Trust but Verify….

 

5x_Beckmann-Linda-075Linda F. Beckmann, CSCP
Managing Member
Focus 1 Associates LLC

 

The Securities and Exchange Commission (“Commission”) fined Cantella & Co. (“Cantella”) $100,000 in an administrative proceeding released February 23, 2016 for using a third-party model’s performance data without verifying its accuracy.

Cantella advertised F-Squared Investments, Inc.’s (“F-Squared”) strategy by negligently relying on F-Squared’s materially inflated, and hypothetical and back-tested, performance track record that F-Squared misrepresented.  The Commission deemed that Cantella took insufficient steps to confirm the accuracy of F-Squared’s historical data and other information contained in the materials. In addition, Cantella did not obtain sufficient documentation that substantiated F-Squared’s advertising claims in the materials. As a result of this inaccurate compilation of historical data by F-Squared, Cantella advertised the strategy by using hypothetical and back-tested historical performance that was inflated substantially over what performance would have been if F-Squared had applied the signals accurately.

iStock_000016171603Illustra_HiResAs a result,

Cantella violated the advertising rule (Rule 206(4)-1(a)(5) of the Investment Advisers Act of 1940) by publishing, circulating, and distributing advertisements that contained untrue statements of material fact.
Cantella also did not make and keep true, accurate, and current records or documents necessary to form the basis for or demonstrate the calculation of the performance or rate of returns that it circulated and distributed as required under the books and records rule (Rule 204-2(a)(16)).

In the release, the Commission stated that, “Cantella knew or should have known that F-Squared’s AlphaSector strategy purported performance contained in Cantella’s advertising materials was exceptional over the 2001-2008 period in that it significantly outperformed the S&P 500 Index and purported to involve actual results notwithstanding that the AlphaSector strategy was not launched until 2008.” With regard to the performance claims, Cantella included a general statement in its AlphaSector advertisements indicating that third-parties were the source of the performance data and that Cantella did not guarantee the accuracy. Cantella relied solely on documents making performance claims that were prepared and provided by F-Squared without any other substantiation. One of the documents Cantella relied on was a Morningstar report provided by F-Squared that stated the information in the report was obtained from third-party sources and had not been independently verified by Morningstar. Having taken insufficient steps to confirm the accuracy of the AlphaSector performance data and not having obtained sufficient documentation that would have substantiated F-Squared’s advertised performance and performance-related claims in Cantella’s advertising materials, the Commission determined that Cantella failed to have a reasonable basis to believe that AlphaSector’s performance was accurate when included in its own advertisements for clients considering the strategy. In marketing its own advisory services, the Commission found that Cantella never made or kept sufficient records or documents to form the basis or demonstrate the calculation of the historical performance or rate of return of the strategy. [Administrative Proceeding]

Bottom line….you must present factual information that you can easily substantiate with supporting books and records. And, apparently, you cannot rely on disclosures to alleviate your responsibilities of confirming third-party performance data that you present in your marketing materials.

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