First Ever Marketing Rule Enforcement Case Illustrates “Fair and Balanced” Standard

Summary:

• On August 21st, 2023, the U.S. Securities and Exchange Commission (“SEC” or “Commission”) filed a settled administrative proceeding with a FinTech¹ investment adviser for conduct related to marketing of hypothetical performance, use of hedge clauses, crypto custody, crypto personal trading, and unauthorized LOA signatures.
• The FinTech adviser was charged with violations of Investment Adviser section 206(2) but also of rules 206(4)-1 and 206(4)-7.
• While the adviser charged was primarily focused on retail clients and had certain unique facts, this case creates an important precedent for Marketing Rule violations particularly around the meaning of the Marketing Rule’s fair and balanced standard.

Allegations and Conduct:

1. Violations of the Marketing Rule / “Fair and Balanced” Standard –

• The SEC alleged that:
  1. The FinTech adviser marketed a 2,700% annualized return for one of its strategies but failed to disclose that the number was extrapolated from only a three-week period.
  2. The FinTech adviser’s 2,700% return was hypothetical because no account achieved such a return, but the FinTech adviser had insufficient policies and procedures to ensure that hypothetical performance would be appropriate to its audience of retail investors.
  3. The FinTech adviser inadequately disclosed other material facts concerning its performance because, in order to read the disclosures, investors would have had to click on a link.
     • Analysis:
       • While part of this conduct was charged under the Advisers’ Act anti-fraud provisions, this case also creates a roadmap for future Marketing Rule cases and exams with less egregious facts. Specifically, this case sets forth a data point that can be used by examiners to interpret the meaning of the new Marketing Rule’s “fair and balanced” standard.

2. Crypto Custody –

• Parts of the firm’s website touted that the assets were custodied by a third party. In fact, the crypto assets were not custodied at the disclosed firm.
  • Analysis:
    • The SEC did not charge the FinTech adviser with violations of the Custody Rule thereby avoiding the question of whether this adviser’s crypto assets were securities.

3. Hedge Clauses –

• The FinTech firm’s investment advisor agreements contained what appeared to be a hedge clause disclaiming the adviser’s fiduciary duty.
  • Analysis:
    • The actual clause cited by the Commission appeared to be more of an indemnification clause common in many advisory agreements and bore little resemblance to hedge clauses commonly used in private equity and hedge funds. The retail nature of the investors was likely a key consideration in the Commission bringing this charge around a clause with this wording.

4. Crypto Personal Trading –

• In some of its advisory agreements, the FinTech adviser stated that to mitigate conflicts of interest associated with crypto assets, the firm implemented personal trading policies for its internal staff. However, no such policies were ever implemented.
  • Analysis:
    • The SEC did not charge the Code of Ethics rule or Section 204A thereby avoiding the question of whether this adviser’s crypto assets were securities.

¹ Titan Global Capital Management USA, LLC; Administrative Proceeding File No. 3-21569