SEC Enforcement Action Against Hedge Fund Manager

On March 22, 2013, the Securities and Exchange Commission (“SEC”) announced charges against Houstonbased hedge fund manager, George R. Jarkesy Jr., and his firm, John Thomas Capital Management (“JTCM”). Jarkesy has been accused of defrauding investors in two hedge funds by inflating the value of the funds’ assets and charging bloated management and brokerage fees.

The SEC filed an order instituting administrative proceedings against Jarkesy and the CEO of JTCM’s brokerage firm, Thomas Belesis. The SEC alleges Jarkesy inflated valuations of the funds’ assets, causing investors to pay excess management and incentive fees. According to the SEC, Jarkesy used fund assets to engage the services of stock promoters to create unsustainable, artificial spikes in the prices of two micro‐cap stocks in which the funds were heavily invested. The funds then recorded these temporary gains and used them to offset write‐downs of other more illiquid holdings. Additionally, Jarkesy is alleged to have paid Belesis excessive brokerage fees in instances where no such fees were warranted. Further, the SEC alleges that Jarkesy misled investors to believe he, as the funds’ manager, was the sole investment decision maker when, in fact, Belesis would occasionally take over this role and direct capital from the funds towards a company in which his own firm was heavily invested. Moreover, in an effort to legitimize his firms operations, Jarkesy lied to investors about the identities of the firm’s auditor and primary broker by insisting the fund worked with reputable service providers such as KPMG and Deutsche Bank.

The serious charges brought against Jarkesy and JTCM signal that many hedge fund managers have not dedicated the necessary resources to adhere to the stringent requirements set forth by recent legislation. With passage of the Dodd‐Frank Act in July 2010, the SEC was given the power to more easily bring a claim against directors and officers for aiding and abetting a securities law violation. Prior to the Dodd‐Frank Act, the SEC had to prove a director or officer had actual knowledge of a federal securities law violation in order to hold the director or officer liable. The Dodd‐Frank Act substantially decreased the SEC’s burden of proof by proving the director or officer was “reckless” in not knowing of the violation. In effect, the SEC is now willing and able to pursue claims against directors and officers not for perpetrating frauds, but for making a mistake.

The SEC’s Office of Compliance Inspections and Examinations (“OCIE”) has named valuation practices as one of its areas of focus in both investment advisor and investment company examinations, and the SEC’s Fiscal Year 2012 Financial Report listed the “valuation of investments that are privately placed, thinly‐traded, or otherwise difficult to value as a high‐risk activity” being focused on by the Enforcement Division.

Houlihan Capital has found that the following best practices and procedures of hedge fund and private equity funds can help meet greater investor, auditor and SEC regulation and scrutiny:

  • Adoption of written/documented valuation policies and procedures;
  • Improving internal systems for retaining and monitoring fund holdings data;
  • Establishing an internal pricing committee;
  • Maintaining an advisory board or committee;
  • Continuous investment monitoring; and
  • Appointing an independent third‐party valuation provider.

Houlihan Capital can prepare and review a fund’s valuation policies and provide clients with independent valuations of assets ranging from single investments to multi‐class portfolios. The firm has a history of working closely with regulators, auditors, third‐party administrators, investors, and some of the world’s largest private investment funds.

For more information regarding Fair Value Best Practices and Implementation, please see Houlihan Capital’s white paper on Fair Value Best Practices and Implementation.

Houlihan Capital is a leading, solutions‐driven valuation, financial advisory and boutique investment banking firm committed to delivering superior client value and thought leadership in an ever‐changing landscape. The firm has extensive experience in providing objective, independent and defensible opinions of value that meet accounting and regulatory requirements. Our clients include some of the largest asset managers around theworld, and private equity funds, hedge fund advisors, fund administrators, and other asset management firms benefit from Houlihan Capital’s comprehensive valuation and financial advisory services. Houlihan Capital is a Financial Industry Regulatory Authority (FINRA) and SIPC member, committed to the highest levels of professional ethics and standards.

For more information on independent third party valuation services, please visit, contact Paul Clark ( at 312‐450‐8656.

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