC Rule 206(4)-7 (The Compliance Program Rule) and Rule 21F-17(a), which prohibits impeding an individual from communicating with SEC staff about a possible securities law violation.
Two Sigma voluntarily repaid affected funds and accounts $165m during the SEC’s investigation.
