Investment Management & Securities

On March 20, 2019, the Massachusetts Securities Division, Enforcement Section (the “Division”) filed a complaint against an investment adviser located in Massachusetts. The complaint alleged that the firm’s two owners and financial professionals “gambled away millions of dollars in client assets through high risk bets on the oil and gas market.”[1] This author vehemently disagrees with the Division’s complaint and the message it sends to the industry.

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My name is Max Schatzow and I am an attorney with the law firm of Stark & Stark in Lawrenceville, New Jersey. When we first saw the press release issued by Governor Murphy back in September announcing his intentions, we knew that we wanted to participate in this process, because the Investment Management practice group at Stark & Stark represents numerous broker-dealers and countless investment advisers registered with the United States Securities and Exchange Commission and the New Jersey Bureau of Securities on regulatory and compliance matters.

Our clients are extremely varied and range from those providing investment advice to private investment funds and registered investment companies to retail individuals. However, our most common client is an individual or group of individuals who have broken away from a larger financial institution, such as Morgan Stanley or Merrill Lynch to start their own boutique investment advisory firm. We then help those firms address their legal and compliance needs and serve as outside counsel and compliance officers as they grow their business.


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In April 2018, California’s Department of Business Oversight (“DBO”) announced that, beginning in October, it will begin conducting an online questionnaire-based examination of certain investment advisers registered with the DBO. This digital examination will be in addition to the DBO’s onsite examination program. The DBO recently sent registered investment advisers a reminder of this pending initiative. It is unclear from the DBO’s communications whether this online examination will be required for every investment adviser on an annual basis or only after an investment adviser receives an examination request.

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The United States Securities and Exchange Commission’s (SEC) Office of Compliance Inspections and Examinations (OCIE) are now conducting examinations of investment advisers concerning “crypto-assets,” which they define to include crypto-currency, initial coin offerings, distributed ledger technology, blockchain or any related products, and pooled investment vehicles investing in these assets or technology.

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Max Schatzow, Esq., on behalf of Stark & Stark’s Investment Management & Securities Practice Group, submitted a comment letter to the U.S. Securities & Exchange Commission (“SEC”) in response to the SEC’s proposed interpretation of the standard of conduct under the Investment Advisers Act of 1940.

While Stark & Stark largely agreed with the SEC’s proposed interpretation of the standard of conduct, it took issue with its characterization of the duty of care owed by investment advisers. As a general matter, investment advisers owe their clients both a duty of care and a duty of loyalty. Stark & Stark generally agreed with the SEC’s framework surrounding the duty of loyalty. However, the SEC’s proposed interpretation of the duty of care would require “the duty to act and to provide advice that is in the best interest of the client.”


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Two US Senators recently demanded that FINRA explain how it plans to minimize the high rate of brokers who are involved in criminal activity or have been the subject of customer complaints.

Clearly Senators Warren and Cotton are not familiar with how the FINRA U-4 and U-5 process works. In addition, they are probably not overly familiar with the history of federal securities laws. As a brief background, the federal securities laws have been built on and continue to operate on the theory that “sunlight is the greatest disinfectant.” The laws have been built and we continue to operate under a fair market where people are free to make their own informed decisions. Senators Warren and Cotton should look past this misleading data and understand some common realities.


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Investment advisers should take note, as there has been an announcement of a new rule which might affect them. More specifically, any investment advisers that: (1) act solely as advisers to one or more venture capital funds; (2) are exempt from the registration requirements under the Investment Advisers Act of 1940; and (3) comply with SEC Rule 203(1)-1 (regarding venture capital advisers), are excluded from the District of Columbia Securities Act’s investment adviser definition, according to a new order issued on February 8, 2016. Exempt venture capital advisers excluded from the investment adviser definition must now comply with SEC Rule 204-4 reporting requirements.

To comply with Rule 204-4, an adviser must subject itself to the Exempt Reporting Adviser regime by gaining entitlement through the IARD, prepare a Form ADV as an Exempt Reporting Adviser, and submit it to the SEC and the DC Department of Insurance, Securities and Banking. The IARD will require a $250 fee that will be paid directly to the District of Columbia and a $150 fee that will be paid to the SEC.


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Martin Shkreli, the controversial CEO of Turning Pharmaceuticals, and his attorney were indicted in an alleged securities fraud scheme. On December 14, 2015, a grand jury paneled in Brooklyn, New York, returned a seven-count indictment against Martin Shkreli. Mr. Shkreli is charged with seven counts of securities fraud and conspiracy. His attorney, Evan L. Greebel is charged with a single count of wire fraud conspiracy. Greebel and Shkreli also face a United States Securities and Exchange Commission (“SEC”) civil complaint. The SEC commenced an eight-count civil suit against Shkreli, and contains a single aiding and abetting count against Greebel. Shkreli is accused of running a Ponzi scheme that allegedly funneled money from Retrophin, Inc. to deceived investors in a series of ailing hedge funds. Attorney Greebel is charged with aiding the alleged scam.
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Introduction

On December 30, 2014, the Securities and Exchange Commission (“SEC”) approved a new Financial Industry Regulatory Authority (“FINRA”) rule governing transaction-based payments to unregistered persons. The new FINRA rule—Rule 2040—became effective on August 24, 2015. If you are a FINRA-registered broker-dealer that currently pays an unregistered person, now is a perfect time to examine the relationship and make sure that these payments are proper. In addition, if you are an unregistered or unlicensed person, then you may want to make sure that you can receive or continue receiving these payments. Lastly, if your firm permits “selling groups” of registered representatives for expense paying and marketing purposes, it is also a good time to reassess these practices.

More specifically, this new rule addresses many situations that can arise in a broker-dealer’s regular course of business. These situations include, but are not limited to:

  • Asset purchase arrangements between current representatives;
  • The receipt of continuing compensation by retiring representatives, their beneficiaries, or estates; and,
  • Referral arrangements.

As a result of these new changes, the current FINRA rules addressing payments to non-registered persons, as well as related New York Stock Exchange rules have been deleted from the FINRA rulebook. The rest of this article deals specifically with the requirements and implications of Rule 2040 and Section 15(a) of the Securities Exchange Act (the “Exchange Act”).


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Shareholder Thomas D. Giachetti, Chair of the Securities Practice Group, authored the article SEC Clarifies RIAs’ Cybersecurity Obligations, which was published in the November issue of Investment Advisor. The article explains how the Securities and Exchange Commission’s (SEC) recent cybersecurity focus will affect RIAs. The SEC’s Office of Compliance Inspections &