Securities Frauds

Most SEC enforcement is targeted at shutting down frauds on unsuspecting investors. These schemes can take many forms, and the SEC has several tools to pursue them:

• Unregistered Securities:

  Companies offering securities must register them with the SEC unless certain exemptions apply, such as offerings to “accredited” investors.  Registration helps ensure that investors receive important financial and operational information regarding a company before they invest. Companies must complete a registration statement that accurately describes their business and management, explains the terms of the securities for sale, and incorporates financial statements certified by independent accountants. Each year, the SEC charges dozens of companies and individuals with failing to comply with these fundamental investor-protection requirements.

• In recent years,

  cryptocurrency

  companies have been repeatedly charged with failing to register their digital assets as securities. Under the “Howey” test, a security exists whenever money is invested in a common enterprise with a reasonable expectation of profits from the efforts of others. Many cryptocurrencies fall within this definition and are therefore securities that must be registered with the SEC absent an exemption.

• Misrepresentations and Omissions

  : The SEC routinely charges companies and individuals for making false statements or material omissions to investors. Misrepresentations and omissions can take many forms, whether it's lying about a company's products or services, accounting fraud in financial statements, failing to disclose conflicts of interest, or concealing adverse events that hurt the company’s bottom line.

• Public companies

  traded on securities exchanges are also required to make periodic public filings about their business, as well as “current” reports when significant events occur. Although many misrepresentation and omission cases concern public companies, the SEC also has authority to charge

  private companies

  and individuals for defrauding their investors.

The SEC relies heavily on whistleblowers to shut down these schemes. Frauds succeed because it is difficult to know when a company is lying unless you are on the inside. Thus, corporate insiders can play a critical role in alerting the SEC to misconduct. But whistleblowers do not have to be insiders. In many cases, experts like forensic accountants can perform sophisticated analyses to detect fraud from the outside looking in. Whether insider or outsider, whistleblowers play an indispensable role in helping the SEC prosecute billions of dollars in fraud each year.

In addition to prosecuting securities fraud, the SEC regulates a wide variety of market activity under several laws. Whistleblowers can report any violations of these laws through the SEC Whistleblower Program.

For example, the SEC heavily regulates critical financial intermediaries such as brokers and dealers, investment advisers, clearing agencies, exchanges, and swaps dealers.  Each of these market participants is subject to its own registration requirements and oversight rules.

• Broker-Dealers:

  A broker is any person who engages in the business of buying and selling securities for the accounts of others, while a dealer buys and sells securities for their own accounts. Brokers and dealers must typically register with the SEC and are subject to specific regulations.

  • Broker-dealers must preserve all communications relating to their business, and the SEC has recently charged numerous broker- dealers for using unofficial

    “off-channel” communications

    that were not preserved.

  • Under section 15(g) of the Exchange Act of 1934, broker-dealers must maintain policies and procedures to prevent the misuse of nonpublic information obtained in their work.

  • Further, in 2019, the SEC adopted new standards of conduct for broker-dealers serving retail investors through Regulation Best Interest (or Reg BI).

    Regulation Best Interest

    requires broker-dealers to act in the best interest of their customers through four “component obligations,” which include required disclosures, a duty of care in recommending securities, an obligation to address conflicts of interest, and written policies and procedures designed to ensure compliance.

• Investment Advisers

  : The SEC regulates investment advisers under the Investment Advisers Act of 1940. The Advisers Act generally defines an "investment adviser" as any person or firm that: (1) for compensation; (2) is engaged in the business of; (3) providing advice, making recommendations, issuing reports, or furnishing analyses on securities, either directly or through publications.  Many investment advisers are required to register with the SEC, and they are subject to specific rules designed to protect their investor clients.

  • Most importantly, the Advisers Act incorporates an antifraud provision that requires investment advisers to treat their customers fairly and honestly. Accordingly, the SEC regularly penalizes advisers who misappropriate funds, fail to disclose conflicts of interest and hidden fees, or misrepresent their performance.

  • Investment advisers must also maintain certain customer records.

• Clearing Agencies & Exchanges

  : Clearing agencies and exchanges facilitate the trading of securities by counterparties. A clearing agency typically acts as an intermediary by serving as a central counterparty or a central depository, while an exchange operates a marketplace that brings together counterparties. Both clearing agencies and exchanges must register with the SEC and comply with specific regulatory requirements.

• Securities-Based Swaps Dealers:

  The Dodd-Frank Act granted the SEC jurisdiction over

  “security-based swaps,”

  which generally means any contract or transaction based on the value of a single security or loan, a narrow-based security index, or the occurrence or nonoccurrence of an event related to a single issuer of a security or the issuers of securities in a narrow-based security index.  Examples of securities-based swaps include single-name

  credit default swaps (CDS)

  , single-name

  total return swaps (TRS)

  , and CDS and TRS based on a narrow securities index.

  • The SEC has promulgated extensive regulations governing the conduct of security-based swaps dealers, which generally include any firm holding itself out as a dealer in security-based swaps, making markets in security-based swaps, or regularly entering security-based swaps for their own account.  Among other things, security-based swap dealers are subject to registration, collateral and margin requirements, and mandatory transaction reporting.

• Credit Rating Agencies:

  Dodd-Frank also established a new regulatory regime for Credit Rating Agencies or Nationally Recognized Statistical Rating Organizations (“NRSROs”).  Under Section 938 of Dodd-Frank and SEC Rule 17g-8, credit rating agencies must clearly define and consistently apply credit scores for all types of securities for which they are used.  They must also comply with rules prohibiting conflicts of interest and requiring the retention of certain records relating to their determination of credit ratings.

The SEC is generally required to maintain the confidentiality of whistleblowers, and typically, the SEC is able keep the identity of the whistleblower confidential throughout its investigation. Whistleblowers may also submit information to the SEC anonymously, as long as an attorney represents them. The Dodd-Frank Act also protects SEC whistleblowers from employer retaliation, including firing, demoting, suspending, threatening, harassing, or discriminating against whistleblowers who provide information to or assist the SEC. Whistleblowers who are retaliated against for their whistleblowing may sue for reinstatement, back pay, and other damages. These protections apply whether or not a whistleblower receives an award, as long as the whistleblower had a reasonable belief that a violation of  SEC laws or regulations occurred or would soon occur. The SEC has also brought numerous enforcement actions against companies that attempt to stop whistleblowers from reporting misconduct.