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MFS Found to Have Made Misleading Statements About Hypothetical Stock Returns

August 31, 2018

The SEC brought an enforcement action against Massachusetts Financial Services Company (MFS) for making material misstatements and omissions to certain of its advisory clients and others concerning hypothetical stock returns associated with MFS’s blended research stock ratings. The SEC stated that MFS offered investors blended research strategies that combined research ratings from MFS’s fundamental analysts and quantitative models to manage portfolios of stocks for client investment. The SEC found that from 2006 to 2015, MFS advertised that the basis of its blended research philosophy was that fundamental and quantitative management styles excel in differing market conditions, and that blending fundamental and quantitative stock ratings could over time yield better returns than either type of ratings alone. To illustrate the validity of its claim that blending two sources of ratings was better than one source alone, MFS advertised the results of a hypothetical portfolio of stocks rated “buy” by both MFS’s fundamental analysts and quantitative models. In its advertisements, MFS showed how this hypothetical portfolio had annualized returns from 1995 forward that exceeded the annualized returns of either a hypothetical portfolio of fundamental “buy” rated stocks or a hypothetical portfolio of quantitative “buy” rated stocks.

AEGON Fails to Properly Oversee the Use of Its Quantitative Models

August 27, 2018

The SEC found that between July 2011 and June 2015, AEGON USA Investment Management, LLC (AUIM), a registered investment adviser, violated certain provisions of the federal securities laws in connection with the offer, sale, and management of 15 quantitative-model-based mutual funds, variable life insurance investment portfolios, and variable annuity investment portfolios (Products) and separately managed account (SMA) strategies (Strategies). AEGON marketed all of the Products and Strategies as managed using a proprietary quant model, and highlighted, when marketing certain of the Products and Strategies, their “emotionless,” “model-driven,” or “model- supported” investment management process and described how the models were supposed to operate. The SEC stated that these claims necessarily implied that the models worked as intended. The SEC found, however, that AEGON launched the Products and Strategies without first confirming that the models worked as intended and/or without disclosing any recognized risks associated with using the models. During the summer of 2013, AUIM (acting as the subadviser of the Products and Strategies) discovered that certain of the models contained errors and concluded that that these errors rendered at least one of the models “to not be fit for purpose.” AUIM stopped using, running, or relying on at least one of the models in September 2013. AUIM and TAM (the adviser of the Products) failed to disclose the models’ errors and AUIM’s decision to stop using the model to the board of trustees of Transamerica Funds.

Hedge Fund Adviser Fails to Implement Adequate Compliance Program

August 22, 2018

The SEC brought an enforcement action against Aria Partners GP, LLC for failing to implement a compliance program consistent with its obligations as a registered investment adviser. Among other things, this led to a failure to disclose to all investors in one of those private funds all their options to redeem their investment in the fund. The fund’s Limited Partnership Agreement (LPA) required 90 days’ written notice for redemptions. However, Aria Partners had an informal policy, which was not disclosed to all investors in the fund, of accommodating investors’ requests to provide partial redemptions on significantly less notice than 90 days. In addition, Aria Partners granted full redemptions to a limited number of investors on 60 days’ notice, while similarly situated investors were held to the 90 day notice period. These practices resulted in materially different full redemption amounts for two investors in 2015, when the fund lost value in a short period.

Adviser Charged with Misleading Its Clients about the Nature of its Investment Program

August 21, 2018

The SEC brought an enforcement action against Biltmore Wealth Management LLC, an investment adviser located in California. From at least June 2014 through August 2015, the SEC stated that Biltmore raised about $2.2 million from ten investors, eight of whom were pre-existing clients of Biltmore, to invest in Biltmore Capital, L.P. (Fund), a private fund. The SEC found that Biltmore misled the Fund and investors by claiming the Fund would invest primarily in leading growth stocks, but instead caused the Fund to make substantial trades in risky stock options and options on the SPDR S&P 500 ETF, which attempts to replicate the return of the S&P 500 (“SPY options”). Biltmore also misrepresented to investors that the Fund’s risk would be mitigated by “stops” that would limit its losses to just 7-8%, but the Fund’s losses often exceeded those limits. In monthly letters to Fund investors, Biltmore mischaracterized the source of the Fund’s returns and losses by failing to disclose that the Fund’s options trading, particularly its trading in SPY options, was the main driver of its few profits and many losses. Ultimately, the undisclosed SPY options trading caused the Fund to lose nearly all of its value in August 2015, and it was dissolved in November 2015.