Three advisors and their two Houston-based investment advisory firms have been charged by the SEC with earning $2 million from thousands of transactions that were made without clients’ full knowledge or consent.
The firms and three executives are charged with engineering thousands of principal transactions through their affiliated brokerage firm without informing their clients of the potential conflict of interest. In a principal transaction, an investment advisor acting for its own account or through an affiliated broker-dealer buys a security from a client account or sells a security to it. Advisors are required to disclose these transactions to clients in writing and obtain their consent.
The SEC alleges that investment advisors Parallax Investments LLC and Tri-Star Advisors engaged in thousands of securities transactions with their clients on a principal basis through their affiliated brokerage firm without making the required disclosures to clients or obtaining their consent beforehand.
Parallax’s owner John P. Bott II and Tri-Star Advisors CEO William T. Payne and President Jon C. Vaughan were collectively paid more than $2 million in connection with these trades, the SEC says.
“By failing to disclose principal transactions and obtain consent, Parallax and Tri-Star Advisors deprived their clients of knowing in advance that their advisors stood to benefit substantially by running the trades through an affiliated account,” says Marshall S. Sprung, co-chief of the SEC Enforcement Division’s Asset Management Unit.
The transactions took place between 2009 and 2011, according to the SEC’s orders, which institute administrative proceedings. The SEC charges that Bott executed at least 2,000 undisclosed principal transactions. In each transaction Parallax’s affiliated brokerage firm Tri-Star Financial used its inventory account to purchase mortgage-backed bonds for Parallax clients and then transferred the bonds to the applicable client accounts.
According to the SEC’s orders, Payne and Vaughan executed more than 2,000 undisclosed principal transactions during the same time period without the consent of clients. Tri-Star Financial also used its inventory account to purchase mortgage-backed bonds for clients.
The SEC also says Parallax and its chief compliance officer, F. Robert Falkenberg, failed to comply with the custody rule that requires firms to undergo certain procedures to safeguard and account for client assets.