(D) Duty to Adhere to the Investment Policies

Posted on October 16th, 2012 at 10:03 AM

An adviser may not manage a client’s money in a way that subjects the investment to greater risks than those described in the investment company’s registration statement, resulting in losses to shareholders. Similarly, an adviser is liable for investing a nonfund client’s money in a manner that exposes the client to greater risks than the client would reasonably expect and that causes the client substantial losses. For example, if the adviser invests the fund’s assets in a risky manner that is either specifically prohibited by or inconsistent with the fund’s registration statement-e.g. investing in risky derivatives without attempting to hedge the risk with offsetting position-then the adviser is liable. An adviser to a bond fund is also liable for investing its assets to achieve capital gains from changes in interest rates even though the investment company’s investment objectives do not involve capital appreciation and the company’s investment policies do not expressly permit and or disclose that the company intends to seek capital gains. Similarly, an adviser may not manage clients’ portfolios contrary to the way that disclosed to clients.


164 Strong/Corneliuson Capital Management Inc. IA-1425 (July 12, 1994); Chancellor Capital Management, IA-1447, 57 SEC Docket 2204 (Oct 18, 1994).


(C) Duty to Monitor

                In the opinion of the SEC, an adviser must inform clients who purchased a security on the basis of a recommendation of any material changes that come to the attention of the adviser that would have altered the earlier recommendation66


66 SEC Policy Statement on Future Structure of Securities Markets, CCH Fed. Sec. L. Rep., Special Rep. No. 409, 35-36 (1972).

An adviser with discretionary authority must

(1)    Manage the account in a manner directly comporting with the needs and objectives of the customer as stated in the authorization papers or as apparent from the customer’s investment and trading history; (2) keep informed regarding the changes in the market which affect his customer’s interest and act responsively to protect those interests; (3) keep his customer informed as to each completed transaction; and (4) explain forthrightly the practical impact and potential risks of the course of dealing in which the broker is engaged.67



67 Lieb v. Merrill Lynch, Pierce, Fenner & Smith, Inc. 461 F. Supp. 951, 953 (E.D. Mich. 1978) aff’d mem., 647 F. 2d 165 (6th Cir. 1981) (multiple citations omitted).


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