SMH Capital of Houston, Texas was fined $450,000 by the Financial Industry Regulatory Authority (FINRA) for soft dollar, capital introduction and commission sharing violations in connection with its prime broker and soft dollar services for hedge funds. The soft dollar violation arose out of SMH’s payment from a soft dollar account for a hedge fund of $325,000 directly to the fund manager to reimburse payments for “consulting services” and “research expense reimbursement.” SMH failed to identify what services had been provided and by whom, nor did SMH ask for a copy of the underlying invoice or backup documentation. The commission sharing issue arose from a hedge fund operated by two SMH registered representatives who used SMH as the fund’s prime broker.
The fund’s private placement memorandum and agreement with its marketing agent and SMH stated that the registered representatives would not share in commissions from the fund’s trading. Notwithstanding this, SMH and the registered representatives agreed that the two registered representatives would share in the bonus pool derived in part from this hedge fund’s commissions. As part of its capital introduction service, SMH personnel prepared and disseminated hedge fund sales material that failed to adequately disclose the risks inherent in hedge fund investing. Further, these materials were not approved by a principal or maintained in SMH’s files for the required three years.