LJM Funds’ Management: E-mails Uncovered by the SEC Reveal Managers’ Campaign of Misinformation
The SEC alleges in a May 2021 complaint that LJM Funds Management, along with LJM Preservation and Growth (a.k.a P&G Fund), suffered losses exceeding $1 billion because of a risky trading strategy. The regulator further alleged that two portfolio managers, Anthony Caine and Anish Parvataneni, fraudulently misled investors regarding the funds’ underlying risks. In a separate order, the SEC alleges that LJM’s Chief Risk Officer, Arjuna Ariathurai, repeatedly misled investors and the P&G Board about LJM’s risk management practices.
Following this billion-dollar loss, LJM liquidated its funds’ assets. Daniel Michael, Chief of the Enforcement Division for Complex Financial Instruments Unit, said in a statement, “This case demonstrates the critical importance of fund advisers being truthful and transparent with investors about how they manage risk.”
How Did LJM Funds Management Intend to Make Money?
LJM hoped to capitalize on volatility in the market by using a “short-term volatility” strategy. This strategy posed a significant risk for multiple reasons:
- The short-term strategy involved selling options contracts. Options are contracts that allow the investor to buy or sell a share at a certain price by a specified deadline. These options were specifically for futures contracts. Following a decline in the S&P futures market, LJM would lose money.
- This strategy utilized margin accounts to buy futures. Margin accounts use borrowed money to invest. During periods of high volatility, future exchanges might increase margin requirements. When that happens, the margin account owners have no choice but to meet their demands.
- A period of high volatility led to the LJM funds’ downfall – something the fund managers allegedly knew or should have known was a possibility. Once the funds lost $1 billion, they had to liquidate the rest of their positions to meet margin requirements.
LJM’s Misleading Statements Regarding Risk
Parvataneni and Caine allegedly told investors that LJM Management funds were “risk-centric” rather than “return-centric.” This narrative, the SEC alleges, helped increase the funds’ value from $450 million to $1.3 billion in approximately two years.
Caine also allegedly told investors that he had hedged the portfolios, protecting them from a decline in the market. But by 2018, those hedges were no longer in place. Emails between Caine and other managers indicate that they knew this was the case.
In 2017, during a period of low volatility, the SEC alleges that Caine and Parvateneni assured investors that they would maintain a “consistent risk profile.” Instead, the SEC complaint alleged that they continued to expose the fund to increased levels of risk in order to achieve their monetary goals.
When volatility hit the market in February 2018, the funds lost $1 billion, or 80% of their value, over just two trading days. Unfortunately, investors allegedly did not know that their investment had the potential for such tremendous losses. $1 billion was nowhere near the “worst-case scenario” that LJM managers had allegedly presented to investors.
LJM’s Allegedly Misleading Stress Tests
LJM frequently fielded questions from investors about the “worst-case scenarios” for their options trading strategy. Allegedly, in a 2016 email to CRO Arjuna Ariathurai, Caine stated, “[t]he immediate straight answers to these questions are ugly …. Real ugly. Hell, I would run.”
Instead of providing straight answers, however, LJM allegedly represented that they had performed historical “stress tests” that demonstrated worst-case scenarios. The historical stress tests replicated the market conditions during major crashes, such as the 2008 financial crisis. The SEC alleges that LJM did perform historical stress tests, but those tests did not support the numbers the fund provided to investors.
LJM allegedly stated to investors that in the worst-case scenario, the P&G Fund would lose 20%. The SEC alleges that the 20% estimate does not come from a historical stress test, but rather a doubling of P&G’s worst single-day performance. At the time, P&G’s worst day had seen a loss of 9%. Fund managers allegedly doubled that number and rounded up to reach their 20% estimate.
What’s Next for Investors?
Investors and investment advisers have sued the Fund to try to recover their investments. Their experience serves as a cautionary tale: Investors who do not want to take on risk should avoid funds with complex trading strategies. The use of margin accounts is a red flag that an investor might carry more risk than the average investor can tolerate. And as always, if returns seem too good to be true, they probably are.
If you have lost money on an LJM investment, you should contact Kurta Law today. Call 212-658-1502 or email jkurta@kurtalawfirm.com.