Hedge funds are a continuing focus for the SEC. This week the Commission filed an action against two fund managers and an adviser alleging that they fabricated performance reports furnished to investors. The Court granted a request for a freeze order at the time the complaint was filed. SEC v. Kalucha, Civil Action No. 14 cv 3247 (S.D.N.Y. Filed May 5, 2014).

Defendant Vinceet Kalucha is the CIO of Aphelion Fund Management LLC, also a defendant and an investment adviser to on-shore and off-shore hedge funds. Defendant George Palathinkal is a general partner and CFO of the adviser.

The Aphelion funds began trading in July 2013. From May 2013 to the present Messrs. Kalucha, Palathinkal and Aphelion Management raised nearly $8 million from 8 different investors for an investment into a separate account managed by Aphelion Management. One investor put in $3 million.

The Aphelion funds used an investment model developed by Mr. Kalucha. That model used proprietary statistical and probability based trend-following strategies. Mr. Kalucha first employed his model for hedge funds managed by Coriolis Management LLC which he founded and co-managed.

In early 2011 the Kalucha investment model began to perform poorly for Coriolis. In August 2011 Mr. Kalucha discontinued the operation of the Coriolis fund. When the marketing materials were created for Aphelion Management and its funds they did not incorporate the poor performance for Coriolis for August 2011. Rather, the statistics used showed positive results taken from separately managed accounts. The performance statistics for Coriolis for August – its worst month of operation – were omitted. This distorted the actual performance of the investment model for the Coriolis Funds in 2011 which was a negative 20% return.

In September 2013 an Audit Firm completed a review of the investment performance for an Aphelion client. The investments had been made using the Kalucha model. Overall the review showed a negative return of 3.08% net of fees or negative 0.66% before fees.

Mr. Kalucha altered the audit report. He changed the time period, altered the results so that they were a positive 30% net of fees and added a statement that it covered a series of accounts for different investors. The altered report was distributed to potential investors. It was also incorporated into Aphelion Management’s marketing materials. Later Mr. Kalicha told the Audit Firm that he discontinued use of the altered report when the audit firm protested. The Audit Firm resigned.

Subsequently, the defendants told investors that Aphelion Management was revising its reported historical performance statistics to reflect a more conservative approach. The actual reason was the repudiation of the altered report by the Audit Firm and its resignation which was not disclosed to investors.

As of March 2014 Aphelion Management had raised about $1.5 million. Investors were told the funds would be used for firm operating expenses. In fact the money was diverted to the personal use of Messrs. Kalucha and Palathinkal.

The complaint alleges violations of Exchange Act Section 10(b), each subsection of Securities Act Section 17(a) and Advisers Act Sections 206(1), 206(2) and 206(4). The case is pending.

 

Topics:  Audits, Disclosure Requirements, Enforcement Actions, Fund Managers, Hedge Funds, Investment Adviser, Investors, Reporting Requirements, SEC, Section 10(b)

Published In: Business Torts Updates, Civil Remedies 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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