SEC and CFTC File Civil Complaints Against Fund Sponsor and its Portfolio Managers and Enter into Settlement Agreement with Chief Risk Officer on Related Allegations

June 3, 2021

On May 27, 2021, the SEC and CFTC filed civil complaints against LJM Funds Management Ltd. and LJM Partners Ltd. (each of which is a registered investment adviser and commodity pool operator; collectively, LJM), and two LJM portfolio managers, Anthony Caine and Anish Parvataneni relating to an options trading strategy they employed for a registered fund, the LJM Preservation & Growth Fund (P&G Fund), and several private funds (collectively, Private Funds).  LJM Partners Ltd. is also a registered commodity trading advisor.

According to the allegations in the SEC’s complaint, LJM misled investors of the P&G Fund and the Private Funds about the risks of the options trading strategy that LJM used to manage those Funds–a short volatility strategy that primarily relied on returns from selling options on futures on the S&P 500® Index–and LJM’s risk management practices for managing the remote possibility of extreme risks of loss associated with the strategy. Specifically, the SEC alleged that LJM misled investors regarding: (i) LJM’s practices with respect to stress testing its portfolios against historical scenarios to estimate worst case scenario trading losses; (ii) the worst case scenario losses that were possible, which LJM incorrectly represented to investors to range from 25–40%; and (iii) LJM’s representations that the portfolios were managed to achieve consistent risk levels.  Although LJM had an internal risk function and a chief risk officer (CRO) that generated stress testing reports showing possible losses in various historical scenarios, these reports were not used to manage the portfolio or inform investors of possible risk scenarios. After volatility spiked to historic highs in early February 2018, the P&G Fund and the Private Funds suffered trading losses of more than $1 billion over two consecutive trading days and ultimately had to be liquidated.

The SEC’s complaint includes alleged violations of Section 17(a) of the 1933 Act, Section 10(b) and Rule 10b-5 under the 1934 Act and Section 206 of the Advisers Act and rules thereunder.  Because LJM included false statements regarding LJM’s use of stress testing reports on the P&G Fund’s portfolio to the P&G Fund’s board as part of their consideration of LJM’s advisory contract with the P&G Fund, the complaint also alleges violations of Section 15(c) of the 1940 Act.  The CFTC’s complaint contains substantially similar factual allegations and charges LJM, Caine, and Parvataneni with violations of corresponding antifraud provisions of the Commodity Exchange Act and rules thereunder.  The SEC and CFTC have also entered into a settlement agreement regarding similar charges against LJM’s Chief Risk Officer Arjuna Ariathurai. Each settlement agreement ordered disgorgement of $83,333, pre-judgment interest of $14,111, and a civil penalty of $150,000, though payment under the SEC’s order offsets the CFTC’s identical penalty. Furthermore, the SEC banned Ariathurai from associating with entities registered by the SEC such as broker-dealers, investment advisers, and investment companies, and the CFTC banned him from practicing in front of the CFTC for three years. Ariathurai also agreed to cooperate in any proceedings and investigations related to the action or subject matter of LJM’s alleged violations.

To read the press releases: SEC press release; CFTC press release.

To read each complaint: SEC complaint; CFTC complaint.

To read each settlement order: SEC order; CFTC order.


Categories

Compliance, Enforcement Actions, Investment Advisers, Mutual Funds