Enforcement News: SEC Obtains Emergency Relief To Halt An Affinity Fraud That Raised Nearly $130 Million

• Posted on: Oct 18 2023

By: Jeffrey M. Haber

Affinity fraud is a type of investment fraud. In this form of fraud, the person committing the fraud preys upon members of an identifiable group, such as a religious or ethnic community, the elderly, or a professional group. The promoter of an affinity fraud frequently is – or pretends to be – a member or a good friend of the group. The fraudster often enlists respected members of the community or religious leaders from within the group to disseminate information about the scheme by convincing them that a fraudulent investment is legitimate and in their best interests. Many times, those leaders become unwitting victims of the fraudster’s scam.

Affinity fraud exploits the trust and friendship that exist in group of people who have something in common. Because of the tight-knit structure of many groups, it can be difficult for regulators or law enforcement officials to detect an affinity fraud. Victims often fail to notify authorities or pursue their legal remedies and instead try to work things out within the group. This is particularly true where the fraudsters have used respected community or religious leaders to convince others to join the investment.

Many affinity scams involve Ponzi schemes or pyramid schemes, where new investor money is used to make payments to earlier investors to give the illusion that the investment is successful. New investors are induced to invest in the scheme and existing investors are lulled into believing their investments are profitable. Unfortunately, as is often the case, the promoter of the scheme steals the investor’s money for personal use. Both types of schemes depend on an unending supply of new investors – when the inevitable occurs, and the supply of new money stops, the scheme collapses, and investors lose most or all of their money.

On October 16, 2023, the Securities and Exchange Commission (“SEC”) announced (here) that it obtained a temporary restraining order, asset freeze, and other emergency relief to stop an ongoing fraud targeting the Indian American community that raised nearly $130 million since April 2021. 

According to the SEC, defendants¹ raised more than $89 million from more than 350 investors for investments in purported venture capital funds that the Founders managed through Nanban Ventures and more than $39 million from 10 investors that invested directly in the three other entities controlled by the Founders. The SEC alleged that the Founders overstated the profitability of the investments and paid investors at least $17.8 million in fictitious profits that were actually payments pursuant to their Ponzi scheme. The SEC further alleged that defendants misrepresented Krishnan’s expertise and success using his “GK Strategies” options trading method. According to the SEC, Krishnan claimed in a YouTube video that he achieved returns of “more than a hundred percent,” and Nanban Ventures claimed in its venture capital funds’ private placement memorandums that Krishnan would manage the funds to generate returns that would “consistently overperform the S&P 500 Index.” The SEC maintained that the actual trading returns using GK Strategies were, with limited exceptions, lower than the returns of the S&P 500 index, lower than the percentage returns that Krishnan claimed in YouTube videos, and negative on numerous occasions.

Commenting on the complaint, Gurbir S. Grewal, Director of the SEC’s Division of Enforcement, stated: “We allege that the defendants engaged in a large-scale affinity fraud that targeted hundreds of investors, largely from the DFW-area Indian American community. Through allegedly false promises of unrealistic returns and lies about the success of their investing strategies, the defendants raised nearly $130 million from investors. But in classic Ponzi fashion, the complaint alleges, the defendants used investor money to make fake profit distribution payments, while allegedly siphoning off millions in investors’ funds for themselves. We urge all investors to confirm the credentials of supposed investment professionals and to view investments that advertise outsized returns skeptically.”

In addition to the foregoing, the SEC alleged that Nanban Ventures and the Founders violated their fiduciary duties as investment advisers by causing the venture capital funds to invest more than $70 million into companies the Founders controlled. According to the SEC’s complaint, the Founders commingled that money with more than $39 million from at least 10 other investors and then used the commingled funds to, among other things, make Ponzi payments and pay themselves at least $6 million.

Commenting on the affinity fraud aspect of the allegations, Eric Werner, Director of the SEC’s Fort Worth Regional Office, stated: “As we allege in our complaint, the defendants used the ‘Nanban’ branding, a word that means ‘friend,’ when raising nearly $130 million from investors of mostly Indian descent. However, the defendants have been the furthest thing from ‘friends’ to their investors, raising money and paying false returns on a foundation of lies.”

The SEC charged all defendants with violating the antifraud provisions of Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder. The SEC also charged the Founders and Nanban Ventures with violating the antifraud provisions of Section 206 of the Investment Advisers Act of 1940 and Rule 206(4)-8 promulgated thereunder. The SEC seeks permanent injunctions, disgorgement of ill-gotten gains with prejudgment interest, and civil penalties from all defendants. The SEC also seeks an order prohibiting the Founders from acting as officers or directors of a public company.

As copy of the SEC’s complaint can be found here.

Footnote

1. The SEC named as defendants Nanban Ventures LLC (“Naban Ventures”), its three founders Gopala Krishnan (“Krishnan”), Manivannan Shanmugam, and Sakthivel Palani Gounder (collectively, the “Founders”), and three other entities that the Founders control.

Jeffrey M. Haber is a partner and co-founder of Freiberger Haber LLP.

This article is for informational purposes and is not intended to be and should not be taken as legal advice.