SEC Focused on Conflicts Disclosures by Advisors and Broker-Dealers

two recent cases, the SEC ordered JP Morgan Chase to pay over $270 million for what it deemed inadequate disclosures about certain conflicts of interest. When closely examined, these two cases illustrate just how detailed and granular the Commission can be when evaluating and prosecuting conflicts non-disclosure issues.

The Proprietary Funds Case

On December 18, 2015, the SEC announced that two J.P. Morgan wealth management subsidiaries had admitted wrongdoing (though no intentional violations) relating to the firm’s investment advisory business and agreed to pay $267 million. Specifically, J.P. Morgan Securities LLC (JPMS) and JPMorgan Chase Bank, N.A. (JPMCB), preferred to invest clients in the firm’s proprietary mutual funds without properly disclosing this preference to clients. In addition, JPMS breached its fiduciary duty to certain wealthy clients when it did not inform them that they were being invested in a more expensive class of J.P. Morgan mutual funds shares than other available classes, or that JPMS preferred third-party-managed hedge funds that made certain “retrocession” payments to a J.P. Morgan affiliate.

The level of scrutiny applied in this case is striking. The SEC was initially focused on a possible charge that JPMS was improperly steering clients to house products so that it and its affiliates could make additional fees. JPMS’s Form ADVs, however, disclosed that JPMS “may have a conflict of interest in including affiliated [Mutual] Funds…because [JPMS] and/or its affiliates will receive additional compensation.” Further, in advance of opening an account, JPMS clients were specifically informed how much of their assets were to be allocated between proprietary mutual funds and third-party funds. Because of such disclosures, the SEC pivoted to the theory that there should have been an additional disclosure that JPMS “preferred” to invest client assets in proprietary products.

Holding the bank to this level of scrutiny seems severe; as noted, JPMS disclosed its incentive to put client money into house funds and these were discretionary accounts. Its “preference” for house funds seems axiomatic. All things considered, however, the penalty could have been far worse. Perhaps because of its cooperation and proactive remedial measures, J.P. Morgan was permitted to continue to provide these kinds of investment advisory services and was able to avoid the so-called automatic “bad actor” disqualification, which would have blocked it from the lucrative business of raising money for private companies, including hedge funds and startups. In addition, while the penalties and disgorgement are certainly significant, they amount to roughly one month of JPMS’s operating profits.

The Broker Compensation Case

In the second settlement, JPMS agreed to pay $4 million to resolve charges that it falsely stated on its private banking website and in marketing materials that individual advisors were compensated based on the performance of client investments, not on commission. As it turned out, advisor compensation was not tied to investment performance; it consisted of a salary plus a bonus determined by a number of factors, none of which were performance based. Although it appears that no investor was harmed, the SEC believed that sanctions were warranted: “JPMS misled customers into believing their brokers had skin in the game and were being compensated based upon the success of customer portfolios.”

Bottom Line

Based upon recent developments, it is clear that the SEC intends to look under every rock to see if all conflicts of interest, regardless of their severity, have been disclosed. Accordingly, firms should take a close look at their business practices and make sure their Form ADVs, websites, marketing materials and other disclosure documents accurately reflect those business practices.

For more information, contact William Haddad.

Beck Reed Riden LLPis Boston’s innovative litigation boutique. Our lawyers have years of experience at large law firms, working with clients ranging from Fortune 500 companies to start-ups and individuals. We focus on business litigation and labor and employment. We are experienced litigators and counselors, helping our clients as business partners to resolve issues and develop strategies that best meet our clients’ legal and business needs – before, during, and after litigation. We’re ready to roll up our sleeves and help you. Read more about us, the types of matters we handle, and what we can do for you here.

Will Haddad on Insider Trading in The Champion Magazine

Will HaddadThe September/October 2015 issue of The Champion magazine features William Haddad’s analysis of the upheaval in insider trading law following last year’s Second Circuit decision in United States of America v. Newman. Will’s article is titled The Newman Decision And Its Ramifications.

In December 2014, the Second Circuit Court of Appeals in New York overturned two insider trading convictions.

Will summarizes the decision as follows:

Will Haddad in The ChampionIn Newman, the Second Circuit vacated convictions against two tippees, Todd Newman and Anthony Chiasson, based upon a finding that a tippee may only be held criminally liable if he or she knew that the tipper provided information in exchange for a personal benefit and that benefit represented “at least a potential gain of a pecuniary or similar nature.” Because the government did not satisfy that standard, Chiasson and Newman, who were supposed to have started sentences of 78 and 54 months, respectively, are free. In addition, Newman has spawned a number of other postconviction challenges and the reversal of certain guilty pleas.

In the United States’ petition to the Supreme Court, the government described the ruling as “unprecedented” and argued that, if it were left to stand, it would “hurt market participants, disadvantage scrupulous market analysts, and impair the government’s ability to protect the fairness and integrity of the securities markets.” However, the Supreme Court recently denied the government’s request to review the Second Circuit’s decision.

In the article, Will summarizes the basics of insider trading law, describes the Newman decision, and sets forth its ramifications in both criminal and civil enforcement cases. Will writes:

The Newman decision is the biggest challenge to date to the government’s campaign against insider trading. It comes out of the Second Circuit, the most important circuit for securities fraud cases. It has resulted in courts reversing convictions and vacating guilty pleas and has inspired challenges to criminal and SEC cases outside of the Second Circuit.

That said, lawyers advising individuals or financial institutions (e.g., hedge funds) should not change their preemptive or post-conduct advice to clients based upon Newman. One countervailing opinion has already been handed down in the Ninth Circuit, and three bills in Congress seek to overrule Newman.

A copy of the article is available here.

Will Haddad is a partner at Beck Reed Riden LLP. He handles civil litigation involving all kinds of commercial disputes, as well as client responses to government investigations and enforcement actions. He has appeared in state and federal courts, along with various government and industry forums, including the SEC and FINRA.

The Champion magazine is the National Association of Criminal Defense Lawyers (NACDL)’s journal. The magazine offers timely, informative articles written for and by criminal defense lawyers, featuring the latest developments in search and seizure laws, DUI/DWI, grand jury proceedings, habeas, the exclusionary rule, death penalty, RICO, federal sentencing guidelines, forfeiture, white collar crime, and more. The Champion is published ten times per year.

Beck Reed Riden LLPBest Law Firmsis Boston’s innovative litigation boutique. Our lawyers have years of experience at large law firms, working with clients ranging from Fortune 500 companies to start-ups and individuals. We focus on business litigation and labor and employment. We are experienced litigators and counselors, helping our clients as business partners to resolve issues and develop strategies that best meet our clients’ legal and business needs – before, during, and after litigation. We’re ready to roll up our sleeves and help you. Read more about us, the types of matters we handle, and what we can do for you here.

Will Haddad Quoted in Massachusetts Lawyers Weekly

Massachusetts Lawyers WeeklyThe April 28, 2014, issue of Massachusetts Lawyers Weekly features Will Haddad in an article about federal securities class action lawsuits. The article is titled “M&A suits prevalent, controversial.”

Will HaddadThe article focuses on the ubiquity of class action lawsuits challenging mergers & acquisitions. In the article, Will addresses a pending Supreme Court case involving securities fraud lawsuits as follows:

And when it comes to another type of shareholder class actions — securities fraud cases — a pending U.S. Supreme Court decision could drastically alter the landscape. In Halliburton v. Erica P. John Fund, the court has been asked to reconsider the long-recognized presumption that investors have relied on misstatements, whether they prove that they have or not, based on the “fraud on the market” theory that markets are efficient and any pertinent information, including misstatements, are immediately reflected in a company’s share price.

Securities litigator William A. Haddad of Beck, Reed, Riden in Boston said he believes the theory is flawed because, “as we’ve seen, there’s great irrationality in the market.” He said the Supreme Court justices hinted during oral arguments that they may at least modify, if not eliminate, the presumption.

“The presumption is a cornerstone of how class actions are brought,” Haddad said. “The bottom line is that if the fraud on the market presumption is pulled back, plaintiffs’ lawyers will have a hard time proving reliance up front. I think it’s fair to say it’s going to be disruptive to the whole plaintiffs’ bar. It’s going to be a sea change.”

The article is by Massachusetts Lawyers Weekly’s reporter, Brandon Gee.

Will Haddad is a partner at Beck Reed Riden LLP. He handles civil litigation involving all kinds of commercial disputes, as well as client responses to government investigations and enforcement actions. He has appeared in state and federal courts, along with various government and industry forums, including the SEC and FINRA.

Beck Reed Riden LLPis Boston’s innovative litigation boutique. Our lawyers have years of experience at large law firms, working with clients ranging from Fortune 500 companies to start-ups and individuals. We focus on business litigation and labor and employment. We are experienced litigators and counselors, helping our clients as business partners to resolve issues and develop strategies that best meet our clients’ legal and business needs – before, during, and after litigation. We’re ready to roll up our sleeves and help you. Read more about us, the types of matters we handle, and what we can do for you here.

William Haddad Launches Securities Litigation Blog

William Haddad, a partner at Beck Reed Riden LLP, recently launched his legal blog: The Securities Litigator.

The latest posts on The Securities Litigator feature Will Haddad’s analysis of a Fifth Circuit decision affecting employees who want to be treated as Dodd-Frank whistleblowers and discussion of the SEC’s recent enforcement action against the owner of S.A.C. Capital Advisors, LLC.

Will focuses on securities litigation and business litigation. Will handles litigation involving all types of commercial disputes, as well as client responses to government investigations and enforcement actions. He frequently appears in state and federal courts, as well as various government and industry forums, including the Securities and Exchange Commission (SEC) and the Financial Industry Regulatory Authority (FINRA).

About Us

Beck Reed Riden LLP is Boston’s innovative litigation boutique. Our lawyers have years of experience at large law firms, working with clients ranging from Fortune 500 companies to start-ups and individuals. We focus on business litigation and labor and employment. We are experienced litigators and counselors, helping our clients as business partners to resolve issues and develop strategies that best meet our clients’ legal and business needs – before, during, and after litigation. We’re ready to roll up our sleeves and help you. Read more about us, the types of matters we handle, and what we can do for you here.