Jan. 14, 2016

Navigating FCA and SEC Cybersecurity Expectations (Part Two of Two)

To address the divergent expectations and requirements of relevant regulators, hedge fund managers operating in multiple jurisdictions must develop a coordinated approach to cybersecurity when designing cyber-compliance programs. This two-part series examines the operations of the U.K. Financial Conduct Authority (FCA) and the SEC, both of which have increased their focus on cybersecurity, albeit with differing approaches. Part One discussed the FCA and SEC as regulators of financial services in their respective jurisdictions and outlined the guidance issued, and the methods adopted, by the two regulators. This article explores how hedge fund managers can navigate the current regulatory environments, including existing guidance, in the U.S. and the U.K., and simultaneously satisfy the requirements of each regulator. See also “RCA Panel Outlines Keys for Hedge Fund Managers to Implement a Comprehensive Cybersecurity Program” (Jun. 18, 2015).

Managing the Machine: How Hedge Fund Managers Can Monitor and Review Their Automated Trading Strategies (Part Two of Two)

Although many hedge fund managers and other firms using automated trading (AT) strategies have relied on generic policies to comply with applicable regulations, with the advent of initiatives such as the CFTC’s Notice of Proposed Rulemaking on Regulation Automated Trading (Regulation AT) and restrictions on AT strategies imposed by MiFID II, that reliance will no longer be satisfactory. Rather, under Regulation AT and other guidance from self-regulatory and industry organizations, firms that use AT strategies must establish specific policies and controls to mitigate the particular risks associated with those strategies. In this two-part guest series, Douglas A. Rappaport, Patrick M. Mott and Elizabeth C. Rosen of Akin Gump outline five high-level first steps for legal and compliance professionals to jumpstart the process of designing and implementing a control framework tailored to a hedge fund manager’s particular AT program that will stand up to regulatory scrutiny. This second article explores the final three steps, addressing protocols for monitoring and reviewing trading activity, code and disclosures. The first article covered the first two steps, including conducting a risk assessment of and documenting the AT system. For additional insight from Rappaport, see “Perils Across the Pond: Understanding the Differences Between U.S. and U.K. Insider Trading Regulation” (Nov. 9, 2012). For insight from other Akin Gump partners, see “Non-U.S. Enforcement, Insider Trading in Futures, Failure to Supervise Charges and Other Evolving Insider Trading Challenges for Hedge Fund Managers” (Nov. 21, 2013).

Current and Former SEC, DOJ and NY State Attorney General Practitioners Discuss Regulatory and Enforcement Priorities

A panel of current and former regulators at PLI’s recent Hedge and Private Fund Enforcement & Regulatory Developments 2015 event offered perspectives on the SEC’s focus on issues relating to conflicts of interest, valuation and fees and expenses in the private funds space; implications of the seminal Second Circuit insider trading decision in U.S. v. Newman; the DOJ’s focus on prosecution of individuals; enforcement efforts of the New York State Attorney General; and the role of whistleblowers in enforcement. The program, entitled “Current Hedge and Private Fund Enforcement Priorities – The Enforcers’ Perspective,” was moderated by Gibson Dunn partner Barry R. Goldsmith and featured Julie M. Riewe, Co-Chief of the Asset Management Unit of the SEC Division of Enforcement; Maria E. Douvas, a former federal prosecutor and a partner at Paul Hastings; Katherine R. Goldstein, an Assistant United States Attorney for the Southern District of New York and Chief of its Securities and Commodities Fraud Task Force; and Chad Johnson, Chief of the Investor Protection Unit of the New York State Attorney General. This article summarizes the key takeaways from the presentation. For additional insight from Riewe, see “SEC Settlement Highlights Circumstances in Which Hedge Fund Managers Must Disclose Conflicts of Interest” (Apr. 23, 2015); and “Conflicts Remain an Overarching Concern for the SEC’s Asset Management Unit” (Mar. 12, 2015). For coverage of similar discussions from PLI’s 2014 event, see “Regulators from the SEC, CFTC and New York Attorney General’s Office Reveal Top Hedge Fund Enforcement Priorities”: Part One of Four (Dec. 4, 2014); and Part Two of Four (Dec. 18, 2014).

Hedge Fund Managers Must Guard Against Illicit Cross Trading to Avoid Significant Penalties

The SEC recently settled parallel enforcement actions against an investment adviser, a broker-dealer and two of their respective employees who allegedly orchestrated an illicit securities “parking” scheme. The SEC charged that the employees arranged for certain clients of the investment adviser to sell securities to the broker-dealer, only for the investment adviser to repurchase those securities for other clients or funds on the next trading day at prearranged prices. This allegedly circumvented the investment adviser’s policies on cross trading and parking securities and benefited some clients at the expense of others, while earning the broker-dealer a predetermined markup on each of the trades. This article details the alleged trading scheme; the relevant laws and regulations; the alleged violations; and the results of the settlements. For an overview of issues arising out of cross trades and other transactions among funds and their advisers, see “Katten Forum Identifies Best Practices for Hedge Fund Managers Regarding Best Execution, Soft Dollars, Principal Trades, Agency Cross Trades, Cross Trades and Trade Errors” (Mar. 13, 2014). 

RCA Compliance, Risk and Enforcement Symposium Highlights Methods for Hedge Fund Managers to Upgrade Compliance Programs

The development of a robust compliance program by hedge fund managers that addresses key issues, such as valuation, conflicts of interest and the use of expert networks, continues to be a focus for the SEC. Among various topics discussed during the recent Regulatory Compliance Association (RCA) Compliance, Risk and Enforcement Symposium, panelists proffered ways for hedge fund managers to enhance their compliance programs, including interaction with other groups within the firm; controls around expert networks; and the use of technology to augment compliance testing and controls to identify and address issues. This article highlights the salient points made on the foregoing issues. For additional insight from the RCA, see “Four Essential Elements of a Workable and Effective Hedge Fund Compliance Program” (Aug. 28, 2014); and “Perspectives from Regulators and Industry Experts on 2014 Examination and Enforcement Priorities, Fund Distribution Challenges, Conducting Risk Assessments, Compliance Best Practices and Administrator Shadowing (Part Three of Three)” (Jan. 9, 2014).

OCIE Outlines Examination Priorities for 2016

Earlier this week, the SEC released the Office of Compliance Inspections and Examinations’ (OCIE) 2016 priorities. Addressing issues affecting numerous financial institutions, including hedge fund managers and other investment advisers; investment companies; broker-dealers; transfer agents; and clearing agencies, OCIE’s announcement revealed new areas of focus, including liquidity controls, public pension advisers, product promotion, exchange-traded funds and variable annuities. The priorities also confirm the SEC’s emphasis on cybersecurity and fees. “These new areas of focus are extremely important to investors and financial institutions across the spectrum,” said SEC Chair Mary Jo White in a press release announcing the priorities. “Through information sharing and conducting comprehensive examinations, OCIE continues to promote compliance with the federal securities laws to better protect investors and our markets.” Echoing White’s emphasis on compliance, OCIE Director Marc Wyatt expressed “hope that registrants will use this information to inform the evaluation of their own compliance programs in these key areas.” This article summarizes OCIE’s list of priorities for 2016. For more on OCIE priorities, see “SEC’s Rozenblit Discusses Operations and Priorities of the Private Funds Unit” (Sep. 24, 2015); and “ACA Compliance Professionals and SEC Veteran John H. Walsh Share Insights on SEC Priorities for 2015” (Apr. 23, 2015).

Dechert Announces Addition of Timothy Spangler

Timothy Spangler has joined Dechert as a partner in its financial services practice group. He advises clients on the structuring and formation of, and investment in, international and domestic private investment funds, including hedge funds, private equity funds, real estate funds, venture capital funds and funds-of-funds. For insight from Spangler, seeInterview with Timothy Spangler: Key Legal and Business Considerations When Launching Hedge Funds or Hedge Fund Managers in China” (Feb. 25, 2010); and “Will Increased Tax Rates and More Onerous Regulation Cause Hedge Fund Managers to Leave London?” (Sep. 2, 2009). For coverage of our recent collaboration with Dechert, see our two-part series on the evolving role of hedge fund GCs and CCOs: Part One (Dec. 10, 2015); and Part Two (Dec. 17, 2015). 

Former Bain Capital CCO Joins ACA Compliance Group

Alan K. Halfenger recently joined ACA Compliance group as a partner in Boston. At ACA, he will focus on driving compliance, risk and operational solutions for clients across a variety of functions, products and organization types; assist in developing solutions to real-world compliance issues; and serve as a subject matter expert on global anti-money laundering, anti-corruption and know your customer issues. The HFLR recently partnered with ACA on a program covered in “Recommended Actions for Hedge Fund Managers in Light of SEC Enforcement Trends” (Oct. 22, 2015). See also our two-part series analyzing ACA’s 2015 compliance survey addressing: “SEC Exams, MNPI and Restricted Lists” (Sep. 17, 2015); and “Expert Networks, Fund Expenses and Electronic Communications” (Oct. 8, 2015).