The Securities and Exchange Commission (SEC) has charged RBC Capital Markets for misconduct in the sale of "unsuitable investments" to five Wisconsin school districts.
The government agency also cited RBC Capital's inadequate disclosures on the risks that are associated with those investments.
The SEC’s order instituting administrative proceedings said that RBC Capital marketed and sold to trusts created by the school districts $200 million of credit-linked notes that were tied to the performance of synthetic CDOs.
The school districts contributed $37.3 million of district funds to the investments with the rest of the money coming from funds borrowed by the trusts. The sales happened inspite of the considerable concerns within RBC Capital regarding the suitability of the product for municipalities such as the school districts.
The investment banking arm's marketing materials did not adequately explain the risks that are associated with the investments.
As a result, RBC Capital agreed to settle the SEC’s charges by paying $30.4 million that will be distributed in different amounts to the school districts through a Fair Fund.
Last month, the SEC also charged Stifel, Nicolaus & Co. as well as a former senior executive with fraudulent misconduct because of the same sale of the CDO investments to the school districts.
“RBC failed Securities 101 when it sold complex derivatives that were unsuitable to five school districts without fully informing them of the risks,” said Robert Khuzami, director of the SEC’s division of enforcement.
“RBC Capital did not provide these school districts with full and accurate information regarding the risks of these complex structured products," added Kenneth. Lench, chief of the SEC division of enforcement’s structured and new products unit. "We are pleased that today’s settlement will result in a significant recovery by the school districts.”
The SEC’s order stated that the five school districts are Kenosha Unified School District No. 1, Kimberly Area School District, School District of Waukesha, West Allis-West Milwaukee School District, and School District of Whitefish Bay.
The board members and business managers for the school districts had no prior experience buying CDOs or instruments tied to these structures. Compared to the typical investors in instruments tied to CDOs, the school districts were not sophisticated buyers. The SEC’s order finds that the school districts did not have enough knowledge and sophistication to appreciate the nature of such investments, an SEC release said today.
RBC Capital agred to the entry of the SEC’s order without admitting or denying any of its findings. The order chastised RBC Capital and ordered the firm to stop committing or causing any violations of Sections 17(a)(2) and 17(a)(3) of the Securities Act of 1933, which, among other things, does not allow obtaining money by means of an untrue statement of material fact and engaging in any deal, practice, or course of business that operates as a fraud or deceit upon the buyer. RBC Capital agreed to pay disgorgement of $6.6 million, prejudgment interest of $1.8 million, and a penalty of $22 million.
The SEC’s investigation was jointly done by the enforcement division’s municipal securities and public pensions unit led by Elaine Greenberg and Mark Zehner as well as the structured and new products unit led by Kenneth Lench and Reid Muoio.
The investigative attorneys were Kevin Guerrero, Keshia Ellis and Ivonia Slade in Washington D.C. and Jeffrey Shank and Anne McKinley along with litigation counsel Steven Seeger and Robert Moye in the Chicago Regional Office. The broker-dealer examinations team of Marianne Neidhart, Scott Kalish, George Jacobus and Daniel Gregus of the Chicago Regional Office provided assistance with the investigation.
Other SEC enforcement actions related to the offer and sale of CDOs include Goldman Sachs, ICP Asset Management, JPMorgan, and Wachovia Capital Markets.