Securities Industry Commentator by Bill Singer Esq

September 28, 2020

Georgia Man Sentenced to Prison for Running Ponzi Scheme (DOJ Release)

Head Of Investment Management Firm Sentenced To 85 Months In Prison In Connection With $18 Million Pre-IPO Securities Fraud Scheme (DOJ Release)

SEC Charges Film Producer, Rapper, and Others for Participation in Two Fraudulent ICOs (SEC Release)

SEC Charges Top Executive of California Microcap Company for Misleading Claims Concerning COVID-19 Test and Financial Statements (SEC Release)

SEC Charges Former Mining Executive with Making False Statements (SEC Release)

SEC Issues Two Whistleblower Awards for High-Quality Information Regarding Overseas Conduct (SEC Release)

June Bug vs. Hurricane:* Whistleblowers Fight Tremendous Odds and Deserve Better (SEC Statement by Commissioner Allison Herren Lee)

Bloomberg's Tom Schoenberg regales us with a tale based upon the fading discipline of good, old-fashioned, well-researched journalism. He reports about a multi-year federal investigation into spoofing, and meticulously explains the origins, the government's investigation, the charges, and the convictions. In part, Schoenberg explains that:

Early on, some of Nowak's traders were attempting to counter the algos by placing a single large order opposite the one they wanted filled, according to prosecutors. The Bear traders' twist was to place multiple orders, at different prices, that in aggregate were substantially larger than the genuine order - a technique the government calls layering. The orders, made in rapid succession after the genuine order, would be canceled as soon as the genuine order was filled. Think of it like trying to sell a hamburger. You conjure a mob in front of your burger joint, creating the perception of demand. Once a real customer steps up and buys the burger, you make the mob vanish.
I. Self-Regulatory Organization's Statement of the Terms of Substance of the Proposed Rule Change 

FINRA is proposing to amend the Code of Arbitration Procedure for Customer Disputes ("Customer Code") and the Code of Arbitration Procedure for Industry Disputes ("Industry Code") (together, "Codes") to modify the current process relating to the expungement of customer dispute information. 

Specifically, the proposed rule change would amend the Codes to: (1) impose requirements on expungement requests (a) filed during an investment-related, customer initiated arbitration ("customer arbitration") by an associated person, or by a party to the customer arbitration on-behalf-of an associated person ("on-behalf-of request"), or (b) filed by an associated person separate from a customer arbitration ("straight-in request"); (2) establish a roster of arbitrators with enhanced training and experience from which a three-person panel would be randomly selected to decide straight-in requests; (3) establish procedural requirements for expungement hearings; and (4) codify and update the best practices of the Notice to Arbitrators and Parties on Expanded Expungement Guidance ("Guidance") that arbitrators and parties must follow.3 In addition, the proposed rule change would amend the Customer Code to specify procedures for requesting expungement of customer dispute information arising from simplified arbitrations. The proposed rule change would also amend the Codes to establish requirements for notifying state securities regulators and customers of expungement requests.

Two Former Deutsche Bank Traders Convicted of Engaging in Deceptive and Manipulative Trading Practices in U.S. Commodities Markets (DOJ Release)
After a two-week trial in the United States District Court for the Northern District of Illinois, a jury found James Vorley and Cedric Chanu (two former employees of Deutsche Bank) guilty of three counts and seven counts, respectively, of wire fraud affecting a financial institution. As alleged in part in the DOJ Release:

[V]orley and Chanu, who were employed as traders at Deutsche Bank-Vorley based in London; Chanu based in London and Singapore-engaged in a scheme to defraud other traders on the Commodity Exchange Inc., which was an exchange run by the CME Group.  The defendants defrauded other traders by placing fraudulent orders that they did not intend to execute in order to create the appearance of false supply and demand and to induce other traders to trade at prices, quantities, and times that they otherwise would not have traded.  Specifically, the evidence showed that the defendants engaged in the practice of "spoofing," which means that they placed orders on the exchange which, at the time the orders were placed, they did not intend to execute, all for the purpose of deceiving other market participants.

Former Financial Planner Sentenced To Federal Prison For Investment Fraud And Failure To File Tax Returns (DOJ Release)
Former financial planner James A. Young III pled guilty in the United States District Court for the Northern District of Florida to wire fraud and failure to file tax returns; and he was sentenced to 51 months in prison and ordered to pay $402,207.71 in restitution to two dozen victims and $125,107.33 in restitution for unpaid taxes to the Internal Revenue Service. Separately, the SEC barred Young from being involved in the securities industry, including associating with any broker, dealer, investment advisor, or transfer agent and participating in any offering of a penny stock.As alleged in part in the DOJ Release:

Between 2010 and 2014, while working as a financial planner, Young solicited his clients and others to invest money in false "side investments," including real estate investments for property he did not own and investments in an oil and gas company with which he had no relationship. Young presented false documents to potential investors and falsely claimed that he was personally invested in order to convince them to invest. Almost all of Young's victims were between the ages of 55 and 90. For those who agreed to invest, Young simply pocketed their money, which totaled over half a million dollars, for his own personal use. In some instances, Young used money obtained from investors to pay back other investors. He fraudulently claimed the funds represented returns or interest on their investments in order to keep the scheme going. Young also failed to file his federal tax returns for 2012, 2013, and 2014.

Mount Laurel, NJ Man Arrested and Charged With Almost 30 Counts of Fraud in Connection with Two Business Schemes (DOJ Release)
In an Indictment filed in the United States District Court for the Eastern District of Pennsylvania, Michael Salerno was charged with twenty-three counts of wire fraud and six counts of mail fraud. As alleged in part in the DOJ Release:

[B]etween September 2016 and at least November 2018, the defendant operated a series of businesses, including Black Diamond Forex, L.P., BDF Trading, L.P., Advanta Capital Markets, Inc., and Advanta FX, each of which purported to be in the business of trading foreign currencies. Using a variety of misrepresentations and omissions, Salerno induced victims to pay advance fees-up-front payments of typically more than $1,000-in order to be hired by Salerno's company. He told the victims that, upon being hired, he would make available to them a pool of $10 million which they could trade on the foreign currency market, and take a generous cut of any profits. Each of these representations was completely false.

To make his fraudulent activities appear legitimate, Salerno held himself out as a sophisticated and successful businessman. According to the Indictment, the defendant claimed to have managed a real estate empire, a portion of which he claimed to have recently sold for $10 million to fund the currency-trading venture. He also claimed that he had been a profitable currency trader. None of this was true, either. In fact, he declared bankruptcy twice, most recently in 2015, and had been evicted multiple times from rental homes for failure to pay rent. In 2005, he pleaded guilty to federal tax charges and was sentenced to 21 months in prison. He failed to disclose any of this to the aforementioned victims before taking their money. Instead, Salerno allegedly collected more than $300,000 in advance fees and used the money for his own benefit.

The defendant's currency-trading scheme came to a halt when this Office opened a criminal investigation and the Commodity Futures Trading Commission sought and obtained an injunction against Salerno and his businesses in 2018. However, Salerno allegedly turned immediately to a second scheme. Also according to the Indictment, between May 2018 and least December 2019, Salerno operated a company called AccuOne Financial, Inc. AccuOne purported to be in the business of assisting clients in ridding themselves of unwanted automobile leases. It also purported to offer a different set of clients, whose personal credit precluded them from obtaining an automobile lease, access to automobile leases, low interest vehicle loans, and credit repair services. But Salerno failed to do as promised, instead ripping off both sets of clients. According to the Indictment, the defendant took the unwanted vehicles from the first set of clients, made few - if any - of the required lease payments, and then gave the vehicles to the second set of clients who could not obtain their own leases, in exchange for substantial monthly fees. The predictable result of this house of cards-style scheme was that the clients who wanted to get out of their leases either continued to make monthly lease payments for cars they no longer had, or suffered substantial damage to their credit. And the clients who leased cars from AccuOne often had them repossessed without warning. As for Salerno, he netted several hundred thousand dollars from this scheme alone.

Georgia Man Sentenced to Prison for Running Ponzi Scheme (DOJ Release)
Syed Arham Arbab pled guilty in the United States District Court for the Middle District of Georgia to one count of securities fraud, and he was sentenced to 60 months in prison plus three years of supervised release, and ordered to pay $509,032.12 in restitution. As alleged in part in the DOJ Release:

[A]rbab admitted that from May 2018 through May 2019, while enrolled at the University of Georgia campus in Athens, Georgia, he solicited investors, many of whom were his fellow students, to invest in his entities, Artis Proficio Capital Management and Artis Proficio Capital Investments (collectively, APC), which he told investors were "hedge funds."  Arbab admitted that he convinced approximately 117 investors in Georgia and other states to invest funds with him and APC, and that he made material misrepresentations to those investors in order to induce them to invest and maintain their investments with him.

Arbab admitted that he made a number of misrepresentations in order to persuade victims to invest with him, including misrepresenting the funds' returns, the number of investors, the total funds invested and the nature of the investment plays being made.  He also admitted fabricating account statements.  Victims invested approximately $1 million with Arbab in the course of his scheme, with Arbab falsely promising rates of returns as high as 22 percent or 56 percent, when his overall returns were nowhere near these amounts.  Arbab offered some investors a seemingly risk-free "guarantee" on the first $15,000 invested, and the majority of investors, especially those who were students or younger professionals, invested less than this amount, believing that even if Arbab's investment choices proved unsound or the market behaved unpredictably, they would still be paid back their entire principal investment.  

Arbab admitted that knew he did not have the liquid capital to make good on these guarantees when he made them, but he did not disclose this to his investors.  Further, when Arbab learned that some prospective investors were UGA football fans, he told them that a famous NFL player and UGA alumnus was an investor in the fund, when in fact the football player had never invested with APC.  Arbab also misrepresented that he was an MBA candidate at UGA's Terry College of Business. In fact, ARBAB had applied to and been rejected by UGA's MBA program and was operating the fund primarily from his fraternity house as an undergraduate.

Arbab further admitted that he spent investor funds on personal expenses, including clothing, shoes, retail purchases, fine dining, alcoholic beverages, adult entertainment and interstate travel, including spending thousands of dollars gambling during three trips to Las Vegas in 2018 and 2019.

Head Of Investment Management Firm Sentenced To 85 Months In Prison In Connection With $18 Million Pre-IPO Securities Fraud Scheme (DOJ Release)
The founder and manager of Elm Tree Investment Advisors LLC ("ETIA"), Fred Elm a/k/a "Frederic Elmaleh," pled guilty in the United States District Court for the Southern District of New York to conspiracy to commit securities fraud and securities fraud. Elm was sentenced today to 85 months in prison plus three years of supervised release, and he was ordered to forfeit $8,318,840.07, and to pay restitution in the amount of $12,426,293.11.ETIA's Chief Operating Officer Ahmad Naqvi previously pled guilty to one count of securities fraud conspiracy. As alleged in part in the DOJ Release:

From at least June 2013 through December 2014, ELM and Naqvi engaged in a scheme to defraud investors in funds that ELM and Naqvi created and controlled at ETIA, where ELM was the founder and manager, and Naqvi was the chief operating officer.  ELM and Naqvi raised more than $18 million from over 50 investors in four limited partnerships for which ETIA acted as the fund manager:  Elm Tree Investment Fund, LP; Elm Tree Emerging Growth Fund, LP; Elm Tree e'Conomy Fund, LP; and Elm Tree Motion Opportunity, LP (collectively the "Elm Tree Funds"). 

ELM and Naqvi falsely represented that the Elm Tree Funds used investor capital to purchase shares in privately held technology companies before their IPOs.  These companies included Twitter, Alibaba, Uber, Square, Pinterest, and GoDaddy.  Moreover, ELM and Naqvi falsely represented that they had access to these pre-IPO shares because of their relationships with leading venture capital firms, such as Kleiner Perkins Caufield & Byers, Benchmark Capital, and Silver Lake.  In truth and in fact, ELM and Naqvi did not invest in the pre-IPO shares of these companies and did not have relationships with these venture capital firms.

ELM and Naqvi comingled the approximately $18 million that was invested in the Elm Tree Funds in a single investment account and then invested only a portion of the money, approximately $7.1 million.  At no point did any of the Elm Tree Funds return a profit.  Instead, for example, between January 2014 and November 2014, the Elm Tree Funds lost approximately $3.9 million in poor trading.

Moreover, of the investor funds that ELM and Naqvi did not lose in securities trading, ELM routinely converted investor funds to his own use in the form of cash withdrawals and to pay personal expenses, including to purchase a multimillion-dollar home, high-end furnishings, and other personal items, such as jewelry, daily living expenses, and luxury automobiles, including a Bentley, a Maserati, and a Range Rover.

The conversion of investors' funds was contrary to the representations that ELM and Naqvi made to investors concerning their and ETIA's fees.  ELM and Naqvi falsely represented that they and ETIA would take a two percent annual management fee plus a performance fee of 20 percent of any profits that the Elm Tree Funds earned.  In truth and in fact, ELM converted investor money that far exceeded the two percent management fee.  Moreover, because the Elm Tree Funds never returned a profit, ELM, Naqvi, and ETIA were not entitled to any profit-based performance fees.

ELM and Naqvi also used approximately $5.2 million of new investor funds to make payments to earlier investors in a Ponzi-like fashion.  To prevent or forestall redemptions, and continue to raise money to fund their scheme, ELM and Naqvi also generated fictitious account statements and made oral and written misrepresentations that their trading strategies were generating consistently positive returns. . . .

In the Matter of Mark Feathers (SEC ALJ Initial Decision; Initial Decision Release No. 1403; Administrative Proceeding File No. 3-15755)
As set forth in the "Summary" to ALJ James E. Grimes's Initial Decision:

I grant the Division of Enforcement's motion for summary disposition. Respondent Mark Feathers is barred from associating with a broker, dealer, investment adviser, municipal securities dealer, municipal advisor, transfer agent, or nationally recognized statistical rating organization, and from participating in an offering of any penny stock. 

In granting Enforcement's Motion for Summary Disposition and imposing Bars, ALJ Grimes offers, in part, this rationale [Ed: footnotes omitted]:

Feathers has made no assurances, sincere or otherwise, against future violations and has done nothing to show that he recognizes the wrongfulness of his conduct. To the contrary, he has tried to show that he is the victim and has done nothing wrong. As the district court noted during Feathers's sentencing hearing, Feathers was extremely litigious. The district court detailed how Feathers attacked the receiver in the Civil Case by filing a meritless bar complaint against the receiver's counsel and filing a meritless complaint against the receiver with the Chartered Financial Analyst Institute. Feathers also harassed the receiver by sending e-mails hurling "false accusations, personal attacks," and about 35 threats to bring legal action. And during his criminal case, Feathers e-mailed his counsel, four Commission attorneys, the receiver, and the receiver's counsel, threatening physical injury to anyone who uttered the word "Ponzi" and stating, "you have been able to introduce prejudice with the use of the word Ponzi in public and in hidden court pleadings. You won't get away with it again (with me at least)." Finally, during this proceeding, Feathers has continually tried to attack the basis for the district court's injunction, launching accusations at various participants in the Civil Case. In short, Feathers has shown that he does not accept the district court's judgment or responsibility for his actions. 

Feathers's refusal to accept responsibility for his actions, particularly given that his conduct was egregious and that he acted with scienter, makes it likely that he would engage in more misconduct if he were allowed to remain in the securities industry. Indeed, Feathers's occupation would present him with "opportunities for future illegal conduct." His refusal to accept responsibility and attempts to shift blame must therefore weigh heavily against him in the public-interest analysis.

at Pages 11 - 12 of the Initial Decision

SEC Charges Film Producer, Rapper, and Others for Participation in Two Fraudulent ICOs (SEC Release)
In a Complaint filed in the United States District Court for the Northern District of Georgia, the SEC charged Ryan Felton with violating Sections 5(a), 5(c), and 17(a) of the Securities Act, Sections 9(a)(1) and 10(b) of the Securities Exchange Act, and Rule 10b-5 thereunder, and with aiding and abetting FLiK and CoinSpark's violations of Sections 5(a), 5(c), and 17(a) of the Securities Act, Section 10(b) of the Exchange Act, and Rule 10b-5 thereunder. FLiK and CoinSpark are charged with violating Sections 5(a), 5(c), and 17(a) of the Securities Act, Section 10(b) of the Exchange Act, and Rule 10b-5 thereunder. Also, Chance B. White and Owen B. Smith were charged with violating Sections 5(a), 5(c), and 17(b) of the Securities Act. Further, William Q. Sparks, Jr. was charged with violating Sections 5(a) and (c) of the Securities Act. 

Sparks agreed to disgorge his ill-gotten gains plus prejudgment interest, and Sparks, White, and Smith each agreed to pay a penalty of $25,000 and to conduct-based injunctions prohibiting them from participating in the issuance, purchase, offer, or sale of any digital asset security for a period of five years. The proposed settlements are subject to court approval. Named as Relief Defendants were Felton's family members: Stephanie L. Brown, Dale W. Felton, and Jennifer Felton; and also named was Hyperion Holdings LLC, which he established,  SEC's order against T.I. requires him to pay a $75,000 civil monetary penalty and not participate in offerings or sales of digital-asset securities for at least five years. 

As alleged in part in the DOJ Release:

[T]he Securities and Exchange Commission announced charges against five Atlanta-based individuals, including film producer Ryan Felton, rapper and actor Clifford Harris, Jr., known as T.I. or Tip, and three others who each promoted one of Felton's two unregistered and fraudulent initial coin offerings (ICOs). The SEC also charged FLiK and CoinSpark, the two companies controlled by Felton that conducted the ICOs. Aside from Felton, all of the individuals have agreed to settlements to resolve the charges against them.

The SEC's complaint alleges that Felton promised to build a digital streaming platform for FLiK, and a digital-asset trading platform for CoinSpark. Instead, Felton allegedly misappropriated the funds raised in the ICOs. The complaint also alleges that Felton secretly transferred FLiK tokens to himself and sold them into the market, reaping an additional $2.2 million in profits, and that he engaged in manipulative trading to inflate the price of SPARK tokens. Felton allegedly used the funds he misappropriated and the proceeds of his manipulative trading to buy a Ferrari, a million-dollar home, diamond jewelry, and other luxury goods.

In a settled administrative order, the SEC finds that T.I. offered and sold FLiK tokens on his social media accounts, falsely claiming to be a FLiK co-owner and encouraging his followers to invest in the FLiK ICO. T.I. also asked a celebrity friend to promote the FLiK ICO on social media and provided the language for posts, referring to FLiK as T.I.'s "new venture." The SEC's complaint alleges that T.I.'s social media manager William Sparks, Jr. offered and sold FLiK tokens on T.I.'s social media accounts, and that two other Atlanta residents, Chance White and Owen Smith, promoted SPARK tokens without disclosing they were promised compensation in return.

In a Complaint filed in the United States District Court for the Northern District of California, the alleged that Arrayit Corporation's President/Chief Science Officer, Mark Schena, violated antifraud provisions of the federal securities laws. As alleged in part in the SEC Release:

[I]n March and April 2020, Schena falsely claimed that Arrayit had developed a COVID-19 blood test when it had not yet purchased materials to make a test. As alleged, Schena also falsely asserted that the test had been submitted for emergency approval, and falsely boasted to investors that there was a high demand for the test. The complaint also alleges that between October 2018 and March 2019, Schena misled investors by claiming that Arrayit was preparing to become current on delinquent periodic filings with the SEC for the first time since November 2015. According to the complaint, however, Arrayit had failed to provide the necessary documents and financial information to its independent auditor, which was unable to complete its audit of the company's financial statements for 2014 and 2015.
In a Complaint filed in the United States District Court for the District of New Mexico, the SEC alleged that Santa Fe Gold Corporation's former Chief Financial Officer, Frank G. Mueller, violated the antifraud provisions of Sections 17(a)(1) and (3) of the Securities Act and Section 10(b) of the Securities Exchange Act and Rule 10b-5 thereunder. Also, the Complaint  alleged that Mueller violated the internal controls and books and records provisions of Section13(b)(5) of the Securities Exchange Act and Rules 13a-14, 13b2-1 and 13b2-2 thereunder, and aided and abetted violations of the reporting, books and records, and internal control provisions of Securities Exchange Act Sections 13(a), 13(b)(2)(A) and 13(b)(2)(B) and Rules 12b-20 and 13a-1 thereunder.  Without admitting or denying the allegations, Mueller consented to a permanent injunction, a $50,000 civil penalty, and five-year officer and director and penny stock bars. As alleged in part in the SEC Release, Mueller allegedly made false statements that helped conceal the misappropriation of about $1 million of investor funds by the company's former Chief Executive Officer, Thomas H. Laws, and, further, that at the time of Laws' misconduct, Mueller:

became aware of numerous red flags showing that the investor funds were missing. In particular, the complaint alleges that Laws provided Mueller with inconsistent explanations about $500,000 that had purportedly been escrowed for the purchase of a silver mine. The complaint further alleges that Mueller nevertheless signed the company's annual report on Form 10-K for the year ended June 30, 2017, and the corresponding management representation letter that Santa Fe Gold provided to its independent auditor, both of which falsely represented that $500,000 had been escrowed towards the purchase of a mine.

SEC Issues Two Whistleblower Awards for High-Quality Information Regarding Overseas Conduct (SEC Release)
The SEC issued a $1.8 million Order and a $750,000 Order to two whistleblowers. As stated in part in the SEC Release:

In the first order, a whistleblower was awarded over $1.8 million for taking both personal and professional risks in reporting information through the internal compliance system at a company.  The tip revealed overseas conduct that would otherwise have been hard to detect.  The whistleblower's internal report resulted in an internal investigation at the company and a subsequent report of the findings to the SEC.  The whistleblower also provided the information to the SEC. 

In the second order, a whistleblower was awarded $750,000 for reporting securities violations occurring abroad to the SEC, which caused the SEC staff to open an investigation that resulted in a successful enforcement action. The whistleblower also reported the concerns internally. 

[I] want to be clear that this rule does contain improvements designed to address issues that have arisen in the course of the last 10 years. These improvements were the original impetus revisiting the rules. I am hopeful that they will provide substantial benefits for whistleblowers, and for our administration of the program. In particular, the new summary disposition procedures and the ability to bar individuals who make repeated, frivolous awards claims will allow staff to expend their limited resources on processing meritorious claims. Similarly, codifying the practice of treating Deferred and Non-Prosecution Agreements as covered or related actions is an appropriate and welcome measure to ensure that whistleblowers are not disadvantaged by the Commission's or the Department of Justice's choice of resolution mechanism.

Why does this matter? Because when this discretion is used, it will most likely be in exactly the circumstances posed by the 2018 hypothetical - to adjust what would otherwise have been a very large award downward (without any notice to the whistleblower or the public). We don't need this discretion to adjust a small award upward, as we have a mechanism in the new rule to do that with the new presumption applying to awards of $5 million or less. The clear concern expressed by the 2018 hypothetical and inherent in the new rule is how to adjust very large awards downward if a majority of Commissioners simply feel an award amount is "too high." This kind of determination, unlike the existing award factors, has absolutely nothing to do with the merits of a whistleblower's conduct or the value of the information she provides. In other words, the existing factors have a rational relationship to the award amount we set. The overall size of the award does not. This injects an arbitrary wildcard into what was a sensible, merits-linked calculus.
In 2015, I earned the distinction of representing the first in-house compliance officer to whom the SEC issued a whistleblower award, which was over $1 million. My client risked a long-standing industry career after realizing that the firm's management knowingly implemented a fraud upon the regulatory community designed to cover up serious misconduct. Sadly, my interaction with the SEC's Office of the Whistleblower was horrific notwithstanding that my client ultimately enjoyed a much-deserved reward. Despite the significant personal and professional risk incurred by my client in reaching out to the SEC, the whistleblower was largely responded to by OWB with an attitude of dismissiveness bordering on hostility. That was in marked contrast to the professional interaction with the Enforcement staff handling the underlying investigation. Thankfully, the SEC has taken steps to reform some of the shortcomings of its whistleblower program.