Articles Posted in Hedge Fund

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The Securities and Exchange Commission (“SEC”) announced that Citigroup Global Markets, Inc. (“CGMI”) and Citigroup Alternative Investments LLC (“CAI”) have agreed to settle charges concerning two now-defunct hedge funds – the ASTA/MAT fund and the Falcon fund.  According to the Order Instituting Administrative and Cease-and-Desist Proceedings Pursuant to Section 8A of the Securities Act of 1933, Section 15(b)(4) of the Securities Exchange Act of 1934, and Sections 203(e) and 203(k) of the Investment Advisers Act of 1940, Making Findings, and Imposing Remedial Sanctions and a Cease-and-Desist Order (“Order”), CGMI and CAI will pay $180 million in disgorgement and prejudgment interest.

According to the Order, between 2002 and 2007, financial advisers at CGMI raised approximately $2.898 billion for the ASTA/MAT and Falcon funds from roughly 4,000 advisory clients. Both hedge funds were managed by CAI.

ASTA/MAT was a municipal arbitrage fund that purchased municipal bonds and used either a Treasury or LIBOR swap to hedge interest rate risk, according to the SEC. An arbitrage fund is a type of mutual fund that leverages the price differential in the cash and derivatives market to generate returns. The Order states that ASTA/MAT employed an 8-12 times leverage.

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On November 10, 2011, the SEC brought charges against a San Diego-based investment advisory firm and its president for securities fraud based on its failure to disclose a conflict of interest to investors and falsely represented the liquidity of a hedge fund they managed.

The SEC claims that Western Pacific Capital Management LLC and its president, Kevin James O’Rourke, encouraged investors to purchase a security without informing them that Western Pacific received a 10% commission. Western Pacific and O’Rourke also (1) failed to register as a broker, (2) failed to give required written disclosures to investors, (2) wrongly redeemed one hedge fund client’s interest before another’s, and (4) materially misrepresented to clients about the fund’s liquidity.

According to Marshall Strung, an Assistant Director within SEC Enforcement Division, “Investment advisers have a fiduciary duty to act in the best interests of their clients and be forthcoming with them. Western Pacific and O’Rourke fraudulently breached that duty by failing to disclose the commissions they would receive for the recommended investments and lying to clients about the liquidity of the fund they managed.”

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On August 31, 2011, the SEC announced it froze the assets of a Chicago-based money manager and his hedge fund advisory firm for lying to prospective investors in their startup hedge fund.

The SEC claims that Belal K. Faruki and his firm, Neural Markets LLC, solicited highly sophisticated individuals to invest in the “Evolution Quantitative 1X Fund,” a hedge fund they managed that allegedly employed a proprietary algorithm to conduct an arbitrage strategy involving trading in liquid exchange-traded funds (ETFs). Faruki and Neural Markets misrepresented the amount of investor capital and that trading was creating returns when, in reality, it incurred losses. They defrauded at least one investor out of $1 million before admitting the losses, and were still seeking other wealthy investors prior to the SEC obtaining a court order to stop the scheme.

According to Bruce Karpati, the Co-Chief of the SEC’s Asset Management Unit, “Faruki and Neural Markets lied throughout this elaborate scheme in order to attract capital from sophisticated investors. Even sophisticated institutional investors should be wary of unscrupulous hedge fund managers who cloak their misrepresentations in lofty pitches about a complex investment strategy.”

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On January 28, 2011, the SEC received a court order freezing the assets of a Stamford, Connecticut-based investment adviser and its principal, Francisco Illarramendi, claiming that both misappropriated over $53 million in investor money and used the funds for their own gain.

The SEC claims that Illarramendi defrauded investors in his managed hedge funds by wrongly diverting the investors’ money into bank accounts controlled by him. Illarramendi then invested the money for his own benefit or for the benefit of the entities that he controlled, rather than for the benefit of the hedge fund investors.

According to David P. Bergers, the SEC’s Boston Regional Office Director, “Illarramendi treated his clients’ money like it was his own, diverting millions of dollars that did not belong to him. He abused his position of trust with his clients and breached his responsibilities as an investment adviser.”

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On October 14, 2010, the Securities and Exchange Commission brought a civil action against two Florida-based hedge fund managers and their funds for defrauding investors out of approximately $1 billion. The SEC charged Palm Beach Capital Management and fund managers Bruce Prevost and David Harrold with committing federal securities fraud by misleading investors about the quality and nature of their investments with Thomas Petters, who was convicted of running a $3.65 billion Ponzi scheme.

The SEC complaint alleges that the fund managers were paid $58 million in fees from 2004 to 2008 when investing with Petters. According to the director of the SEC’s Division of Enforcement, Robert Khuzami, “Prevost and Harrold portrayed themselves as guardians of their hedge fund investors while in fact they facilitated Tom Petters’ fraudulent scheme through lies and deceit.”

The SEC claimed that investors with the Palm Beach fund thought they were funding consumer electronic goods to be sold to big-box retailers and that the retailers, in turn, would pay the funds directly. In reality, the funds were supplied by Petters, which was raised from new investors. “Prevost and Harrold did not disclose this material fact to investors in the funds and instead continued to lie about the operation,” according to the SEC.

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FINRA has barred a former advisor from Deutsche Bank from the securities industry for manipulating the stock price of Monogram Biosciences (MGRM). The purpose of the scam was to enrich himself and a hedge fund client.

Edward S. Brokaw engaged in trading designed to decrease the price of MGRM stock and increase the value of contingent value rights (CVRs) on that stock.

The MGRM CVRs were created and issued in December 2004, in connection with the merger of two firms to form MGRM. The CVRs were to be valued during a 15-day pricing period scheduled for 18 months after the merger.

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FINRA says that a brokerage firm it recently expelled committed securities fraud. MICG Investment Management LLC of Newport News, Virginia, committed fraud in the management of a proprietary hedge fund. FINRA is also suing the firm for misusing investors’ funds and causing false account statements to be issued to investors.

FINRA had shut down MICG when the firm failed to meet its net capital requirement. The hedge fund — MICG Venture Strategies LLC — was organized and managed by MICG. FINRA’s complaint charges that MICG and its owner, Mr. Martinovich, improperly assigned excessive asset values to two non-public securities owned by the hedge fund, and then used the excessive asset values as the basis for paying unjustified management and incentive performance fees.

Mr. Martinovich was also charged with fraudulently inducing an elderly, non-accredited MICG client to invest $75,000 in the hedge fund.