SEC Charges Adviser and Portfolio Manager with Misrepresentations to Money Market Fund Board and Rule 2a-7 Violations

The SEC issued an Order (the “Order”) instituting administrative and cease-and-desist proceedings against Ambassador Capital Management, LLC (the “Adviser”) and the portfolio manager (the “Portfolio Manager”) for a prime money market mutual fund (the “Money Market Fund”) managed and sponsored by the Adviser.  In the Order, the SEC charges the Adviser and the Portfolio Manager with (1) making false statements to the Money Market Fund’s Board of Trustees regarding the level of risk in the Fund’s portfolio, including statements regarding maturity restrictions, exposure to European issuers, and diversification, and (2) causing the Money Market Fund to fail to comply with risk limiting conditions in Rule 2a-7 under the Investment Company Act of 1940.  The Order also alleges that the Adviser caused the Fund to fail to fully implement written stress testing procedures.  This article summarizes the SEC’s allegations in the Order, as to which there have been no findings.

The SEC press release announcing the Order stated that the proceeding originally stemmed from “ongoing analysis of money market fund data by the SEC’s Division of Investment Management, in this case a review of the gross yield of funds as a marker of risk.”  This analysis determined that as of October 2011, the Money Market Fund’s returns significantly exceeded those of the prime money market funds in its peer group.  This finding prompted an examination by the SEC’s Office of Compliance Inspections and Examinations, as a result of which the matter was referred to the Asset Management Unit of the SEC’s Enforcement Division.

Alleged Misrepresentations to the Money Market Fund’s Board.  The Order alleges that the Adviser and the Portfolio Manager misrepresented or withheld critical facts from the Money Market Fund’s Board in violation of the anti-fraud provisions of the Investment Advisers Act of 1940.  Specifically the Order alleges that:

  • the Adviser frequently exceeded self-imposed holding period restrictions for securities held by the Money Market Fund;
  • the Money Market Fund regularly purchased securities that had greater than minimal credit risk as determined under the Adviser’s own guidelines;
  • throughout the Eurozone credit crisis in 2011, the Portfolio Manager represented that the Adviser was trying to stay away from Italian exposure and would unload even secondhand exposure to the Italian market, when in fact the Money Market Fund continued to purchase securities issued by Italian-affiliated entities; and
  • the Money Market Fund’s portfolio was not sufficiently diversified and thus had not reduced risk exposure as portrayed to the Money Market Fund’s Board of Trustees.

Alleged Violations of Rule 2a-7.  The Order alleges that the Adviser also caused the Money Market Fund to deviate from the risk-limiting provisions of Rule 2a-7 and that the Adviser failed to conduct an appropriate stress test of the Money Market Fund’s portfolio.  Because the Money Market Fund failed to follow the risk-limiting provisions of Rule 2a-7, it should not have used the amortized cost method of valuing securities under which it priced its securities at $1 per share, and the Money Market Fund should not have held itself out to the public as a money market fund or in SEC filings.

Other Violations Alleged.  The Order alleges that the foregoing actions also resulted in violations of provisions of the Investment Company Act relating to (i) recordkeeping for money market funds and (ii) compliance procedures providing for oversight of compliance by a fund’s adviser.

A hearing will take place before an administrative law judge within 30-60 days from the date of the Order.

In the Matter of Ambassador Capital Management, LLC and Derek H. Oglesby, SEC Release No. IA-3725 (Nov. 26, 2013).

IRS Circular 230 Disclosure: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this informational piece (including any attachments) is not intended or written to be used, and may not be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.

Topics:  Board of Trustees, Cease and Desist, Investment Adviser, Investment Advisers Act of 1940, Investment Company Act of 1940, Misrepresentation, Money Market Funds, Portfolio Managers, SEC

Published In: Business Torts Updates, Finance & Banking Updates, Securities Updates

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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