The SEC is continuously monitoring different transaction types to make sure they are following rules and regulations. One thing that has caught the SEC’s eye lately involves security-based swaps. Because security-based swaps are based on a security such as a stock or bond, or a credit default swap, they are subject to different rules and regulations than other types of swaps.

This is a highly regulated transaction, so it’s important that all parties involved understand and abide by SEC guidelines. That’s not always the case, however, as unregistered offers and sales of security-based swaps are becoming more and more of a concern for the SEC.

Let’s take a deeper look at security-based swaps and signs that your firm is engaging in fraudulent behavior.

The importance of registering security-based swaps with the SEC

Security-based swaps are regulated by the SEC. The 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act designated the SEC as the regulator for security-based swaps while the CFTC regulates other types of swaps. Under this act, the SEC monitors and regulates:

  • The major players in the security-based swap market
  • Trading platforms and exchanges on which security-based swaps are transacted
  • Clearing agencies that step in in the case of a default
  • Data repositories and methods for disseminating data to the public

Your firm should be registering every security-based swap with the

SEC. Doing so gives the SEC insight into the transaction to ensure they are adhering to the proposed capital, margin, segregation, and business conduct standards. If your firm is doing something different, please contact us.

What happens when unregistered security-based swaps are sold?

Failing to register security-based swaps when offering or selling is a major issue. First of all, it goes against the SEC’s process and procedure. Second, not registering the security-based swap is likely an indication that there are shortcuts being taken or other regulations not followed. Either way, it is a violation of a federal security law and needs to be taken seriously.

Here are two examples of this type of fraud in action, along with the consequences that followed:

Abra, July 2020

California-based app developers Abra and a related firm in the Philippines were found by the SEC to be offering and selling security-based swaps to retail investors without registration. The transactions were also not conducted on a registered national exchange.

Abra’s app allows individuals to enter into contracts and obtain synthetic exposure to price movements of stocks and funds through blockchain-based transactions. Abra’s app allowed users to choose securities whose performance they wanted to mirror, and the value of their contract would go up or down accordingly. However, these contracts were security-based swaps and subject to the SEC’s laws. Abra marketed its app to retail investors without taking the time to determine if the app users were eligible contract participants as defined by the securities laws. Abra faced penalties totaling $150,000 and faced a shutdown of their current app operations.

Tradenet Capital Markets, October 2020

Israeli company Tradenet Capital Markets Ltd. offered and sold security-based swaps to over 5,000 retail investors without registration and not on a registered national exchange. The day-trading education firm sold packages of materials that they claimed to be educational, but also paid investors profits from simulated trades as part of the packages.

The SEC’s investigation found that the contracts provided to fund these trading accounts were security-based swaps, yet no registration had been filed for them. Tradenet faced a cease-and-desist order and a financial penalty of $130,000 as a result.

How to spot fraud in your firm

As you can see from these examples, there are tell-tale signs you can look for that indicate your firm is engaging in fraud related to security-based swaps. The most effective way to spot fraud is to request confirmation of SEC registration of every security-based swap. If the documentation doesn’t exist, the swap is likely not registered and you should not proceed with the transaction until it has been.

Additionally, make sure all educational material that you plan to distribute to your investors is factual, accurate, and do not mislead investors.

It’s important that all security-based swaps are registered with the SEC and follow all guidelines. It’s just as important for all instances of unregistered offers/sales of security-based swaps to be reported so responsible parties can be held accountable. If you have spotted any similar behaviors in your firm, it’s important to come forward as soon as possible. The team at the DJO Whistleblower Law Group is here to help — start your whistleblower process with a confidential consultation.

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