It turns out that failing to adhere to your
investment guidelines can not only get you sued by your investor, it can get
you sent to jail.
Mark D. Lay ran a hedge fund whose sole investor
was the Ohio Bureau of Worker's Compensation. The fund agreement had a
non-binding 150% leverage guideline. Lay apparently relied on the non-binding
nature of it and had 2/3 of the trades in excess of 150 leverage and over 20%
of those trades involved leverage over 1000%. Lay ended up losing $214 million
of the $225 million invested by the Bureau.
Apparently Lay not only greatly exceeded the
leverage guidelines, he also lied about his excess.
Lay was convicted investment advisory fraud,
conspiracy to commit mail and wire fraud, and two counts of mail fraud. Those
convictions earned him a 12-year sentence at the Federal Correctional
Institution in Fort Dix, N.J. and an order to repay nearly $213 million from
the loss and forfeit $590,526 of the $1.7 million in fees the bureau paid.
Lay lawyers tried get him out of the investment
advisory fraud by claiming that the Bureau was not a client. They argued that
the Bureau was merely an investor in the fund and that Lay advised the fund. It
was this handling of deeming an investor in the fund as the "client" that
caught my attention.
Lay's legal team used the Goldstein v. SEC case to argue that the SEC is precluded
form treating fund investors as clients. The Sixth Circuit Court of Appeals did
agree with that argument. The found that the SEC could not treat all
investors in a fund as clients, but they could treat some as clients
under the Investment Advisers Act.
In this case, the Bureau was already a client
under a different investment management agreement. So a client relationship was
already established. Also, the Bureau was the only investor in the fund. This
is an atypical fund relationship.
The case points out that investors in a fund may
still be clients of the fund manager under the Investment Advisers Act.
additional commentary on developments in compliance and ethics, visit Compliance Building,
a blog hosted by Doug Cornelius.
Well, it’s amazing. The miracle has been done. Hat’s off. Well done, as we know that “hard work always pays off”, after a long struggle with sincere effort it’s done. ----------------------------- sumitgupta0008