Fourth Quarter 2024
Table of Contents
- Paul Atkins Nominated as Chairman of the SEC
- SEC Division of Examinations Publishes Risk Alert Regarding Registered Investment Companies Review of Certain Core Areas and Associated Documents Requested
- SEC Announces Enforcement Results for Fiscal Year 2024
- SEC Charges Adviser for Making Misleading Statements about Supposed Investment Considerations
- SEC Announces Charges Against Advisers in Connection with Form PF Reporting Failures
PAUL ATKINS NOMINATED AS CHAIRMAN OF THE SEC
On December 4, President-Elect Donald Trump nominated Paul Atkins (“Atkins”) as the next chairman of the U.S. Securities and Exchange Commission (the “SEC” or the “Commission”). The current chairman, Gary Gensler, will step down and conclude his tenure on January 20, 2024, and if appointed, Atkins will replace him.
Atkins was previously an SEC commissioner for six years from August 2002 to August 2008 during the George W. Bush administration. Atkins also served on the staff of two former SEC chairmen, Richard C. Breeden and Arthur Levitt, from 1990 to 1994. Atkins is the founder and CEO of Patomak Global Partners, a fintech and financial consulting firm founded in 2009.
Atkins is known for his advocacy for de-regulation and promotion of the crypto industry.
SEC DIVISION OF EXAMINATIONS PUBLISHES RISK ALERT REGARDING REGISTERED INVESTMENT COMPANIES REVIEW OF CERTAIN CORE AREAS AND ASSOCIATED DOCUMENTS REQUESTED
On November 4, the Division of Examinations (“EXAMS” or the “Division”) of the SEC published a risk alert (the “Risk Alert”) regarding certain core focus areas and associated documents requested from registered investment companies as part of the Division’s examination of registered investment companies (“RICs”).
Examinations of RICs typically focus on whether funds: (i) have adopted and implemented effective written policies and procedures to prevent violation of federal securities laws and regulations; (ii) provide clear and accurate disclosures that are consistent with the funds’ practices; and (ii) promptly address compliance issues, when identified, and include reviewing three core areas: compliance programs, fund governance, and disclosure and regulatory reports. In the context of these core areas, examinations may consider other topics, such as portfolio management, brokerage and trading, valuation, service provider oversight, among others. Examples of areas that may be reviewed during examinations include:
- Compliance policies and procedures (both of the funds and their service providers) for their effectiveness and whether they address certain risks, such as the risks associated with expense allocations between the adviser and the fund(s), or among funds and advisory clients;
- Board governance processes and the efficacy of board oversight of funds’ compliance programs (e.g., whether boards are getting information necessary to exercise their oversight responsibilities, boards are requesting and reviewing information necessary to understand the issues and make the associated approvals, and funds and their advisers are accurately disclosing information to the boards related to the funds’ fees, expenses, performance, conflicts of interest, or relevant risks);
- Funds’ investment advisory agreement approval process and the thoroughness of the board’s review of fund fees for consistency with disclosures (e.g. whether fund boards compared the services to be provided and the fees for such services against those under the adviser’s other advisory contracts or other advisers to RICs, such as peer groups, or other types of clients); and
- Fund disclosures in regulatory filings and investor communications for their consistency and appropriateness relative to fund operations, conflicts of interest, and actual portfolio management activities.
The Risk Alert also includes a discussion of examples of deficiencies or weaknesses observed by SEC staff (the “Staff”) related to funds’ and their advisers’ compliance programs based on a review of deficiency letters sent to funds during the most recent four-year period.
Fund Compliance Programs
With respect to Fund Compliance Programs, the Risk Alert identified five examples of deficiencies or weaknesses observed by the Staff:
- Funds did not perform required oversight or reviews as stated in their policies and procedures or perform required assessments of the effectiveness of their compliance programs, including funds that did not conduct required annual compliance reviews or compliance testing and funds that omitted material information from (or failed to document) annual compliance reports and did not review third party service providers’ policies and procedures for consistencies with contractual requirements and representations.
- Funds did not adopt, implement, update, and/or enforce policies and procedures, including where funds did not adopt and/or implement policies and procedures to prevent violations of federal securities laws in one or more critical areas, the policies and procedures adopted did not appear to be reasonably designed to prevent violations of law, or the policies and procedures did not appear to be effectively implemented.
- Policies and procedures were not tailored to the funds’ business model or were incomplete, inaccurate, or inconsistent with actual practices, for example, with respect to derivatives risk management programs, redemption requests, and compliance risks associates with investment strategies or approaches.
- •Funds’ Codes of Ethics were not adopted, implemented, followed, enforced, or did not otherwise appear adequate. The Risk Alert noted instances where funds did not appear to have effective policies and procedures to address compliance with their Codes of Ethics, which resulted in trading in restricted securities by access persons, non-reporting by certain conflicted individuals, and non-reporting of covered trades.
- CCOs did not provide requisite written annual compliance reports to fund boards, including where the funds did not have an appointed CCO or had an interim CCO who did not prepare the required report.
Fund Disclosures and Filings
Deficiencies and weaknesses observed by the Staff with respect to fund disclosures included instances where registration statements, fact sheets, annual reports, and semi-annual reports contained incomplete or outdated information or contained potentially misleading statements, sales literature and websites appeared to include untrue statements or omissions of material facts, and filings that were not made or not made on a timely basis. Examples included funds that disclosed investment processes or analyses that were not consistent with advisers’ practices, or repeatedly exceeded stated asset investment thresholds and funds that mischaracterized the use of environmental, social, and governance factors in their investment decision-making processes compared to their actual practices, among others.
Fund Governance Practices
Deficiencies and weaknesses observed by the Staff with respect to fund disclosures included instances where:
- Fund board approvals of advisory agreements appeared to be inconsistent with the Investment Company Act of 1940, as amended, and/or the funds’ written compliance procedures. For example, where advisory or sub-advisory agreements were not reviewed on a timely basis, where certain information to evaluate advisory agreements was not requested, and where material changes to the advisory agreement, such as changes of control or changes to advisory fees, were not considered.
- Fund boards did not receive certain information to effectively oversee fund practices, such as changes to compliance programs and information with respect to illiquid investments.
- Fund boards did not perform required responsibilities, including where boards did not make certain required determinations or adopt tailored policies and procedures.
- Fund board minutes did not fully document board actions, which also resulted in deficiencies under books and records requirements.
SEC ANNOUNCES ENFORCEMENT RESULTS FOR FISCAL YEAR 2024
On November 22, the SEC announced the results from enforcement actions for the SEC’s fiscal year ended September 30, 2024. According to the press release announcing the results (the “Press Release”), in 2024, the SEC filed 583 enforcement actions, reflecting a 26% decline from fiscal year 2023. Of those 583 enforcements, 431 represented “stand alone” enforcement actions, which was a 14% decrease from fiscal year 2023.
Despite the decrease in the overall number of enforcement actions, the monetary number of fines significantly increased over fiscal year 2024. The total financial remedies for fiscal year 2024 increased 65.5% as compared to 2023 ($8.2 billion vs $4.9 billion in 2023). The $8.2 billion in financial remedies was comprised of approximately $6.1 billion in disgorgement and pre-judgment interest (the highest amount on record) and approximately $2.1 billion in civil penalties (the second highest amount on record). Approximately 56% of the $8.2 billion in financial remedies is attributable to a single monetary judgment obtained following the SEC’s jury trial win over Terraform Labs and Do Kwon, which required the defendants to pay a final judgment of more than $4.5 billion, representing the highest remedies ever obtained by the SEC following a trial.
According to the Press Release, the SEC distributed $345 million to harmed investors during fiscal year 2024 (a significant decrease from the $930 million distributed in 2023). The SEC also received 45,130 tips, complaints, and referrals in fiscal year 2024 (the most ever received in a single year), including more than 24,000 whistleblower tips, resulting in almost $255 million issued in whistleblower awards.
The SEC’s enforcement actions covered a variety of topics, but a few of the key enforcement areas for fiscal year 2024 included off-channel communications, the integrity of investment professionals, and the use of artificial intelligence (“AI”).
Off-Channel Communications
In fiscal year 2024, recordkeeping cases for off-channel communications resulted in more than $600 million in penalties. Since 2021, more than 100 firms have been charged $2 billion in penalties, indicating that the SEC continues to focus its efforts on recordkeeping enforcement.
Integrity of Investment Professionals
In fiscal year 2024, the SEC brought numerous enforcement actions against investment professionals for fraud and other securities law violations. Of the enforcement actions, a few focused on false and misleading statements concerning funds’ holdings and returns and firms overvaluing the obligations held in their advisory accounts.
Use of Artificial Intelligence
In fiscal year 2024, the SEC was also focused on the use of AI. The SEC brought enforcement actions for false and misleading statements about the use of AI in the investment process and false claims promising 100% protection for clients’ funds despite the use of AI.
The Press Release also highlights the enforcement results during the final fiscal year with Gary Gensler as chairman of the SEC. During Gensler’s tenure as chairman, the amount of monetary fines (in billions) has nearly doubled as compared to the fines obtained during former-chairman Jay Clayton’s tenure.
SEC CHARGES ADVISER FOR MAKING MISLEADING STATEMENTS ABOUT SUPPOSED INVESTMENT CONSIDERATIONS
On November 8, the SEC announced a settlement with a registered investment adviser (the “RIA”) related to misleading statements about the percentage of the RIA’s company-wide assets under management (“AUM”) that integrated environmental, social, and governance (“ESG”) factors in investment decisions.
As detailed in the SEC’s order (the “Order”), between 2020 and 2022, the RIA told clients and included in its marketing materials that from 70%-94% of its parent company’s AUM were “ESG-integrated.” These percentages included the RIA’s passive ETFs, which accounted for a substantial portion of the RIA’s AUM, which, according to the Order, was misleading as many of the ETFs could not consider ESG factors in marking investment decisions as they were passive strategies and did not track an ESG-related index. In addition, the Order also found that the RIA did not have comprehensive written policies and procedures concerning how the RIA would determine the percentage of its firm-wide AUM that was ESG-integrated.”
As a result, the SEC’s Order stated that the RIA violated: (i) Section 206(2) of the Investment Advisers Act of 1940, as amended (the “Advisers Act”), which includes that it is unlawful for any investment adviser to “engage in any transaction, practice, or course of business which operates as a fraud or deceit upon any client or prospective client;” (ii) Section 206(4) of the Advisers Act and Rule 206(4)-1(a)(5) thereunder, which among other things, includes prohibitions against directly or indirectly publishing, circulating or distributing an advertisement that contains any untrue statement of material fact, or which is otherwise false or misleading;[1] (iii) Section 206(4) of the Advisers Act and Rule 206(4)-7 thereunder, which require registered investment advisers to adopt and implement written policies and procedures reasonably designed to prevent violations of the Advisers Act and the rules thereunder; and (iv) Section 206(4) of the Advisers Act and Rule 206(4)-8 thereunder, which require make it unlawful for investment advisers to pooled investment vehicles to “make any untrue statement of a material fact or to omit to state a material fact necessary to make the statements made, in light of the circumstances under which they were made, not misleading, to any investor or prospective investor in the pooled investment vehicle; or [o]therwise engage in any act, practice, or course of business that is fraudulent, deceptive, or manipulative with respect to any investor or prospective investor in the pooled investment vehicle.”
Without admitting or denying the Order’s findings, the RIA agreed to cease and desist from violations of the charged provisions, be censured, and pay a $17.5 million civil penalty.
SEC ANNOUNCES CHARGES AGAINST ADVISERS IN CONNECTION WITH FORM PF REPORTING FAILURES
On December 13, the SEC announced settlements with seven SEC-registered investment advisers for failing to timely report on Form PF.
Pursuant to Rule 204(b)-1 under the Advisers Act, certain advisers to private funds, as well as certain commodity pool operators and commodity trading advisors, must file Form PF with the SEC. Broadly, Rule 204(b)-1 requires investment advisers that have at least $150 million in private fund assets under management (“AUM”) to file Form PF on a quarterly or annual basis; the frequency of filings and the Sections required to be completed is determined by the size and categorization of the type of private funds they advise.
The SEC uses the confidential information collected on Form PF data to monitor systemic risk in the private fund industry, inform its regulatory programs and rulemaking, assess and identify compliance risks, and determine targets for examinations and investigations. Moreover, Section 204(b)(11) of the Advisers Act requires the SEC to report annually to Congress on how the SEC has used Form PF data to monitor the markets for the protection of investors and the integrity of the markets.
The Form PF violations stemmed from failures on the part of the advisers to make the required Form PF filings over extended periods, many of whom had failed to make Form PF filings over multiyear periods. The seven advisers agreed to pay over $790,000 in combined civil penalties. During the SEC’s investigation, the advisers remediated their filing failures by making the necessary filings.
UPCOMING CONFERENCES
2025 | |||
Date | Host* | Event | Location |
1/21 | MFDF | AI and Fund Compliance | Webinar |
1/22 | MFDF | In Focus: Small Boards’ Use of Skills Matrices | Virtual |
1/24 | ICI/IDC | Learn About Legal and Compliance Career Opportunities in the Asset Management Industry | Virtual |
1/27-29 | MFDF | Directors’ Institute | Carlsbad, CA |
2/3-5 | ICI/IDC | ICI Innovate | Huntington Beach, CA |
2/6 | MFDF | In Focus: Understanding Distribution-What the Data Can Tell You | Virtual |
2/10 | MFDF | Director Discussion Series – Open Forum | Stuart, FL |
2/11 | MFDF | Director Discussion Series – Open Forum | Naples, FL |
3/6-7 | MFDF | Fund Governance & Regulatory Insights Conference | Washington, DC |
3/12 | MFDF | MFDF 15(c) White Paper Webinar Series: Part 3 – Gartenberg Factors Analysis and Challenges | Webinar |
3/16-19 | ICI/IDC | 2025 Investment Management Conference | San Diego, CA |
4/2 | MFDF | Director Discussion Series – Open Forum | Atlanta, GA |
4/15 | MFDF | Director Discussion Series – Open Forum | Boston, MA |
4/30 – 5/2 | ICI/IDC | Leadership Summit | Washington, DC |
4/30 – 5/2 | ICI/IDC | Fund Directors Workshop | Washington, DC |
5/22 | MFDF | Mutual Fund Director Compensation: The MPI Annual Survey | Webinar |
7/9 | MFDF | Director Discussion Series – Open Forum | Chicago, IL |
9/8-10 | ICI/IDC | ETF Conference | Nashville, TN |
10/5-8 | ICI/IDC | Tax and Accounting Conference | Palm Desert, CA |
10/27-29 | ICI/IDC | Fund Directors Conference | Scottsdale, AZ |
11/13 | MFDF | Mutual Fund CCO Compensation: The MPI Annual Survey Update | Webinar |
11/20 | ICI/IDC | 2025 Closed-End Fund Conference | New York, NY |
2026 | |||
Date | Host* | Event | Location |
1/26 | MFDF | 2026 Directors’ Institute | Naples, FL |
3/5 | MFDF | 2026 Fund Governance & Regulatory Insights Conference | Washington, DC |
3/22-25 | ICI/IDC | Investment Management Conference | Palm Desert, CA |
4/29 – 5/1 | ICI/IDC | Leadership Summit | Washington, DC |
4/29 – 5/1 | ICI/IDC | Fund Directors Workshop | Washington, DC |
9/14-16 | ICI/IDC | ETF Conference | Nashville, TN |
9/27-30 | ICI/IDC | Tax and Accounting Conference | Marco Island, FL |
10/25-28 | ICI/IDC | Fund Directors Conference | Scottsdale, AZ |
11/10 | ICI/IDC | Closed-End Fund Conference | New York, NY |
*Host Organization Key: Mutual Fund Directors Forum (“MFDF”), Independent Directors Council (“IDC”), and Investment Company Institute (“ICI”)
© 2024, Davis Graham & Stubbs LLP. All rights reserved. This newsletter does not constitute legal advice. The views expressed in this newsletter are the views of the authors and not necessarily the views of the firm. Please consult with your legal counsel for specific advice and/or information.
[1] This Rule was replaced by the Marketing Rule with an effective date of May 4, 2021 and a compliance date of November 4, 2022. The marketing related materials at issue predated the Marketing Rule’s compliance date.
CONTACT US
Peter H. Schwartz
Alena Prokop
Stephanie Danner
Martine Ventello
Mackenzie Coupens