SEC Fines Investment Firm for Lying to Investors: How to Protect Your Company in 2015

Steven Minsky | Jan. 5, 2015

I’m sure you’re familiar with the game “Two Truths and a Lie.” If not, here’s how it is played; one person states three facts, and another person must guess which one of these three is a lie. Ready?

  1. An investment firm attracted over $28 billion in five years using an investment strategy developed by a 20-year old intern.
  2. This investment firm was recently fined $35 million by the SEC for defrauding investors and presenting fabricated financial performance statistics to clients.
  3. News of the firm’s fraudulent behavior significantly impacted business, bringing the firm’s business down $6.6 billion since October.

A $35 million fine by the SEC is a common enough occurrence to be true. And a fraudulent company losing business only makes sense, right? It would seem the first statement is a lie.

Not exactly. The firm was fined $35 million for defrauding investors, and it did use a 20 year old intern’s investment strategy to bring in $28 billion in five years. The lie? Rather than losing business after the start of the SEC’s investigation, the firm has continued to attract an additional $6.6 billion from investors.

As Stephen Gandel writes, “That might say something about Wall Street’s marketing machine, the blindness of investors, or the combination of both factors.” This “blindness of investors” is the most concerning element of the story. Even after the SEC announced its investigation into the investment firm for false claims, companies continued to pour their (and their clients’) money into a flawed product, which begs the questions of whether the investors had done their proper due diligence.

Failing to recognize a firm’s fraudulent practices is exactly why regulatory bodies like FINRA and the SEC have imposed an Enterprise Risk Management requirement on investment firms. Looking over a firm’s product performance or marketing materials is simply not enough. Due diligence must involve a look into their past and present investing strategy, their leadership, and their relationship with regulators.

This is no longer a process that can be managed by a single employee with Google and Microsoft Excel. It is a complex, multi-layer process that can be burdensome without the proper tools. Due diligence, however, is also an opportunity. Proper investment firm due diligence enables firms to justify appropriate levels of risk taking, and provides evidence of risk-based decision making for examiners. Managing investment firms and their products with a software platform, as opposed to Excel or Word, allows you to run comprehensive reports, create an analytical risk dashboard, and automate many of the day-to-day tasks involved in due diligence.

Taking a risk based approach to due diligence and managing it within an effective enterprise risk management framework enables you to meet SEC, FINRA, and other regulator’s compliance requirements, protecting your business’ investments, reputation, and future.

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2018-01-31T14:31:37+00:00

About the Author:

Steven is a recognized thought leader in ERM, CEO of LogicManager, and co-author of the RIMS Risk Maturity Model. Follow him on Twitter at @SteveMinsky