On February 12, 2015, the SEC announced that Water Island Capital LLC, an investment adviser to several alternative mutual funds, had agreed to pay a $50,000 penalty to settle SEC charges that it caused the funds it managed to violate Section 17(f) of the 1940 Act by failing to maintain certain fund assets with a qualified custodian. Specifically, the SEC order found that Water Island Capital failed to ensure that approximately $247 million in cash collateral related to fund derivative trades was maintained with the funds’ custodial bank; instead, the cash collateral was held by broker-dealer counterparties.

The SEC also found that Water Island Capital failed to implement the funds’ directed brokerage policies and procedures, which required the firm to create and maintain an approved list of executing brokers for the funds, as well as to monitor the funds’ compliance with the directed brokerage policies and procedures. The SEC order stated that Water Island Capital failed to create the list and failed to maintain documentation reflecting monitoring of the funds’ directed brokerage policies and procedures.