The story so far:
The Atlanta Journal-Constitution investigated Larry Gray and his Gray & Co. in 2013 after he convinced four of the area’s biggest public pension systems to invest $80 million in a fund created and owned by the company. Those investments locked in a 1-percent management fee for a minimum of 10 years, and raised concern about the apparent conflict of interest in the company peddling its product to pensions it is paid to advise.
The AJC also reported that Gray was paying off $425,000 in federal tax liens and a $1 million legal settlement at the time he was pitching the fund locally. The lawsuit was filed by a long-time friend, who had accused Gray of fraud. None of those debts were disclosed to federal and state regulators, the newspaper’s investigation found.
The next year, the newspaper reported that the SEC was investigating Gray’s firm for its work with Pontiac, Mich., and New Haven, Conn. In Connecticut, the SEC was looking into whether Gray & Co. received loans from two companies in which the New Haven police and fire pension invested, and whether those loans were disclosed to the pension boards. In Pontiac, the SEC scrutinized whether Gray disclosed his company’s ownership in an investment fund it recommended to that board.
The U.S. Securities and Exchange Commission has put the financial adviser for some of metro Atlanta’s largest pension systems on notice of pending sanctions for violations of federal and state securities laws.
In response, Larry Gray, founder of the financial advising firm Gray & Co., has sued the federal agency. The lawsuit says the SEC is demanding a "draconian" settlement that would risk hurting not only him and his company but also the Georgia public pensions that invested tens of millions of dollars in a fund the company created and owned.
Gray’s suit contends that the SEC hearing process is unfair and unconstitutional and seeks to have the case moved to federal court. In a recent letter to clients, Gray says the SEC case involves public pension investments made in a Gray & Co. fund that, in turn, invested in underlying hedge funds, private equity and real estate.
No one from Gray & Co. would agree to be interviewed for this story. But Gray’s attorney, Terry Weiss, said the SEC’s administrative hearing process gives the agency a “home-cooked advantage.”
“There, the SEC makes its own one-sided rules and ensures that a respondent is not afforded the normal protections of a court of law — no jury of his peers, no guaranteed rights to obtain evidence necessary to mount a defense, no meaningful judicial review,” Weiss wrote in an email to the newspaper.
An SEC spokesman declined comment. But the agency has noted, in a case making similar arguments, that its decisions can be appealed to federal court.
Gray & Co. was the subject of an Atlanta Journal-Constitution investigation in 2013, just months after state law changed to allow public pensions to invest in so-called alternative funds, like the one by Gray's company. Alternatives had been off limits because they are considered more risky than traditional investments like stocks and bonds. They do, however,offer an opportunity for higher returns.
Gray & Co. recommended its own fund to three Atlanta pension systems and the MARTA pension board while it served as their adviser on the best places to invest money, the newspaper found.
All told, the four pensions invested a combined $80 million, which guarantees the company a 1-percent annual management fee — $800,000 per year — for a minimum of 10 years. The company can earn millions more if the investments bring high earnings to the pension systems.
The company’s revenue from those investments are in addition to the fees it was collecting for investment advice. That arrangement raised concern about the apparent conflict of interest in the company advising the pensions to invest in products that it owns and from which it will profit.
Subsequently, Gray resigned as adviser to the three Atlanta pensions, citing media coverage of his firm's dual roles. But the pension systems' investments are locked in to the company's fund.
Gray’s firm continues to be the investment adviser to MARTA and to some other public pensions, including Fulton County Schools and the Fulton-DeKalb Hospital Authority, which operates Grady Hospital. Gray & Co. pitched its alternative fund to both the school district and the hospital authority, but neither invested in it.
“We’re carefully monitoring what’s going on,” said Lewis Horne, an attorney for the hospital authority.
The lawsuit contends that the SEC’s investigation concerns whether Gray, the company and co-chief executive Bob Hubbard complied with the 2012 Georgia law allowing public pensions to diversify into alternative investments.
That law stipulates, among other things, a minimum number of investors and a maximum percentage of public money that can be placed in alternative fund. Some of those safeguards were not met by the Gray & Co. fund when it was still open to investors in 2013, the AJC found.
A 2014 federal securities filing shows the same number of investors and approximately the same amount of money in the fund.
Late last summer, the SEC indicated it had reached a preliminary finding that federal securities laws had been violated, and that the violation was intentional, according to the lawsuit.
“The SEC’s primary theory of liability was — and indeed still is — that Gray Financial, Mr. Gray and Mr. Hubbard violated the Investment Advisers Act … by offering for sale to Georgia-based clients, an alternative investment fund that the SEC alleges is not in compliance with its interpretation of the new Georgia pension law,” the lawsuit says.
A spokeswoman from Gray said the company’s belief is that investments are within the state law. “It is really important to note that this law has yet to be interpreted by the courts or through any authoritative source,” she said.
Attorney Weiss said any sanctions imposed by the SEC in this case would be “stepping into the shoes of the Georgia courts and legislature.”
The lawsuit is one of several around the county in recent months challenging the SEC’s authority to impose sanctions through administrative hearings. The suits argue, among other things, that the hearings favor the agency because administrative law judges, not juries, make decisions, and the rules of evidence in federal court don’t apply.
In one such lawsuit, the SEC replied in court documents that administrative law judgment don’t issue final decisions — only the commission does that — and that adverse decisions can be taken to the federal court of appeals. It called the suits efforts to thwart the agency’s enforcement and adjudicatory authority over alleged securities violations.
The SEC’s ability to levy sanctions through the administrative hearing process expanded in 2010, when the Dodd-Frank Wall Street Reform and Consumer Protection Act passed into law.
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