Gurbir Grewal, director of the SEC’s enforcement division, doubled down on recent enforcement actions during a speech last Thursday at industry group the Managed Funds Association’s legal and compliance conference in New York.
The division chief warned that employees who sign deal documents are bound to material nonpublic information rules that cover not only the companies they are directly involved with, but similar ones that may be affected by market-moving news.
Grewal pointed to the commission’s recent prosecution of Matthew Panuwat, a former business development executive at drug company Medivation. Panuwat was found civilly liable last month for using advanced information on Pfizer’s planned takeover of his firm.
A jury concluded that Panuwat used the information to purchase call options for shares of another drug company, Incyte, in anticipation of its stock price jumping on the news of Medivation’s deal. This practiced has been dubbed “shadow trading.”
Key to the SEC proving its case against Panuwat was the fact he had signed documents for his employer, which Grewal noted tied him to duties of loyalty and confidentiality.
The paperwork for material non-public information included a clause barring him from trading shares in companies beyond Medivation, the director pointed out. Grewal also said that Panuwat signed a confidentiality agreement with the drug company.
“Based on those facts, he was charged, and within two hours after a two-week trial, the jury found him liable,” he noted.
And while Grewal didn’t say it, his discussion of the case’s outcome should put sponsors on notice to be careful about shadow trading liability incurred by employees, given that signing paperwork for potential deals is table stakes in the industry.
‘We’re not pushing the bounds’
Yet, while Panuwat’s case raises questions for MNPI best practices, the director said it rests on a foundation of precedent.
“The takeaway for me from this case is not that it’s a novel insider trading theory,” he said. “It may be a novel fact pattern, but I sort of categorically push back on this notion that we’re pushing the bounds of the misappropriation here.”
Grewal elaborated on his remark by explaining the SEC had to prove that Panuwat owed duties of confidentiality and loyalty to Medivation; that he had access to information that counted as MNPI beyond his employer; and that he was in breach.
The director noted that the SEC considers insider trading in an expansive context, imploring conference attendees to keep this mind.
“We at the commission don’t take a narrow view of insider trading,” he said. “We’re looking at all the different ways in which people can abuse MNPI, ways in which they could profit from their access to MNPI. And you should be taking that same broad view, too, when you’re crafting your policies.”
Co-operation means leniency in unauthorized messaging cases
Grewal also underlined the handling of potential off-channel communications – also the subject of recent enforcement actions. His message: co-operate with the SEC in exchange for leniency.
“There’s a real benefit, a real benefit to co-operation, to self-reporting, to remediation and to co-operating during the course of our investigation,” the director said. “And the benefit of that could be reduced or no penalties depending on the facts and circumstances.”
His remarks came on the heels of the SEC’s enforcement action against private funds adviser Senvest Management. The commission found that Senvest employees used outside messaging platforms and personal texts to conduct business, actions that went against the firm’s own policy.
The New York-based hedge fund’s case is the first to only involve an investment adviser, rather than both an adviser and an affiliated broker dealer.
Grewal noted that the commission has had close to dozens of actions where – going beyond outside messaging – it acknowledged registrants’ co-operation. In exchange, he said that SEC agreed to no penalties, lower penalties and “springing penalties,” where firms can avoid fines if they implement remedial actions within a certain period.
The director noted that the commission favors self-enforcement and pro-active assistance.
“Co-operation to us means showing us that you’re self-policing, self-reporting, remediating the problem,” he said.
Grewal added that firms need to hold individuals accountable for their wrongdoing and to assist with the commission in finding documents.
The enforcement leader recapped how heightened focus over recordkeeping started in late 2021. Since then, the commission has brought almost 60 enforcement actions with cumulative penalties of around $1.9 billion, Grewal noted.
‘AI washing’ a concern
And advisers should be aware of a practice known as ‘AI washing’ in which investor materials contain falsehoods about advisers’ use of AI.
On the flipside, advisers may also exaggerate their use of AI in order to take advantage of current enthusiasm over the emerging technology; something Grewal also expressed concern about.
The commission recently brought enforcement actions against two advisers over the practice.
But AI washing isn’t Grewal’s only concern about how advisers may use the technology. He raised the risk of AI tools ‘hallucinating’ – referring to when AI tools give false assertions – and how it might affect marketing documents and other data used by firms.
Additionally, Grewal expressed concern about AI tools producing conflicts of interest that benefit firms over clients.
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