SEC Settles with Adviser and Its Principal over Misleading Mutual Fund and Advisory Services Advertisements in Newsletters and on Websites

The SEC settled public administrative proceedings against Navigator Money Management (the “Adviser”), a registered investment adviser, and its principal, Mark A. Grimaldi (the “Principal”), over advertisements in newsletters and on websites making claims about the success of the Principal’s investment advice and of a mutual fund the Principal managed (the “Fund”).  This article provides a high-level summary of the SEC’s detailed findings as set forth in the settlement order (the “Order”), which the Adviser and its Principal (together, the “Respondents”) have neither admitted nor denied.

Background

The Principal is the president, chief compliance officer, and majority owner of the Adviser which reported $115 million in “regulatory assets under management” in its most recent Form ADV and has approximately 600 advisory clients.  The Principal manages both the Adviser’s individual client accounts and the Fund.  The Principal also is the majority owner of the entity that published the Newsletters.  The Principal controls the content of the newsletters which are used to solicit clients for the Adviser and to solicit investors in the Fund.  The model portfolios described in the Newsletters are used to manage the Adviser’s client accounts.

Fund Advertisements

The Order found that the Adviser and its Principal made materially misleading statements concerning the Fund in Newsletter articles by (i) quoting the hypothetical performance of a similarly named model portfolio as the Fund’s; (ii) attributing performance of the aforementioned model portfolio to the Principal during a period when the Principal had no involvement with the model portfolio; and (iii) quoting the Fund’s relative Morningstar ranking in a way that omitted periods for which it had poorer relative performance; (iv) using a substantially inflated Morningstar ranking for the Fund; and (v) encouraging readers to invest in the Fund as way of achieving  investment results like those of the Adviser’s similarly named model portfolio at a time when the Fund and model portfolio “held very different securities.”

The SEC also found that certain advertisements for the Funds did not comply with the standardized performance presentation requirements of Rules 482(d) and 482(g) under the Securities Act of 1933, under which advertisements containing performance data must include the average annual total return, the “length of and the last day of the period for which performance is measured,” and must be “as of the most recent practicable date.”  The Order noted that in 2008, in connection with an examination, the SEC examination staff had notified the Adviser that the Newsletters could be considered advertisements for purposes of Rule 482.  

Model Portfolio Advertisements

The SEC found that the Adviser and the Principal made several materially misleading statements concerning certain model portfolios in the Newsletters, on a related website and in the Adviser’s Twitter account.  The Newsletters and website included a chart that with (1) a statement regarding the success of the Principal’s growth model relative to the S&P 500 for a period that included several years prior to the Principal’s involvement with the model portfolio and (2) incorrect claims that the two models shown in the chart had outperformed the S&P 500 in 2009.  The SEC also found that the Principal made misleading claims regarding the performance of another model relative to the S&P 500 on the Adviser’s Twitter account because the claim related to a period that included several years prior to the time the Principal became involved with the model.

Past Specific Recommendations

The SEC found that mentions of the Adviser’s prior securities recommendations in the Newsletters and on a related website violated Rule 206(4)-1 under the Investment Advisers Act of 1940 (the “Advisers Act”) governing advertisements by registered investment advisers.  Rule 206(4)-1(a)(2) makes it unlawful for an investment adviser to “publish, circulate, or distribute any advertisement which refers, directly or indirectly, to past specific recommendations of such investment adviser which were or would have been profitable to any person” unless certain conditions are met.  The SEC found that the Adviser did not meet the following conditions under the Rule for presenting past recommendations: (i) the Adviser did not provide a list of all recommendations by the Adviser within the past year with the name of the security and market prices, and (ii) the mentions of past recommendations were not accompanied by a legend stating: “it should not be assumed that recommendations made in the future will be profitable or will equal the performance of the securities in this list.”  The SEC cited examples of mentions by the Adviser of successful past specific recommendations that were misleading because the Adviser failed to mention unsuccessful recommendations during the preceding year.

The Order noted that in 2008, in connection with an examination, the SEC examination staff had notified the Adviser that the Newsletters could be considered advertisements for purposes of Rule 206(4)-1.

Morningstar Claims

The SEC found that claims made in the Newsletters, on related websites, and in emails to potential Fund investors regarding a Morningstar ranking for the Adviser were materially misleading because: (i) Morningstar rates mutual funds, not investment advisers; and (ii) since February 2009, the Adviser had not been, as claimed, the investment manager of a mutual fund with a Morningstar five star rating.  The Order observed that in 2012 Morningstar notified the Principal that these claims were inaccurate and unauthorized.

Inadequate Policies Governing Advertisements

The SEC found that the Adviser’s written policies and procedures were not reasonably designed or implemented to ensure that the Newsletters and other advertisements and communications provided to prospective and existing investors did not contain any false or misleading information. The Order observed that the Adviser’s policies and procedures concerning advertisements “simply parroted” Rule 206(4)-1 and were not “specifically tailored to prevent advertisements in newsletters, client correspondence, or other communications with clients (e.g., Twitter or websites) from violating the Commission’s rules for advertisements by investment advisers or mutual funds.”

Violations

The SEC found the Adviser willfully violated, and the Principal willfully violated, aided and abetted and caused the Adviser’s violations of:

  • Section 17(a) of the Securities Act of 1933, which in general terms prohibits fraud and misrepresentations in the offer or sale of securities;
  • Sections 206(1) and 206(2) of the Advisers Act which generally prohibit fraudulent and deceptive practices by investment advisers;
  • Section 206(4) of the Advisers Act and, and Rule 206(4)-8 thereunder, which generally prohibit fraudulent and deceptive practices by investment advisers with respect to any investor or prospective investor in a pooled investment vehicle;
  • Rules 206(4)-1(a)(2) under the Advisers Act relating to past specific recommendations in advertisements by registered investment advisers; and
  • Rule 206(4)-1(a)(5) under the Advisers Act, which generally prohibits false and misleading advertisements by registered investment advisers.

The SEC also found that the Adviser and the Principal violated Section 34(b) of the Investment Company Act of 1940 (the “1940 Act”), which prohibits any person from making material misstatements in any record, such as investment company advertisements, required to be kept under the 1940 Act, because Rule 34b-1 under the 1940 Act deems any advertisement that omits information specified by Rules 482(d) and 482(g) to be materially misleading.

The SEC further found that the Adviser violated Rule 206(4)-7 under the Advisers Act, which governs registered investment adviser compliance programs.

Sanctions

The Principal agreed to pay a civil penalty of $100,000.  In addition to censure and a cease-and-desist order, the Respondents agreed to (1) establish internal procedures and controls reasonably designed to ensure the accuracy of representations regarding the Adviser, the Adviser’s recommendations and the Fund and (2) engage an independent compliance consultant.  In addition, the Respondents agreed to (a) mail or email a copy of the Adviser’s Form ADV, which incorporates the SEC’s findings in the Order, to each of the Adviser’s existing advisory clients, and post the entire Order on the homepage of the Adviser’s website and (b) post prominently on the home page of each website the text of the SEC’s litigation release concerning the Order, with a hyperlink to the entire Order, and maintain the posting and hyperlink on their websites for a period of twelve months from the entry of the Order.

In determining to accept the settlement, the SEC considered certain remedial acts undertaken by the Respondents.

In the Matter of Navigator Money Management, Inc. and Mark A. Grimaldi, SEC Rel. No. 33-9521 (January 30, 2014).

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:  Enforcement Actions, Fraud, Investment Adviser, Misleading Statements, SEC

Published In: Communications & Media 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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