The US Securities and Exchange Commission (SEC) has announced that UBS has agreed to pay $19.5m to settle charges that it made false or misleading statements and omissions in offering materials provided to US investors in structured notes linked to a UBS proprietary foreign exchange trading strategy.
According to the US regulator, UBS misled US investors in structured notes tied to the V10 Currency Index with Volatility Cap by falsely stating that the investment relied on a “transparent” and “systematic” currency trading strategy using “market prices” to calculate the financial instruments underlying the index, when undisclosed hedging trades by UBS reduced the index price by about 5%.
The precedent-setting case involving mis-statements and omissions by a structured notes issuer shows that the US regulator continues to pursue wrongdoing to better protect investors, said Mary Jo White, chairperson of the SEC, in a statement. It is critical that large, global financial institutions have and implement policies and procedures to ensure that all facts relevant to investors are known to individuals responsible for disclosures, she said.
The SEC’s investigation, conducted by staff from its complex financial instruments unit, found that between December 2009 and November 2010, approximately 1,900 US investors bought approximately $190m of structured notes linked to the V10 index with the bank lacking an effective policy, procedure, or process to make the individuals with primary responsibility for drafting, reviewing and revising the offering documents for the structured notes in the US aware that UBS employees in Switzerland were engaging in hedging practices that had or could have had a negative impact on the price inputs used to calculate the index.
In addition, UBS did not disclose that it took unjustified markups on hedging trades, engaged in hedging trades with non-systemic spreads, and traded in advance of certain hedging transactions; while the unjustified markups on hedging trades resulted in market prices not being used consistently to calculate the V10 index, said the SEC. UBS did not disclose that certain of its traders added spreads to the prices of hedging trades largely at their discretion, according to the US watchdog.
As a result of the undisclosed markups and spreads on these hedging transactions, said the SEC, the V10 index was depressed by approximately 5%, causing investor losses of approximately $5.5m.
This case demonstrates the importance of being truthful in offering materials to be used in the offer and sale of structured notes to retail investors, said Andrew Ceresney, director of the SEC’s division of enforcement.
Without admitting or denying the SEC’s findings, UBS agreed to cease and desist from committing or causing any similar future violations, to pay disgorgement and prejudgment interest of $11.5m, to distribute $5.5m of the disgorgement funds to V10 investors to cover the total amount of investor losses and to pay a civil monetary penalty of $8m.
“UBS is pleased to have resolved this legacy matter with the SEC,” said Karina Byrne, head of media relations at UBS Americas. “UBS is firmly focused on the future with an unwavering commitment to upholding a culture of doing the right thing and reducing operational risks.”
Between $40bn and $50bn of structured notes are registered with the SEC per year, with many of those notes sold to “relatively unsophisticated” retail investors, according to the SEC.
US watchdogs have been cracking down on deficiencies in compliance with suitability and supervision requirements for sales of structured products to retail investors since adding structured products to its list of examination priorities at the beginning of this year.
On August 24 the SEC’s Office of Compliance Inspections and Examinations issued a risk alert warning broker-dealers to improve compliance following an analysis of sales of structured products during 2011 and 2012 after finding many deficiencies. In May the US Financial Industry Regulatory Authority (Finra) fined broker-dealer LPL Financial $11.7m for failing to have “adequate systems and procedures” in place to supervise the sales of complex products, including exchange-traded funds, mutual funds, variable annuities and non-traded real estate investment trusts.
According to SRP data, UBS holds a 4% share of the US structured products market from $1.7bn in sales, putting the Swiss bank in ninth place on the leaderboard for this year. The bank closed 2014 with a 7% market share from $3.3bn of sales.
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