The Securities and Exchange Commission (SEC), according to The Wall Street Journal, has their eye out for hedge fund fraud.  The organization is starting this process by looking at firms doing better than expected.

The SEC has created a method of analyzing data that picks out hedge funds with higher than normal numbers, despite the suffering market.  The WSJ also pointed out that the SEC is trying to catch the “next Bernie Madoff” before his or her investors are defrauded out of billions of dollars, as Madoffs investors were in his Ponzi scheme.  The SEC has already begun four civil-fraud lawsuits based on the results of their data collection.

Some suspect the reason behind the SEC crack down are the critiques that the agency has not done more to identify and prosecute financial malpractice at the height of the financial crisis.

The Huffington Post points out a high-profile example of this in the fraud investigator who spent nearly ten years building a case against Madoff’s wealth management firm.  Harry Markopolos told the House Financial Services Committee that the SEC was “financially illiterate” and “captive to the industry it regulates” In 2009.  Another example the SEC is under fire for is its failure to place a check on Lehman Brothers’ heavy over-leveraging and for waiting to investigate Alan Stanford until 8 years after they suspected wrongdoing.

In late 2001, the SEC has had a proactive period.  They have redoubled efforts to stamp out insider trading and sued six former executives of Fannie Mae and Freddie Mac for securities fraud.

Source

FINRA News Release

WASHINGTON — The Financial Industry Regulatory Authority (FINRA) announced today that it has fined Credit Suisse Securities (USA) LLC $1.75 million for violating Regulation SHO (Reg SHO) and failing to properly supervise short sales of securities and marking of sale orders. As a result of these violations, Credit Suisse entered millions of short sale orders without reasonable grounds to believe that the securities could be borrowed and delivered and mismarked thousands of sales orders.

In a short sale, the seller sells a security it does not own. When it is time to deliver the security, the short seller either purchases or borrows the security in order to make the delivery. Reg SHO requires a broker or dealer to have reasonable grounds to believe that the security could be borrowed and available for delivery before accepting or effecting a short sale order. Requiring firms to obtain and document this “locate” information before the short sale is entered reduces the number of potential failures to deliver in equity securities. In addition, Reg SHO requires a broker or dealer to mark sales of equity securities as long or short.

Brad Bennett, FINRA Executive Vice President and Chief of Enforcement, said, “Credit Suisse’s Reg SHO supervisory and compliance monitoring system was seriously flawed. Millions of short sale orders were being entered in its systems without locates for over four years because the firm did not have adequate Reg SHO technology and procedures in place.”

FINRA found that from June 2006 through December 2010, Credit Suisse’s Reg SHO supervisory system regarding locates and the marking of sale orders was flawed and resulted in a systemic supervisory failure that contributed to significant Reg SHO failures across its equities trading business. During the time period, Credit Suisse released millions of short sale orders to the market without locates, including threshold and hard to borrow securities. The locate violations extended to numerous trading systems, aggregation units and strategies. In addition, Credit Suisse mismarked tens of thousands of sale orders in its trading systems. The mismarked orders included short sales that were mismarked as “long,” resulting in additional violations of Reg SHO’s locate requirement.

As a result of its supervisory failures, many of Credit Suisse’s violations were not detected or corrected by the firm until after FINRA’s investigation caused Credit Suisse to conduct a substantive review of its systems and monitoring procedures for Reg SHO compliance. FINRA found that Credit Suisse’s supervisory framework over its equities trading business was not reasonably designed to achieve compliance with the requirements of Reg SHO and other securities laws, rules and regulations throughout the period at least June 2006 through at least December 2010.

In concluding this settlement, Credit Suisse neither admitted nor denied the charges, but consented to the entry of FINRA’s findings.

FINRA’s investigation was conducted by Jeanne Elmadany and Chun Li under the supervision of Susan Light, Chief Counsel.

Full FINRA News Release

Bob Walker, the former leader of Bixby Energy Systems was arrested and indicted on securities fraud charges after his company admitted to defrauding their investors.  Walker was charged with one count of conspirasy to commit securities fraud.  He faces up to five years in prison.

Walter is also known as the founder of Select Comfort and is the inventor of Sleep Number beds.  He was the president, chairman, and CEO of Bixby from 2001 to 2011.  While filling these positions, Walker raised over $43 million from investors by selling company securities based on false and misleading information, according to the indictment.

Walker allegedly falsely told investors that the offers and directors of Bixby would not receive compenstation from sales of securities when, in reality, over $3 million were sent to a company officer.  Approximately $600,000 of this ended up in Walker’s pockets.  According to the indictment, Walker was also concealing that the money from investors was being used to pay the companies existing investors and to pay for his lavish lifestyle.

According to the indictment, the investors and the company’s board of directors was unaware of the fraud.

The indictment alleges that Walker repeatedly misspoke regarding the capability of Bixby’s coal gasification and liquefaction technology and machine.  Walker described the technologies as “proven” and “ready for market” despite the fact that the technology had never worked and the machine was defective.

The Securities and Exchange Commission (SEC) filed a civil suit against Walker, claiming that he and his former Bixby fundraiser, Dennis Desender, were selling unregistered securities.

Desender pleaded guilty to one count of securities fraud and now now awaiting sentencing.  He faces up to 20 years in prison.

After admitting to defrauding investors and agreeing to cooperate with a government investigation into Bixby’s former officers and employees, Walker’s one count of securities fraud will not be prosecuted.

Source

In January 2011, the Securities and Exchange Commission (SEC) approved a rule change allowing investors to choose to have their claims heard before an arbitration panel consisting entirely of public arbitrators.  Typically, investors bringing claims against their brokers or securities firms for investment losses are required to file their claims in arbitration before the Financial Industry Regulatory Authority (FINRA).  Generally, except in smaller cases, the FINRA arbitration panel consists of three arbitrators.  Before this year, the FINRA rules applicable to customer claims provided that one of the three arbitrators would be an “industry” arbitrator with significant links to the brokerage industry.  Under the new rule, investors may opt for a panel with three public arbitrators.

Linda Fienberg, President of Dispute Resolution at FINRA, recently reported that 77% of eligible investors are opting for an all-public panel — with no links to the brokerage industry.  George Friedman, Executive Vice President of Dispute Resolution at FINRA, also reported that arbitrator bias was “the most common ground” parties used to try to overturn FINRA arbitration awards.  Now that the majority of customers are opting for all public panels, it will be interesting to see whether fewer awards are challenged on the basis of arbitrator bias.

Investors with securities fraud, suitability, breach of fiduciary, or other claims arising from investment losses can now opt to have an all-public panel with no links to the  brokerage industry decide their cases.

Moulton & Arney, LLP is a Houston, Texas, based boutique litigation and arbitration firm representing investors in claims to recover investment losses.