Monthly Archives: June 2013

Incidents involving bad brokers or corrupt financial reps are becoming increasingly common. Most recently is the case of a mutual fund executive in Florida who promised investors early shares of Facebook and Groupon but instead used their money to buy himself lavish cars, a waterfront home and expensive jewelry.

The individual, John Mattera, was sentenced to 11 years in prison.

As reported June 21 by the Associated Press, U.S. District Judge Richard Sullivan ordered Mattera to forfeit $11.8 million. An additional restitution amount will be set within the next month.

“You’ve left a lot of wreckage in your past and you have to be punished for that. These crimes were just so selfish, so callous toward the victims,” said Judge Sullivan in addressing Mattera.

Mattera was arrested in November 2011 on charges of conning more than 100 people who invested millions of dollars with his British Virgin Islands-based Praetorian Global Fund Limited. He pleaded guilty in October to conspiracy, securities fraud, money laundering and wire fraud.

One of Mattera’s victims, Marisa Light Cain, was present at Mattera’s sentencing hearing. She stated that Mattera squandered the $100,000 she had saved to pay for college for her two sons.

Mattera has four previous convictions for similar crimes in Kentucky and Florida. He has been imprisoned since his guilty plea, a proceeding that was delayed by a day when he missed his flight from Florida. He also was found in contempt in a civil case brought by the Securities and Exchange Commission (SEC), according to the AP story.

The bottom line: Investment scams and fraudulent investments come in many forms. Falling victim to a scam can mean losing anywhere from a few hundred dollars to your life savings. At the end of the day, if the investment offer sounds too good to be true, it probably is.

Late last month, Citigroup agreed to settle a lawsuit by the Federal Housing Finance Agency that accused the nation’s third-largest bank of misleading investors and peddling more than $3.5 billion in securities backed by defective residential mortgages to Fannie Mae and Freddie Mac over a 20-month period starting in September 2005.

Financial terms of the settlement were not disclosed.

The FHFA, in its role as conservator for Fannie Mae and Freddie Mac, sued Citigroup and 17 other financial institutions in 2011. The FHFA charged Citigroup with misstating facts about the quality of the underlying mortgage loans and the practices used to originate them.

Meanwhile, the FHFA remains active in settlement discussions with other banks that are subjects of similar lawsuits.

Alternative mutual funds have exploded in popularity in recent years. But there is a dark side to alternative mutual funds. Last week, the Financial Industry Regulator (FINRA) warned investors about this very issue, cautioning them in an Investor Alert titled “Alternative Funds Are Not Your Typical Mutual Funds.” Among other things, the alert stressed the complex trading strategies and the unique characteristics and risks associated with alternative mutual funds.

“The strategies alternative mutual funds employ tend to fall on the complex end of the spectrum,” FINRA said in its Investor Alert. “Examples include hedging and leveraging through derivatives, short selling and ‘opportunistic’ strategies that change with market conditions as various opportunities present themselves.”

As their name implies, alternative mutual funds are quite different from their traditional counterparts. Alt funds typically use more exotic strategies, including options and leverage, as well as more complex asset mixes.  Alternative funds might invest in assets such as global real estate, commodities, leveraged loans, start-up companies and unlisted securities that offer exposure beyond traditional stocks, bonds and cash.

Some alt funds employ a single strategy. For instance, they may offer 100% exposure to currencies or distressed bonds. Some funds might employ a market-neutral or “absolute return” strategy that uses long and short positions in stocks to generate returns. Others may employ multiple strategies such as a combination of market-neutral strategies and various arbitrage strategies. Still others are structured as a fund containing numerous alternative funds or a special type of “fund of hedge funds,” according to FINRA.

Although the strategies and investments of alternative funds may appear similar to those of hedge funds, the two should not be confused, FINRA says. Alternative mutual funds are regulated under the Investment Company Act of 1940, which limits their operations in ways that do not apply to unregistered hedge funds. These protections include limits on illiquid investments; limits on leveraging; diversification requirements, including limits on how much may be invested in any one issuer; and daily pricing and redeemability of fund shares.

FINRA cautions investors who are considering investing in alternative mutual funds to carefully consider their investment objectives, performance history and fund manager of alternative funds before doing so.

Sales of non-traded real estate investment trusts (REITs) have once again come under the radar of securities regulators, with Massachusetts Secretary of the Commonwealth William Galvin announcing settlements with five leading independent broker/dealers that will pay at least $7 million in fines and restitution over improper sales of non-traded REITs.

The firms in the settlement include Ameriprise Financial Services, the broker/dealer arm of Ameriprise Financial Inc.; Commonwealth Financial Network; Royal Alliance Associates; Securities America; and Lincoln Financial Advisers Corp.

“Our investigation into the sales of REITs, triggered by investor complaints, showed a pattern of impropriety on the sales of these popular but risky investments on the part of independent brokerage firms where supervision has historically been difficult to monitor,” Galvin said in a statement.

Ameriprise Financial Services will pay $2.6 million in restitution and a fine of $400,000; Commonwealth Financial Network will pay $2.1 million in restitution and a $300,000 fine; Royal Alliance Associates will pay $59,000 in restitution and a $25,000 fine; Securities America will pay $778,000 in restitution and a $150,000 fine; and Lincoln Financial Advisors will pay $504,000 in restitution and a $100,000 fine.

REITs are financial products that invest in commercial real estate, including hotels, malls and other commercial buildings. Non-traded REITs do not trade on securities exchanges and therefore can be illiquid and difficult to sell in secondary markets. They also typically carry higher fees.

Earlier this year, Massachusetts regulators settled a similar complaint involving non-traded REITs with LPL Financial Holdings, alleging it failed to properly supervise brokers who sold non-traded REIT products to investors.

In total, Galvin’s office has garnered more than $11 million in restitution for Massachusetts investors and levied $1.4 million in fines from independent broker/dealers so far this year.

Investors who are planning to invest in municipal bonds need to do their homework; if not, they may unknowingly give their first year’s worth of income to their broker. A June 7 article by the Wall Street Journal sheds a spotlight on the murky world of today’s municipal bond market – and what investors can and should do to minimize their risks and maximize their net returns.

As the article points out, “yields on the highest-quality, widely traded munis, triple-A-rated, 10-year “general obligation” bonds have risen by 0.45 percentage point since May 1.  And while U.S. Treasury yields also have risen recently, muni yields have truly skyrocketed.”

But before jumping on the municipal bond bandwagon, investors should proceed with caution,  industry experts say. Unlike what happens with stocks, you don’t pay a commission when buying a municipal bond. Rather, you pay a “markup,” which is the difference between a broker’s cost and the price an investor pays.

The markups themselves can be astronomical. And, unfortunately, most brokers don’t disclose their markup. Regulators and market analysts agree that many retail investors have no idea how much they’re getting charged on muni trades.

Securities Litigation and Consulting Group, a research firm in Fairfax, Va., recently analyzed nearly 14 million trades of long-term, fixed-rate munis over a period between 2005 and April 2013. (You can review the SLCG report here.)

The study found that on one out of 20 trades, people who bought $250,000 or less in municipal bonds paid a markup of at least 3.04%, or approximately a full year’s worth of interest income at today’s rates. By comparison, you will pay less than $10 in commission to buy a stock at most online brokers, or 0.004% on a $250,000 purchase; a typical mutual fund charges management fees of about 1% a year.

SLCG founder Craig McCann estimates that investors paid at least $10 billion in what he considers excessive markups since 2005. That is at least twice the normal cost to trade a given bond.

“That’s more than a billion dollars a year needlessly transferred from investors to dealers’ pockets,” McCann said in the Wall Street Journal story.

Brokers have a duty to treat their customers in a good faith manner and to execute all direct orders by those customers in a precise and accurate manner. The duty that is owed to clients – often considered to be a fiduciary duty – creates varying levels of broker responsibility based on the sophistication of the customer, the customer’s prior investment experiences, the representations of the broker, and the ability of the customer to verify the broker’s representations.

Sometimes, however, the responsibility of representing the best interests of a client goes by the wayside, as was apparently the case of Ronald Wayne Nichter. Two months ago, Nichter, a former broker with Cantella & Co. Inc., was accused of allegedly forging letters of authorization by signing customers’ names without their knowledge or consent. Cantella’s clearing firm subsequently issued checks made payable to the customers in question.

Nichter admitted to fraudulently endorsing the checks and then depositing them into his own account, thereby converting funds for his own personal use and benefit. According to the Broker Check Web site of the Financial Industry Regulatory Authority (FINRA), Nichter misappropriated approximately $140,000 from 10 customers.

Nichter was employed with Cantella from 2006 to 2013. After learning of Nichter’s actions, Cantella terminated his employment with the firm. In addition, FINRA barred Nichter from associating with any FINRA firm in any capacity.

Wells Fargo and Banc of America were ordered by the Financial Industry Regulatory Authority (FINRA) to pay fines totaling $2.15 million, as well as pay more than $3 million in restitution to customers for losses tied to unsuitable sales of floating-rate bank loan funds.

FINRA ordered Wells Fargo Advisors, LLC, the successor for Wells Fargo Investments, LLC, to pay a $1.25 million fine and to reimburse approximately $2 million in losses to 239 customers. The regulator ordered Merrill Lynch, Pierce, Fenner & Smith Inc., as the successor for Banc of America Investment Services, Inc., to pay a $900,000 fine and reimburse approximately $1.1 million in losses to 214 customers.

Floating-rate bank loan funds are mutual funds that generally invest in a portfolio of secured senior loans made to entities whose credit quality is rated below investment-grade. The funds are subject to significant credit risks and can also be illiquid.

FINRA found that Wells Fargo and Banc of America brokers recommended concentrated purchases of floating-rate bank loan funds to customers whose risk tolerance, investment objectives, and financial conditions were inconsistent with the risks and features of floating-rate loan funds. Specifically, the customers wanted to preserve principal and had conservative risk tolerances, yet brokers made recommendations to purchase floating-rate loan funds without having reasonable grounds to believe that the purchases were suitable for those customers.

FINRA also says that the firms in question failed to train their sales forces regarding the unique risks and characteristics of the funds, as well as failed to reasonably supervise the sales of the products.

“As investors continue to look for yield in a low-interest-rate environment, these actions should serve as a reminder that brokers and their firms need to ensure that investment recommendations are consistent with customers’ investment objectives and risk tolerances,” said Brad Bennett, FINRA’s Vice President and Chief of Enforcement, in announcing the settlement.

“Wells Fargo and Banc of America allowed their brokers to sell floating-rate bank loan funds to investors for whom the positions were unsuitable, resulting in significant losses to many customers,” he added.

As is the case in most FINRA settlements, Wells Fargo and Banc of America neither admitted nor denied the charges, but consented to the entry of FINRA’s findings.