SEC Makes First Finding of Retaliation in Violation of the Exchange Act’s Anti-Retaliation Rule

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On June 16, 2014, the SEC entered an order (the “Order”) instituting cease and desist proceedings against an investment adviser, Paradigm Capital Management, Inc. (“Paradigm”), and Paradigm’s founder, Director, President, Chief Investment Officer, and Portfolio Manager, Candace King Weir (“Weir”).  The Order made findings and imposed a cease and desist order against Paradigm and Weir. In the Order, the SEC found that Paradigm and Weir had engaged in improper trading activity and that Paradigm had retaliated against Paradigm’s head trader (the “Whistleblower”) after the Whistleblower reported the improper trading activity to the SEC.

Over the course of two years, Paradigm engaged in multiple transactions with a broker-dealer on behalf of a hedge fund client. Weir owned Paradigm and the broker-dealer, and also controlled the general partner of the hedge fund client. Because of Weir’s common ownership and control over the three entities involved, Paradigm was required to disclose, in writing, that Weir had interests on both sides of the trades and to obtain the hedge fund client’s consent to the trades. Although Paradigm attempted to satisfy the written disclosure and consent requirements by establishing a conflicts committee to review and approve the transactions at issue, the SEC found that the conflicts committee was insufficient because the committee itself was conflicted. In particular, the conflicts committee consisted of only two people, one who reported directly to Weir and one who was conflicted because he served as the CFO of both Paradigm and the broker-dealer engaging in the trades at issue.

Paradigm’s “head trader,” the Whistleblower, reported Paradigm’s potential violations to the SEC. The day after informing Paradigm that he had reported the potential violations, Paradigm removed the Whistleblower from the trading desk and “temporarily” relieved him of his day to day trading and supervisory responsibilities. Paradigm also informed the Whistleblower that his actions needed to be investigated, and he was instructed to work in a different office building and compile a report detailing the facts supporting the potential violations he reported to the SEC. Thereafter, the Whistleblower was denied access to Paradigm’s trading and account systems and to his existing email account with Paradigm. Approximately one week after the Whistleblower reported the potential violations, Paradigm informed the Whistleblower’s employment counsel that the employment relationship was “irreparably damaged” and Paradigm wanted to work out a severance package. After those negotiations stalled, Paradigm permitted the Whistleblower to return to work, but removed him as head trader and continued to deny him access to Paradigm’s trading system. Ultimately, the Whistleblower resigned approximately one month after reporting the potential violations to the SEC.

The SEC concluded that Paradigm had no “legitimate reason” for removing the Whistleblower from his position as head trader, changing his job function, stripping him of his supervisory responsibilities, and “otherwise marginalizing him.” Thus, the SEC found, Paradigm’s actions violated Section 21F(h) of the Exchange Act, the Act’s anti-retaliation provisions, which prohibit an employer from discharging, demoting, suspending, threatening, harassing, or in any other manner discriminating against a whistleblower because of any lawful act done by the whistleblower in, inter alia, providing information to the SEC.

As a result of the trading violations and the retaliation against the Whistleblower, Paradigm and Weir were ordered to disgorge $1.7 million to the hedge fund client for fees paid by the client and to pay a civil penalty of $300,000. Paradigm and Weir were also ordered to pay $181,771 in prejudgment interest, for a total monetary fine of $2,181,771.

 

Topics:  Anti-Retaliation Provisions, Disgorgement, Employer Liability Issues, Enforcement Actions, Hedge Funds, Investment Adviser, Investment Funds, Retaliation, SEC, Securities Exchange Act, Whistleblowers

Published In: Civil Procedure Updates, Civil Rights Updates, Finance & Banking Updates, Labor & Employment 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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