SEC Sues Louisiana Fund Firm for Hiding Mortgage-Linked Loss

A Louisiana hedge fund firm hid $32 million in losses tied to investments backed by residential mortgages as prices collapsed in 2008, U.S. regulators said.

Walter Morales instructed employees at his Baton Rouge- based firm Commonwealth Advisors Inc. to conduct a series of manipulative trades between funds they advised to conceal losses after investing in the riskiest slices of a collateralized debt obligation known as Collybus, the Securities and Exchange Commission said today in a lawsuit filed at federal court in Louisiana.

Commonwealth clients, which included pension funds and individual investors, were sustaining heavy losses as mortgage markets began to decline in 2007 and rating firms began to downgrade securities with lower credit quality, the SEC said. Rather than come clean with its investors, Morales directed employees to execute more than 150 deceptive trades between two hedge funds they managed at prices below its own valuation for those securities.

After the trades were conducted, Morales instructed an employee to mark the securities at fair market value, creating a fraudulent $19 million gain for the acquiring hedge fund at the expense of the funds that sold, the SEC said. Morales falsely represented that the transactions were for a legitimate business purpose and at prevailing market prices, according to the complaint.

‘Deserve Better’

“Morales and Commonwealth Advisors concealed significant hedge fund losses from investors, including pension fund investors, instead of owning up to them and facing the consequences,” SEC Enforcement Director Robert Khuzami said in a statement. “Investors put their fundamental trust in the hands of their investment adviser, and they deserve better than being manipulated and lied to through deceptive trades and phony documents.”

Frederick Tulley, an attorney for Morales and Commonwealth, said his clients intend to fight the SEC’s claims.

“We seriously dispute the SEC’s version of what happened,” Commonwealth said in an e-mailed statement. “We plan to vigorously defend the action and we are confident that, in the end, the decisions made by Commonwealth and its management will be vindicated in the courts.”

To contact the reporter on this story: Joshua Gallu in Washington at jgallu@bloomberg.net

To contact the editor responsible for this story: Maura Reynolds at mreynolds34@bloomberg.net

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