SEC Charges Adviser With Deficient Controls
The SEC has in the past brought actions against political intelligence firms. One involved compliance procedures and required admissions as part of the settlement. In the Matter of Marwood Group Research, LLC, Adm. Proc. File No. 3-16970 (Nov. 24, 2015). Another centered on insider trading charges and was accompanied by a parallel criminal action filed by the Manhattan U.S. Attorney’s Office. SEC v. Blaszczak, Civil Action No. 1:17-cv-03919 (S.D.N.Y. Filed May 24, 2017).
The Commission’s most recent action involving an an investment adviser and political intelligence did not require admissions as part of the resolution; there was no parallel criminal case. In the Matter of Deerfield Management Company, L.P, Adm. Proc. File No. 3-18120 (August 21, 2017).
Deerfield is a registered investment adviser that provides advisory services in the healthcare sector exclusively to its associated funds. In 2012 the firm adopted a Compliance Manual, revised in 2013. The Manual contained certain sectios regarding insider trading. It specified concerns about the misuse of material nonpublic information by the firm or its employees. It also discussed possible sources, telling employees they could have inside information from extensive research through which it could be developed or from the firm’s business. Employees were provided with a list of types of information they should consider material. I Manual included the proviso that material information does not have to relate to the issuer’s business, furnishing an example.
The advisor engaged research firms and their political intelligence analysts to furnish information regarding government decision-making. This created a potential risk of obtaining inside information. Accordingly, the Manual established certain procedures for the use of “experts” and “expert networks.” The Manual did not apply those procedures to “research firms.” Experts and expert networks had to undergo due diligence to evaluate their compliance procedures and controls. In addition, at the beginning of a consultation with an expert the employee was required to provide an oral reminder to the expert not to disclose inside information. Following the consultation a report had to be prepared and filed with the adviser. The internal research department was responsible for compliance with the requirements. Research firms were also excluded from the employee training for expert consultations. When the Manual was revised in 2013 the research firm exclusion remained the same.
The adviser did not have any additional policies or procedures that applied to research firms, including those that employed political intelligence analysts. Essentially the adviser’s policies and procedures placed the burden on the employee to police themselves by specifying that they identify their potential receipt of inside information and raise concerns with their superiors.
While Deerfield’s polices and procedures required the firm to evaluate the policies of research firms, in fact this requirement was not enforce. Thus, when a red flag arose regarding one firm, the adviser’s employees continued to work with it. Yet that red flag came from the conflict arising from the fact that the CCO was the political intelligence analyst. Over time others arose when inside information was communicated about activities at the Centers for Medicare and Medicaid Services or CMS through emails. Those communications did not result in any steps by the adviser to prevent the potential misuse of inside information. Initially the emails were not followed by trading; later they did. Specifically, certain emails about CMS from the political intelligence analyst resulted in trading. The Order alleges violations of Advisers Act Sections 204A.
To resolve the proceeding the adviser consented to the entry of a cease and desist order based on the Section cited in the Order as well as to a censure. In addition, the adviser will pay disgorgement of $714,110, prejudgment interest and a penalty of $3,946,267. In accepting the offer of settlement the Commission considered the remedial acts of the adviser.