Top hedge funds and private equity firms including Citadel, KKR & Co., and Blackstone Inc. are discussing ways to blunt penalties by the Securities and Exchange Commission stemming from their use of disappearing messaging apps.
With the regulator stepping up efforts to police Wall Street’s electronic communications, the firms have held talks about how to design a legal strategy and what potential settlements could look like, according to people familiar with the discussions. Their goal is to minimize any fines and ensure that if they reach a settlement, no firm is singled out for a harsher penalty, said the people, who weren’t authorized to speak publicly.
“And while Citadel has talked with the group, Ken Griffin’s Miami-based fund is still prepared to fight the regulator in court if necessary, the people said. Citadel is pushing for firms to resist, arguing that the rules requiring brokerages to keep records don’t apply to hedge funds and private equity,” the people said.
The firms are seeking to limit fallout from a sweeping probe into whether financial companies failed to preserve work texts sent by dealmakers and executives on their personal devices and messaging apps. The SEC is asserting that the once-widespread use of phones and apps like WhatsApp, Telegram, and Signal broke the agency’s rules and made investigating securities crimes significantly harder.
Representatives for KKR, Blackstone, Citadel, and the SEC declined to comment.
Each firm will have to negotiate with the regulator on its own, and the SEC has yet to accuse, sue, or settle with any private equity firm or hedge fund about the matter. The regulator could ultimately decide against bringing actions against them.
Under SEC rules, many financial firms have to maintain records of all business communications to track how their transactions were negotiated in case authorities later need to look into possible misconduct. But messages on apps weren’t tracked by employers, and in some cases were set to self-delete after they were sent. This left no way for authorities to recover the content.
Over the past three years, regulators have fined Wall Street banks more than $2.8 billion for the practice, with JPMorgan Chase & Co. paying $200 million and Bank of America Corp. fined $225 million.
The SEC investigation is complicated by the agency’s diverging rules for banks, hedge funds, and private equity. Banks register with the SEC primarily as brokers, while hedge funds and private equity usually register as investment advisers and have to meet an easier set of rules. Lawyers and trade groups for the investment firms have argued that this means the SEC has no basis to censure or fine the firms for the disputed apps.
Still, money managers don’t get a free pass; they have to maintain records on matters such as investment recommendations. Since the probe began, firms across the industry have limited staff use of texting and personal devices for business.
It is unlikely any firm tries to preemptively sue the SEC, instead waiting for the regulator to enforce a subpoena or drop their probe. Bloomberg reported in September that Citadel was gearing up for a potential legal battle against the regulator.
SEC fines for similar behavior can vary widely based on the severity or breadth of the misconduct. Firms can also get credit for self-reporting a violation. That was the case at Perella Weinberg, which paid just $2.5 million tied to the use of messaging apps.
Faced with resistance from some of the wealthiest and most aggressive institutions in the world, the SEC could decide it’s best to settle with them instead of engaging in a costly and time-consuming fight.
But Gurbir Grewal, the SEC’s enforcement chief, has regularly pointed to the messaging sweep as one of his top priorities continuing into 2024.
“I’ve heard the criticism and the commentary that it’s low-hanging fruit, that it’s just a cash cow for the SEC, and that’s just nonsense,” Grewal said at a January conference. “These are some of the most important cases we brought.”
