SEC File Action Against Company Accused of Offering Security-Based Swaps to Retail Investors

The Securities and Exchange Commission said it has brought an enforcement action against Sand Hill Exchange for illegally offering complex derivative products to retail investors. The regulator said that the company, based in in Silicon Valley, was offering and selling security-based swaps contracts to investors who did not qualify as “eligible contract participants” (ECPs) according to the law.

Sand Hill Exchange was started as an online business not unlike a fantasy sports league. It dealt with the valuation of private start up companies in the area. However, its founders Elaine Ou and Gerrit Hall ended up revising the company business model numerous times, with Sand Hill eventually inviting people to use real funds to purchase and sell contracts referencing companies that have not yet had their initial public offering.

To fund accounts, Sand Hill solicited investors to use dollars or bitcoins. Users, however, were not asked about their financial holdings nor were offerings restricted to those who held a certain number of assets. Instead, anyone could qualify.

It was the Dodd-Frank Act that put into place two integral requirements for security-based swaps offered or sold to retail investors who fail to meet the eligible contract participant standards. First, there has to be a registration statement for the offering, and second, the contracts must be sold on a national securities exchange. The requirements give the retail investors full access to key information about the offering while limiting such transactions to platforms that are only subject to the highest regulatory scrutiny.

The SEC claims that Sand Hill Exchange offered the security-based swaps contracts to retail investors without ensuring that the Dodd-Frank requirements were met. Fortunately, the violations were identified soon after the offering process started. The regulator said that the platform was closed before any investors were harmed.

Without denying or admitting to the findings, Sand Hill, Ou and Hall consented to cease and desist from future violations of specific sections of the Securities Act and Securities Exchange Act of 1934. The company will pay a $20,000 penalty.

Meantime, the SEC has issued an Investor Alert cautioning against fantasy stock trading websites touting real returns. Its Office of Investor Education and Advocacy said that this kind of website may violate federal securities laws, which protect investors from swaps market-related abuses.

Security-Based Swaps
Security-based swaps involve any agreement, transaction, or contract with a value that is determined by the performance or value of another financial product, characteristic, or event. Federal securities laws’ anti-fraud provisions preside over all security-based swaps transactions. These include provisions are meant to provide investor protections in cases where the sale or offering of a security-based swap involves persons that do not qualify as eligible contract participants.

Eligible contract participants are certain kinds of entities and individuals that have over $10 million invested on a discretionary basis. Whether or not you are an ECP will impact what kind of legal protections you are guaranteed.

At Shepherd Smith Edwards and Kantas, LTD, LLP it is our job to help high net worth individual investors, retail investors, and institutional investors recoup their losses stemming from financial fraud.

Dodd-Frank Act

Read the SEC Order (PDF)

Investor Alert: Beware of Fantasy Stock Trading Websites Offering Real Returns, Investor.gov, June 17, 2015