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UPDATE 3-Hedge fund settles SEC case over whistleblower retaliation

(Adds comments from SEC enforcement director and whistleblower's lawyer)

WASHINGTON, June 16 (Reuters) - U.S. securities regulators flexed their new powers to protect whistleblowers on Monday, in civil charges accusing a hedge fund advisory firm of improperly demoting its former head trader after he reported concerns about certain conflicted trades.

The Securities and Exchange Commission's case against Albany, New York-based Paradigm Capital Management and owner Candace King Weir marks the first time the agency has ever brought charges over whistleblower retaliation - a new authority Congress bestowed on the agency in 2010.

Paradigm and Weir agreed to settle the charges and pay $2.2 million, the bulk of which will go back to harmed investors.

A spokesman for Paradigm and Weir said they were "pleased to resolve this matter and have it behind us."

Weir also settled charges that she conducted conflict-ridden trades between Paradigm and a brokerage that Weir owned on behalf of a hedge fund client without disclosing it.

Trades that could create conflicts between advisers and clients must be properly disclosed and receive client consent prior to being executed.

"Paradigm retaliated against an employee who reported potentially illegal activity to the SEC," said Andrew Ceresney, the director of the SEC Enforcement Division. "Those who might consider punishing whistleblowers should realize that such retaliation, in any form, is unacceptable."

The 2010 Dodd-Frank Wall Street reform law gave the SEC the power to start a new whistleblower program that lets the agency reward people who report misconduct, if that tip leads to the collection of more than $1 million in monetary sanctions.

Whistleblowers who meet the criteria are eligible to receive between 10 and 30 percent of the total amount collected.

Ceresney told reporters on Monday that the whistleblower in this case will be eligible to file a request to be considered for a reward.

Congress gave the SEC the new powers as a response to the Bernie Madoff scandal, when the SEC had received numerous tips and yet failed to detect Madoff's Ponzi scheme for decades.

Part of the new power also gave the SEC the ability to shield whistleblowers from retaliation, a provision that went into effect in 2011 after the SEC adopted its new whistleblower rules.

According to the SEC, Paradigm's head trader learned about the conflicted principal transactions and reported them to the SEC in March 2012.

After his employer learned about his role as a whistleblower, he was removed from the trading desk, told to work offsite at a different building, asked to investigate the conduct he had reported, and stripped of his supervisory responsibilities.

The SEC said that the whistleblower, whose identity was not revealed, ultimately resigned later that year.

The whistleblower's lawyer, Jordan Thomas of Labaton Sucharow LLP, said cases like this should help encourage whistleblowers to come forward and predicted their help could eventually lead to record-breaking enforcement records.

"I often advise my clients that it's not always easy or glamorous to be a corporate whistleblower, but the SEC has their back," he said.

(Reporting by Sarah N. Lynch; Editing by Grant McCool)