Recently, the US Securities and Exchange Commission (SEC) charged and settled with hedge fund Galois Capital Management LLC over a private fund managed by the firm that primarily invested in crypto. The SEC charges are related to Galois Capital allegedly failing to comply with client asset safeguarding requirements, particularly crypto that the regulator labeled as securities. As a result, Galois Capital agreed to pay a $225,000 civil penalty to settle the charges, which will be distributed to harmed investors.
Violation of Custody Rule Provisions
The SEC found that from July 2022, Galois Capital violated the Investment Advisers Act’s Custody Rule by not securing its assets with a qualified custodian. The firm held the digital assets in online trading accounts on platforms like FTX, which were not qualified custodians. This violation led to approximately half of the fund’s assets under management being lost when FTX collapsed in November 2022. Furthermore, the SEC’s order revealed that Galois Capital misrepresented redemption notice periods, claiming a five-business-day notice requirement while allowing some investors to redeem with shorter notice.
In response to the SEC charges, Galois Capital consented to cease further Advisers Act violations, accept the censure, and pay the imposed civil penalty without admitting or denying the findings. Galois Capital co-founder Kevin Zho disclosed that roughly $40 million in funds were locked up in FTX after the exchange froze customers’ withdrawals. Subsequently, the hedge fund shut down its operations and sold its claims on FTX for roughly 16 cents on the dollar. Additionally, Galois Capital announced a payment plan consisting of paying clients up to 90% of the funds not retained on FTX, with the remaining 10% being withheld until the hedge fund’s auditing process is finalized.
Corey Schuster, Co-Chief of the SEC Enforcement Division’s Asset Management Unit, emphasized the importance of compliance with investor protection regulations. By failing to comply with Custody Rule provisions, Galois Capital exposed investors to risks that fund assets, including crypto assets, could be lost, misused, or misappropriated. Schuster reiterated that the SEC will continue to hold advisers accountable for violating their core investor protection obligations, signaling a commitment to regulatory enforcement and market integrity.
The SEC’s charges against Galois Capital Management highlight the regulatory scrutiny facing firms operating in the crypto investment space. The consequences of non-compliance with investor protection regulations can be severe, leading to financial penalties, reputational damage, and potential closure of operations. It is essential for investment firms to prioritize regulatory compliance and safeguarding of client assets to maintain trust and credibility in the market.
Leave a Reply