In an administrative action, the SEC charged a New York hedge fund, its adviser, and its managing director with illegal trading in connection with at least eighteen public offerings. The SEC alleged that Colonial Fund LLC, Colonial Investment Management LLC, and Cary G. Brody violated Rule 105 of Regulation M under the Securities Exchange Act of 1934 when they used shares purchased in at least eighteen registered public offerings to cover short sales that they made during a restricted period.

In general, Rule 105 seeks to prevent manipulative trading by short sellers prior to registered public offerings and to promote offering prices that are based upon open market prices, determined by supply and demand, rather than by artificial forces. At the time of the alleged violations, Rule 105 generally prohibited short sellers, regardless of intent, from using securities purchased in registered public offerings to cover short sales that occurred during the five business days before the pricing of the offerings (the restricted period). The Colonia Fund realized profits from their illegal trading because it typically sold shares short during the restricted period at prices that were higher than what it would pay a short time later when it purchased shares in the registered public offerings.

The SEC also alleged that, in an effort to conceal their illegal trading, Colonial Fund often engaged in sham market trades after covering Colonial Fund's restricted period short positions. For example, Colonial Fund, after covering, entered riskless cross trades to buy and sell the same quantity of shares, at the same price, and from the same broker. According to the SEC, Brody, acting through Colonial Investment, directed, authorized, supervised, and profited from the illegal trading alleged in the complaint.

Please click for a copy of the administrative order.