Advisor Resolves Reg M Violation

In broadening its reach in the markets, the Commission has in some instances relied on data analytics as it did, for example, when initiating two insider trading cases last year. How far the agency has been able to expand its use of data analytics is not known. The Commission has continued to use data analytics when investigating trading actions. At the end of last week the Commission filed See, e.g. SEC v. Candlestick Capital Management, Civil Action No. 3:23-cv-00206 (D. Conn. Filed February 17, 2023), a case based on trading in violation of Regulation M, Rule 105.

Candlestick Capital Management LP is a Commission registered investment adviser. The advisor has about $3 billion in assets under management. The complaint involving the advisor focused on June 2020. In that period the advisor sold short 350,000 shares of American Airlines common stock. The average price was $17.622891.

Four days after the short sale American Airlines filed a preliminary prospectus. It supplemented an existing shelf registration for a follow-on offering of common stock to be priced after the market close on June 22, 2020. The same day the advisor recognized that the Funds’ June short sale fell within the Offering Period of Rule 105. The next day the advisor received an allocation of American Airline stock of 750,000 shares.

Rule 105 was adopted to foster secondary and follow-on offerings are priced independently and not manipulated. Accordingly, the rule prohibits the purchase of equity securities from an underwriter, broker or dealer participating in a covered public offering if the buyer sold short the same security during a restricted period absent an exception. The period begins five business days before the pricing of the offered securities and ends with the pricing. Alternatively, it begins with the initial filing of a registration statement or notification on a designated Exchange Act Form and ends with the pricing. The rule is not based on intent but mechanics and dates.

A bona fide purchase exception provides an exemption to the prohibition of the rule as long as the same security is purchase in at least the same amount sold short during the restricted period. The purchase must also be made during regular trading hours, reported to an effective transaction reporting plan and meet certain other requirements that are designed to foster transparency of the activity to the market so that the effects of the purchase can be reflected in the security’s market price prior to the pricing of the offering,.

Here Candlestick did not qualify for the exception to the rule. After concluding that it violated Rule 105 Candlestick did not self-report to the Commission. The firm also did not accurately document the Rule 105 violation in its books and records. The firm did admit the violation to the inspection staff, but only after a direct question was asked. The Candlestick has undertaken remedial acts. The complaint alleges violations of Regulation M.

Defendant resolved the action, consenting to the entry of a final judgment ordering it to pay a penalty of $810,000. It also agreed to the entry of an order directing the payment of disgorgement in the amount of $1,565,305 and interest of $89,439. In a separate administrative proceeding the firm consented to the entry of a cease-and-desist order based on Rule 105. See Lit. Rel. No. 25642 (February 21, 2023); See also SEC v. Hite Hedge Asset Management, Civil Action No. 1:23-cv-109351 (D. Mass. Filed February 17, 2023)(similar action).

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