Category Archives: Broker/dealer

On the last day of July, the Securities and Exchange Commission (SEC) approved new rules designed to increase protections for investors who turn their money and securities over to broker/dealers registered with the SEC.

Approved by a 3-2 vote, the new rules require broker/dealers to file new reports with the SEC that should result in higher levels of compliance with the regulator’s financial responsibility rules.

“These rules will provide important additional safeguards for customer assets held by broker/dealers,” said Mary Jo White, Chair of the SEC.  “These rules will strengthen the audit requirements for broker/dealers and enhance our oversight of the way they maintain custody of their customers’ assets.”

Broker/dealers must begin to file a quarterly report, called Form Custody, with the SEC and annual reports with SIPC by the end of 2013.  The requirement for broker/dealers to file annual reports with the SEC is effective June 1, 2014.

For the second time in less than a week, another broker/dealer announced plans to suspend sales of American Realty Capital Trust V, or ARC V. As reported July 19 by Investment News, the broker/dealer, National Planning Corp., cited continuing due diligence as the reason for the halt in sales.

Last Friday, Securities America told its registered reps it was no longer offering ARC V because of a risk of overconcentration.

National Planning Corp. said that its concerns over ARC V stem to another American Realty Capital REIT, American Realty Capital Trust IV. In June, that REIT announced plans to purchase 986 properties from an affiliate of General Electric Capital Corp. for $1.45 billion. The majority of those properties are fast-food and casual-dining establishments.

“Due to concerns with style drift, deviations from the prospectus and growing pains, which all have implications for [ARC V], NPC decided to suspend sales” of the REIT, said an e-mail to NPC reps from the firm’s products group. The same e-mail noted that NPC was adding to its selling list another American Realty Capital REIT, the Phillips Edison – ARC Shopping Center REIT II Inc.

“Based upon the GE transaction, the portfolio for [ARC IV] does not match the [REIT’s] stated strategy in terms of the average credit rating of the portfolio,” according to the e-mail. “Additionally, [ARC IV] appears to deviate from the marketed strategy in terms of the types of tenants and adding value through aggregation.”

Citing a risk of over-concentration, a  top broker/dealer, Securities America, has announced that it will no longer sell the non-traded real estate investment trust American Reality Capital Trust V.

Also known as ARC V, the REIT is a big seller. Brokers sold $406.6 million of ARC V between its launch in April through June 30.

As reported by Investment News, an important risk management tactic being implemented by many broker/dealers, including Securities America, is maintaining certain thresholds that limit a firm’s total  investment in any one alternative product or sponsor.

In the past, Securities America has been burned by too many sales of certain illiquid, alternative investment deals. From 2003 to 2007, Securities America was the biggest seller of private placement notes issued by Medical Capital Holdings Inc., which was later revealed to be a $2 billion Ponzi scheme. Securities America brokers sold close to $700 million of the notes. The legal fallout from those sales ultimately resulted in Ameriprise Financial Inc. selling Securities America to Ladenburg Thalmann Financial Services in 2011.

In June, Securities America was one of five broker/dealers to announce settlements with Massachusetts Secretary of the Commonwealth William Galvin over improper sales of non-traded real estate investment trusts and agreed to pay at least $7 million in fines and restitution.

Earlier this week, Advisor Group, which is owned by American International Group, announced it was cutting its selling agreement with Cole Holdings Corp., another leading sponsor of net-lease non-traded REITs.

Advertising for private-placement securities offerings has been given the green light to move forward following approval by the Securities and Exchange Commission (SEC) last week.

In a 4-1 vote, the SEC’s action opens the door for private-equity funds, hedge funds and brokers selling unregistered securities to market the investments to the general public.

Sales will be limited to accredited investors, who are defined as individuals with a net worth of at least $1 million, excluding the value of their home, or earn at least $200,000 annually. Nearly 9 million U.S. households meet the net-wealth criteria to be accredited investors.

As reported July 14 by Investment News, as the general public is introduced to private-securities offerings through advertising, investment advisers are likely to see more demand from clients who want to take advantage of such opportunities. That then puts the onus on advisers to evaluate these often-risky and complex investments and decide whether their clients have the sophistication to thoroughly understand the risks they are taking on.

“It does put more onus on an adviser to make sure someone is an appropriate investor,” said Jennifer Openshaw, president of Finect, a compliant social-media network for the financial industry, in the Investment News story.

“Today, it’s easy to meet the $1 million threshold as an accredited investor,” she added. “But that doesn’t mean they’re sophisticated.”

The SEC’s ruling implements a provision of a law that was enacted in April 2012 – the Jumpstart Our Business Startups Act. The measure eases securities regulations for small companies.

Supporters of the law say it will help entrepreneurs raise capital. Critics, however, contend that the SEC is lifting the advertising ban without including sufficient measures to protect investors. In response to those concerns, SEC Chairman Mary Jo White recently offered a separate regulatory proposal designed to tighten the rules surrounding private-placement solicitation.

The one dissenter of the SEC who voted against dropping the 80-year-old ban on advertising is skeptical about the potential investor safeguards.

“Any protections from today’s proposal will come too late – if they ever come at all – for investors,” said SEC member Luis A. Aguilar. Aguilar added that the SEC is moving “recklessly” and is “allowing fraudsters to cast a wider net” through private-placement advertising.

A. Heath Abshure, Arkansas’ securities commissioner and president of the North American Securities Administrators Association, echoes those sentiments.

“The decision to lift the ban without simultaneous adoption of appropriate limits, guidance and investor protections for the most common product leading to enforcement actions by state securities regulators underscores the prospect that investors and issuers alike will be exposed to an indeterminate gap in protection,” Abshure said in a statement.

The culprits behind a massive multimillion-dollar private-placement fraud will soon be heading to jail. On July 3, U.S. District Judge Marcia A. Crone handed down sentences for four former executives of Provident Royalties – a $500 million oil and gas Ponzi scheme that was sold through a network of independent broker/dealers. Unable to pay the litigation costs by investors who later sued over the phony investments, many of those broker/dealers involved with the Provident offerings ultimately were forced to shutter their business.

Brendan Coughlin, 46, and Henry Harrison, 47, were sentenced to 21 months in federal prison. They founded and controlled Provident along with Joseph Blimline, 35, who already had been sentenced to 12 years in prison. Paul Melbye received a sentence of 18 months in prison.

W. Mark Miller, 59, Provident’s chief financial officer and later president, was sentenced to six months in federal prison and six months in home confinement.

In addition, the four executives were ordered to pay $2.3 million in restitution. Each had earlier pleaded guilty to conspiracy to commit mail fraud.

According to the Justice Department, the Provident executives entered into what was essentially a cover-up. Investors lost money due to Blimline’s “manipulation of investor capital prior to his departure in late 2008,” reads a statement from the Justice Department.

“From Jan. 1, 2009, to Feb. 3, 2009, even after discovering what [Mr.] Blimline had done, [Mr.] Coughlin, [Mr.] Harrison, and [Mr.] Melbye failed to disclose the dire state of the company to investors in order to take in an additional $2.3 million, while [Mr.] Miller, who knew that the crime had occurred, authorized lulling payments to investors to conceal the crime from discovery.”

The sentencing of the four men follows a recent announcement by the Securities and Exchange Commission (SEC) approving a rule to allow advertising for private-placement offerings such as the one associated with Provident Royalties. The SEC’s ruling lifts an 80-year prohibition on the practice.

That decision has many concerned. As reported July 11 by Investment News, following the vote, Commissioner Luis A. Aguilar warned that the SEC was moving “recklessly.” He further warned that the regulator’s backing of private-placement advertising would allow fraudsters “to cast a wider net.”

Sales involving alternative investment products sold to elderly investors has an unleashed an investigation by Massachusetts securities regulators into 15 brokerage firms. The firms include LPL Financial LLC, Morgan Stanley, Merrill Lynch, UBS Securities LLC, Fidelity Brokerage Services LLC, Charles Schwab & Co. Inc., Wells Fargo Advisors, TD Ameritrade Inc., ING Financial Partners Inc.,  Commonwealth Financial Network, MML Investor Services LLC, Investors Capital Corp., Signator Investors Inc., Meyers Associates LP, and WFG Investments Inc.

As reported yesterday, the Massachusetts securities division has sent subpoenas to the firms being targeted, asking for information on sales of the products to state residents who are 65 or over.  Among the non-traditional investments included on the list:  Oil and gas partnerships, private placements, structured products, hedge funds and tenant-in-common offerings.

Massachusetts is demanding information on any such products that have been sold over the past year, the investors who purchased them, the commissions generated, how the sales were reviewed, and all relevant compliance, training and marketing materials used for marketing and sales purposes.

The firms have until July 24 to respond.

This isn’t the first time that Massachusetts has come down hard on broker/dealers for alleged improper sales of certain alternative investments. In May, the state settled cases involving non-traded REITs with Ameriprise Financial Services; Commonwealth Financial Network; Lincoln Financial Advisors Corp., Royal Alliance Associates; and Securities America. The five firms agreed to pay a total of $6.1 million in restitution to investors, as well as fines totaling $975,000.

In February, Massachusetts reached a similar settlement with LPL Financial, which agreed to pay at least $2 million in restitution and $500,000 in fines related to sales of non-traded REIT investments.

The REIT investigations “heightened my concern that the senior marketplace is being targeted for the sales of these high-risk, esoteric products,” said Massachusetts Secretary of the Commonwealth William F. Galvin in a statement yesterday.

“While these products are not unsuitable in and of themselves, they are accidents waiting to happen when they are sold to inexperienced investors by untrained agents who push the products to score … large commissions.”

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.

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.