Latest SEC Observations on Fixed Income Principal and Cross Trades - Waystone

      Latest SEC Observations on Fixed Income Principal and Cross Trades


      In July this year, the SEC’s Division of Examinations issued a risk alert on cross trades and principal transactions. In the risk alert the SEC provided additional guidance, suggestions and cautions to all registered advisers. The SEC also encouraged advisers to review their written policies and procedures regarding principal or cross trades, including their implementation, under the Advisers Act.  The risk alert’s guidance and warnings were based on over 20 examinations of investment advisers that engaged in cross trades or principal transactions involving fixed income instruments.  The SEC recorded that nearly two-thirds of the advisers examined received deficiency letters and the vast majority of deficiencies related to compliance programmes, conflicts of interest and inadequate disclosures.

      This follows the SEC’s earlier 2019 risk alert, which focused on common cross trade and principal transaction deficiencies observed in examinations conducted over a three-year period. The SEC stated that investment advisers were strongly advised to be well prepared prior to entering into principal or agency cross trades and warned that several investment advisers had received significant financial penalties for noncompliance in recent years.

      What do I need to do now?

      In order to ensure that principal and agency cross trades are handled appropriately, investment advisers should be familiar with Section 206(3) of the Advisers Act and consult with legal or compliance advisers where necessary. There are a number of rules that must be complied with and it is important that investment advisers keep documented policies and procedures that address the approach to be taken when a principal or agency cross trade is anticipated.

      A widespread approach to assisting with compliance with Section 206(3) would be to set up a ‘conflicts committee’. This committee would be tasked with overseeing any principal or agency cross trades to ensure that the investment adviser’s policies and procedures are being correctly followed, to ensure that any trades are appropriately disclosed and to ensure that any trades are fair to all parties involved.

      In many cases, however, investment advisers are unable to, or fail to, set up conflicts committees that provide sufficient independence to enable effective consent. In the SEC’s case against Paradigm Capital Management, Inc. (“Paradigm”)2, the conflicts committee was comprised of Paradigm’s CFO and CCO, and subsequently Paradigm’s hedge fund entered into principal trades with its broker-dealer, a related party by virtue of common ownership which shared the same CFO. Due to the lack of independence of Paradigm’s conflicts committee, the SEC ruled that the principal trades violated Section 206(3). Consequently, Paradigm was ordered to repay US $1.7m plus interest to investors and pay a US $300,000 civil penalty. 

      How can Waystone help?

      Waystone has extensive experience assisting investment advisers and their funds by providing independent oversight from a talented pool of directors serving on the boards of many of the largest and most successful US-advised hedge, private equity, venture capital and real estate funds. Building on this experience, Waystone has a team of experienced professionals serving on conflicts committees, providing independent oversight of principal and agency cross trades.

      We would be happy to discuss this further with you and your legal or compliance advisers to determine how we can help provide independence and effectiveness to your compliance programs and conflicts committees.  Please reach out to your usual Waystone representative or contact us below.

      Contact Us

       Next post

      More like this

      The Benefits of Open-Ended Investment Companies For Ultra High Net Worth Investors

      Open Ended Investment Companies (OEICs) can offer a flexible investment vehicle which Ultra High Net Worth Individuals (UHNWI) may wish…
      Read more

      Disclosure Requirements: Taxonomy Regulation

      We would like to inform you that the Taxonomy Regulation (EU) 2020/852 (“Taxonomy Regulation”), which supplements the SFDR Regulation (EU)…
      Read more

      Setting Up A Singapore Variable Capital Company: What Are The Benefits?

      The Singapore Variable Capital Company (VCC) launched on 15 January, 2020 and as of 11 November 2020, over 163 VCCs…
      Read more

      CIMA - Private Funds FAR Filing Extension & New RFE Form

      On 30 August 2021, the Cayman Islands Monetary Authority (CIMA) issued a notice and made available the Private Funds Related…
      Read more

      Waystone Investment Solutions’ Tosca UCITS Fund grows from $10M to $125M in Q3 of 2021

      Waystone Investment Solutions is pleased to have assisted its client, Tosca UCITS Fund by helping them reach an asset raising…
      Read more

      FinSA requirements – end of year deadline approaching

      The Swiss Financial Services Act (FinSA) came into force on 1 January 2020, changing the regulatory requirements for offering investment…
      Read more