U.S. securities regulators brought charges today against an investment advisory firm and its owner for allegedly misleading investors in a collateralized debt obligation (CDO).
The U.S. Securities and Exchange Commission (SEC) announced charges against Harding Advisory LLC and its owner, Wing Chau, alleging that they compromised their own judgment as collateral manager to a CDO in order to accommodate the trading strategy of a hedge fund firm, Magnetar Capital LLC, whose interests were not necessarily aligned with the debt investors.
The SEC alleges that the firm agreed to give Magnetar a say in selecting and acquiring a portfolio of subprime mortgage-backed assets to serve as collateral for debt instruments issued to investors in the CDO. And, it says, these rights, which were not disclosed to investors, led Harding to select assets that went against the judgement of its own analysts.
“Chau understood that Magnetar was interested in investing as the equity buyer in CDO transactions, and that Magnetar’s strategy included “hedging” its equity positions in CDOs by betting against the debt issued by the CDOs,” says the SEC. “Because Magnetar stood to profit if the CDOs failed to perform, Chau knew that Magnetar’s interests were not necessarily aligned with investors in the debt tranches of [the CDO], whose investment depended solely on the CDO performing well.”
The SEC also alleges that Harding and Chau breached their advisory obligations to several other CDOs for which they served as investment managers. In doing so, the commission says that they violated securities laws. None of the allegations have been proven.
“A collateral manager’s independent selection of assets is an important selling point to potential CDO investors,” said George Canellos, co-director of the SEC’s division of enforcement. “Investors had a right to know that Harding and Chau had chosen to accommodate the interests of others and abandon their own obligations to act in the best interests of the CDO they advised.”