The SEC Has a History of Punishing Advisors for Others' Missteps

The SEC's ALJ found that the employees were not responsible for and did not have ultimate authority over the fact sheets and portfolio slides used with investors. However, the SEC later reversed its own ALJ, and the State Street employees appealed that reversal to a federal appellate court. 

On Dec. 9, the appellate court ruled in favor of the State Street employees, finding that they had not committed securities fraud. In finding against the SEC, the appellate court concluded that the advisor employee's presentation of "a slide containing sector breakdowns labeled 'typical,'" while other, more specific information was available, was not an "extreme departure from the standards of ordinary care."

The SEC's difficulty in holding investment advisors liable for intentional or reckless securities fraud for information and statements made or provided by others failed to stop the SEC from bringing its recent case against Virtus for information provided by its sub-adviser F-Squared. However, perhaps in recognition of the possible legal challenges, the SEC claimed that Virtus's conduct was merely negligent rather than reckless or intentionally fraudulent.

The SEC's action against Virtus shows why investment advisors should take no comfort from the SEC's setbacks in court such as in the State Street matter. Undaunted by those setbacks, the SEC will modify its legal theories and shop for receptive judges in pursuit of its efforts to hold advisors responsible for information provided to investors whether the advisors created the information or "made" the statements that included the information and whether or not the advisors were reckless in or intentionally deceitful in doing so.