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SEC Files its First Enforcement Action for Whistleblower Retaliation Under the Dodd-Frank Act Against Hedge Fund Advisory Firm

The Securities and Exchange Commission (“SEC”) has brought its first enforcement action for whistleblower retaliation under the Dodd-Frank Act against hedge fund advisory firm, Paradigm Capital Management (“Paradigm”).  According to Reuters, the SEC’s case stems from Paradigm’s alleged retaliation against its former head trader, James Nordgaard (“Nordgaard”), after Nordgaard made a whistleblower submission to the SEC about Paradigm.

The SEC claims that Paradigm’s owner, Candace King Weir (“Weir”), conducted client transactions between Paradigm and a broker dealer that she owns, C.L. King & Associates (“C.L. King”), without disclosing to the client that she was effectively participating on both sides of the transactions.  Specifically, the SEC claims that Weir’s trading strategy for her client PCM Partners L.P. II (“PCM”) involved Paradigm’s traders, including Nordgaard, selling securities that had unrealized losses from the hedge fund to a proprietary trading account at C.L. King.  According to the SEC, Weir’s intention was for the realized losses to offset PCM’s realized gains in other securities.

The SEC’s Order Instituting Administrative Proceeding states that, because Weir was the advisor to the PCM hedge fund and the owner of both Paradigm and C.L. King, she had a conflicted role in the transactions which was required to be disclosed to PCM.  According to the SEC’s Order, Paradigm established a conflicts committee to review and approve each of the principal transactions on behalf of PCM, purportedly to satisfy the disclosure and consent requirements.  The conflicts committee, however, was itself conflicted, in that, one of its members was the chief financial officer of both Paradigm and C.L. King.

According to Reuters, Nordgaard reported the conflicted principal transactions involving PCM to the SEC in March 2012.  The SEC claims that at least 83 conflicted principal transactions occurred – 47 of PCM’s securities positions were sold to C.L. King and 36 of those were later repurchased for PCM.

After Nordgaard reported the transactions to the SEC as a whistleblower, he was removed from his position as head trader and stripped of his supervisory responsibilities.  Nordgaard ultimately resigned and later sued Paradigm for retaliation.

According to the SEC, Paradigm and Weir have agreed to pay $2.2 million to settle the charges.  Of that amount, $1.7 million will be distributed to former and current investors in the hedge fund, $181,771 represents prejudgment interest, and $300,000 is a penalty.  The whistleblower may be eligible for a monetary reward as well.