SEC Settles Charges with Registered Adviser for Disclosure and Policy and Procedure Violations

Who may be interested: Registered Investment Companies; Registered Investment Advisers; Boards of Directors; Compliance Staff.

Quick Take: The SEC recently settled charges against a registered investment adviser (Adviser) in two separate enforcement actions for inadequate disclosure and deficient compliance policies and procedures relating to two registered funds managed by the Adviser. In both instances, the parties involved had identified the matter prior to SEC involvement and taken steps to address it.  Further, in both, the primary alleged violations involved provisions of the Advisers Act and not provisions of the Investment Company Act.

The first SEC Order stated that from 2014 to 2016 the Adviser failed to disclose material information to investors in a closed-end fund managed by the Adviser regarding the impact of investments in paired interest rate swaps on the fund’s dividend rate and net asset value (NAV). The SEC alleged that while the fund’s prospectus and shareholder reports included risk disclosures related to paired interest rate swaps, the shareholder reports in 2014 and 2015 contained inadequate disclosure regarding the use of such swaps to maintain the fund’s dividend rate. Specifically, the SEC alleged that the Adviser failed to disclose that a significant portion of the fund’s distributable income resulted from the use of paired interest rate swaps, and that the continued use of such swaps carried a substantial risk of capital loss and contributed to a decline in the fund’s NAV. As a result of the alleged violations, the SEC Order stated that the Adviser violated Section 206(4) of the Advisers Act and Rule 206(4)-8 thereunder and Section 34(b) of the Investment Company Act.

The second SEC Order stated that from 2011 to 2017 the Adviser failed to waive approximately $27 million of advisory fees as required by its agreement with a mutual fund managed by the Adviser and, until at least 2018, did not have adequate policies and procedures concerning its oversight of advisory fee calculations and waivers for the fund. According to the SEC Order, the failure to waive the advisory fees occurred because the formula used in calculating the fee waiver did not account for the impact of leverage on the fee waiver calculation. After the error was discovered by the Adviser’s sub-administrator, the Adviser reimbursed the fund’s shareholders approximately $30 million for the unwaived fees, lost performance and interest, and took additional steps to enhance its policies and procedures. As a result of the alleged violations, the SEC Order stated that the Adviser violated Section 206(4) of the Advisers Act and Rule 206(4)-7 thereunder.

Without admitting or denying the findings in the SEC Orders, the Adviser agreed to a cease-and-desist order and a censure in each action and to pay a combined $9 million penalty.

The first SEC Order relating to the failure to disclose material information can be found here.

The second SEC Order relating to the failure to waive advisory fees and maintain adequate policies and procedures can be found here.