Hightower Securities, the broker-dealer of Hightower, a prominent registered investment advisor aggregator based in Chicago, has agreed to pay more than $353,000 to settle allegations of misconduct related to its sales of two alternative funds between 2016 and 2018.
Failure to Disclose Material Financial Information
Inadequate Supervision and Due Diligence
Finra also alleged that Hightower Securities failed to adequately supervise its registered representatives, resulting in the sale of the LJM Preservation & Growth Fund on its platform without a proper review structure in place for performing due diligence on the fund and reviewing the recommendations made by its representatives.
Consequences of Negligence
During February 2018, before the fund experienced a substantial market event leading to an 80% drop and ultimate liquidation, Hightower representatives sold $190,000 worth of LJM to three clients. Finra highlights this as an example of the potential harm caused by inadequate supervision and due diligence.
Commitment to Best Practices and Regulatory Standards
In response to the settlement, a representative from Hightower expressed satisfaction in resolving these matters and reiterated their commitment to following fiduciary best practices and regulatory standards when managing clients’ investments. Hightower Securities accepted Finra’s findings without admitting or denying the allegations.
Finra Investigation Background
Finra initiated the investigation into Hightower as part of its broader inquiry into firms that sold GPB Capital and LVM funds to retail clients. GPB Capital and its executives currently face civil and criminal fraud charges.
Hightower Securities’ resolution of these allegations marks a step towards ensuring greater transparency and accountability in the financial services industry.
The Concerns Surrounding GPB Capital and Hightower Securities
In its 2015 examination priorities letter, Finra expressed concern over alternative investments, specifically questioning whether investors would fully understand how these products would react to different market conditions. Additionally, the letter raised concerns about whether brokerage firms would thoroughly review these funds before offering them to clients, especially if there was an existing relationship with the issuer.
GPB Capital, formed in 2013, aimed to acquire companies across various sectors and bundle them into alternative investment vehicles. Hightower, a reputable company, carefully vetted one of these funds, which focused on car dealerships, and included it in its alternative investments platform in 2015.
However, a little over two years later, GPB Capital filed a lawsuit against a former partner, claiming that the partner failed to acquire specific car dealerships. In response, the former partner countersued, accusing GPB of defrauding its clients. This legal battle is still ongoing.
In 2018, GPB Capital made a significant announcement to its sales partners, including Hightower. They stated that they were registering the automotive fund and others with the SEC. Prior to this, the funds were available only to accredited investors and lacked registration. The registration process involved a forensic audit, which caused delays in the filing of their financial statements.
Despite being aware of this situation, Hightower allegedly continued to invest clients in the automotive fund without disclosing the missing financial statements—a crucial piece of information that clients should have been made aware of, according to Finra.
Finra states in its settlement letter with Hightower: “Hightower Securities did not disclose to customers that Automotive Portfolio had not timely filed its audited financial statements with the SEC or provide reasons for the delay. This delay and its reasons were material information that should have been disclosed.”
It seems that these issues involving GPB Capital and Hightower Securities have raised concerns about transparency and communication within the industry. As the legal proceedings continue, it remains to be seen how this situation will unfold.
LJM’s Risky Options Strategy: A Cautionary Tale
LJM found themselves in hot water recently due to their involvement in a risky options strategy. The strategy centered around “selling volatility,” aiming to profit from the gap between investors’ predictions of market volatility and the actual volatility experienced by the market. Specifically, LJM utilized a combination of call and put options with the S&P 500 futures index.
One important detail to note is that LJM did not hold any underlying stock as part of their strategy. The prospectus explicitly disclosed the associated risks, highlighting the limited upside potential and the unlimited downside risk inherent in uncovered options.
The success of LJM’s options strategy relied heavily on a volatility index. In February 2018, this index experienced its largest one-day increase ever, more than doubling in value. Consequently, the short options positions sold by LJM skyrocketed, leading to the fund losing approximately 80% of its value over a mere two-day period. By the end of March, the LJM fund had been liquidated and dissolved, leaving investors who held shares during the index surge facing an 80% loss.
In response to Finra’s allegations, Hightower has reached a settlement that includes a censure, a $100,000 fine, and restitution for clients who invested in GPB Capital ($133,600) and LJM ($119,577.40). Furthermore, the firm has committed to certifying to Finra that it has addressed the identified issues with its alternative investment platform and has implemented a new, improved supervisory system.
This cautionary tale serves as a reminder of the importance of understanding the risks associated with complex investment strategies. Investors should always conduct thorough due diligence and seek professional advice before engaging in such ventures.