Recently, the US Securities and Exchange Commission (SEC) charged and settled with hedge fund Galois Capital Management LLC regarding a private fund managed by the firm that primarily invested in cryptocurrency. The SEC accused Galois Capital of failing to comply with client asset safeguarding requirements, particularly with regards to crypto assets that were labeled as securities. As a result, Galois Capital agreed to pay a $225,000 civil penalty to settle the charges, with the money being distributed to harmed investors.
The SEC found that Galois Capital had breached the Investment Advisers Act’s Custody Rule by not securing its assets with a qualified custodian. Instead, the firm held digital assets in online trading accounts on platforms like FTX, which were not qualified custodians. This lack of proper safeguarding 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 had misrepresented redemption notice periods to investors. While claiming a five-business-day notice requirement, the firm allowed some investors to redeem with shorter notice periods, raising questions about transparency and fairness in their operations.
In response to the SEC’s findings, Galois Capital agreed to cease further Advisers Act violations, accept a censure, and pay the imposed civil penalty without admitting or denying the allegations. Additionally, the hedge fund’s co-founder, Kevin Zho, disclosed that around $40 million in funds were locked up in FTX after the exchange froze customer withdrawals. This incident, coupled with the loss of assets and misrepresentations, led to the eventual shutdown of Galois Capital’s operations.
The case of Galois Capital Management serves as a cautionary tale for investment firms operating in the cryptocurrency space. It highlights the importance of adhering to regulatory requirements, especially concerning the safeguarding of client assets. The SEC’s actions also underscore the need for accountability and transparency in financial transactions, as failure to comply with investor protection obligations can have severe consequences.
The settlement between Galois Capital Management and the SEC sheds light on the potential risks and consequences of improper asset management practices in the cryptocurrency industry. By holding firms accountable for their actions and enforcing regulatory standards, the SEC aims to protect investors and maintain the integrity of the financial markets.
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