If you’re a Hollywood screenwriter looking for a “ripped from the headlines” story on Wall Street, you could do a lot worse than this one.
First you need to accept the notion that Wall Street is not a tangible geographical location, but rather an abstract concept. And this metaphorical street is in various states of opulence and decay as it winds its way through the cities, fields and meadows of our financial system.
In this case, Wall Street meanders all the way to Wayzata, Minnesota, home of the 14-acre “Big Woods” preserve, the last remnants of a forest that once covered much of the state. It’s also the home of Archer Advisors LLC, a hedge fund that recently clung to the last remnants of its assets, according to the U.S. Securities and Exchange Commission.
First a word on how hedge funds make money, so bear with us if you’ve heard this before. The firms typically collect a small portion, say 2 percent, of investors’ assets and a larger portion, say 20 percent, of the investment returns they make with those assets. These fees have allowed many hedge-fund managers to earn what we’ll sarcastically call a “comfortable” living.
The year 2008 wasn’t so comfortable for many investors, and the assets in Archer’s Equity Fund shrank from $26 million to $11 million, according to an SEC complaint last week. With much fewer assets to base a management fee on, and no returns to base a return fee on, a hedge fund manager may be tempted to ask: isn’t there another way to make money off this sucker?
This is where the plot thickens, as they say in Hollywood. Hedge funds collect what are called “soft dollars,” which are basically rebates from trading fees charged by brokerages. A brokerage will charge, say, 5 cents per each share traded, and pay, say, 3.5 cents of that back to the fund. But there are hard rules on what you can do with these soft dollars.
An acceptable use of soft dollars by a hedge fund manager is to pay for research reports that may inspire investment ideas. An unacceptable use of soft dollars would be to funnel hundreds of thousands of dollars to the guy in the office next to you, whose job it is to market the fund and place trades, and then label it as “research.” But that’s exactly what Archer’s Steven Markusen allegedly did with his buddy Jay Cope, according to the SEC.
Cope’s lawyer Daniel Scott and Bill Mauzy, attorney for Markusen did not return calls seeking comment.
The plot gets even thicker. While Markusen secretly used the soft dollars to pay Cope’s salary in the guise of research, he doubled down on the allegedly phony research and reimbursed the firm for the same expenses from the fund’s assets — basically making investors pay for the imaginary research twice, the SEC claims. All told from 2008-2013, investors in the funds were allegedly bilked out of more than $1 million in bogus expenses and Markusen spent his share of the loot on things like country club dues, boarding school tuition and a Lexus, the SEC claims.
To keep the soft dollars flowing, Markusen and Cope began to day-trade aggressively and the commissions paid to the funds jumped more than 600 percent from $5,204 in March 2013 to $35,825 in April 2013, according to the SEC. (This would be a good part in the script to write in a fast-paced montage scene showing the frantic trading, set to a catchy rock tune. Since this is the Minneapolis area, maybe The Replacements or Prince would be best.)
The duo had one more trick up their sleeves, according to the SEC, and it’s what’s known as “painting the tape.” In the final seconds of trading on the last session of the month, the pair is accused of routinely placing multiple buy orders to pump up the price of CyberOptics Corp., an electronics company currently valued at $76 million. Since the small company was the Archer fund’s largest holding, an inflated price on the final day of the month would help boost the returns and hence management fees, according to the SEC. It allegedly happened in at least 28 months between 2010 and 2013.
Anyway, screenwriters, there’s your headline, so rip away. Just remember to pay for your research.
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