Massachusetts securities regulators are continuing their focus on the sales practices of broker/dealers that market and sell non-traded real estate investment trusts (REITs), as five firms agree to pay $10.75 million in restitution to Massachusetts investors who bought the products from 2005 to today.

Secretary of the State William Galvin announced the REIT settlements yesterday. The five firms and their respective settlements include: Securities America, $7.6 million; Ameriprise, $1.6 million; Lincoln Financial Advisors Corp., $840,873; Commonwealth Financial Network, $533,500; and Royal Alliance Associates, $125,000.

This is the second round of settlements tied to improper sales of non-traded REITs. In May, the same five broker/dealers agreed to pay $6.1 million in restitution, along with fines of $975,000. In February 2013, Galvin’s office ordered LPL Financial to pay $2 million in restitution to clients in connection to non-traded REITs.

“These investments are popular, but risky,” Galvin said in a statement about the recent settlements. “Our investigation showed widespread problems with adherence to the firms’ own policies as well as the state rule that an investor’s purchase of REITs cannot be more than 10 percent of that person’s liquid net worth.”

Many investors who purchased bonds as the “safe” investment in their portfolio could soon be in for an unwelcome surprise when they see their account statements. That’s because of an anticipated rise in interest rates as the Federal Reserve begins to start slowing its bond-buying program sometime this year.

When the Fed will actually begin tapering its asset-purchase program – known as quantitative easing – is anyone’s guess. And that lack of clarity translates into confusion for many investors.

During times of higher interest rates, bond funds are at a particular risk for both investors who are invested in an individual bond, as well as shareholders in a bond fund. When interest rates rise, bond prices go down. For shareholders in a bond fund, however, the issue is compounded by the fact that the fund manager of the bond fund may be forced to prematurely sell off individual bonds within the bond fund to meet redemption requests by shareholders wanting to liquidate their shares. This, in turn, can have a catastrophic effect on the net asset value of the bond fund.

Making matters even worse is the fact that the majority of investors appear to be unaware about the impact of rising interest rates on their investment portfolio and, more important, what they should do.

A recent Edward Jones survey showed that 63% of the individuals surveyed believe that rising rates matter but don’t know what to do about it in their 401(k) or IRA. Another 24% of Americans said they “do not understand this at all.”

The bottom line: It’s impossible to predict the future when it comes to the current financial climate, but preparation is and always will be key.

A Sept. 1 article titled “Ignorance Is Not Bliss” by Investment News highlights the impending issues facing bond investors  and whether financial advisers are taking appropriate measures to ensure their clients don’t get caught unaware.

Last week, the 10-year U.S. Treasury note yield was 2.78%, slightly down from 2.94% that it stood on Aug. 24. As the article points out, the yield pullback is likely to be short-lived as the Federal Reserve begins to taper its monthly bond purchases under what’s known as its five-year-long quantitative-easing program.

And that’s expected to happen very soon, which means investors need to take careful note. Because bond prices move in the opposite direction of yields, the rise in market yields could spell huge losses for investors. This is especially true for bond mutual funds in which portfolio managers are forced to sell their holdings at a loss in order to meet redemption demands, according to the Investment News article.

The article makes it very clear:  The yield on the 10-year Treasury has gained a full percentage point since mid-May. A 1-percentage-point rise in interest rates translates into about a 1% decline in prices for every year of a bond’s duration. To put it another way, a bond fund with a 10-year duration would fall in value by 10% for every 1-percentage point interest-rate rise.

The question becomes whether investors clearly understand the impact of rising interest rates on their investment portfolio. Unfortunately, several studies indicate that the answer may be “no.”  According to a new study by brokerage firm Edward Jones, 63% of Americans don’t know how rising interest rates will affect their retirement portfolios, including their 401(k)s and IRAs. Moreover, 24% say they feel completely in the dark about what rising interest rates actually mean.

Financial advisers should be paying attention and taking steps to make sure their clients understand the current financial climate, especially the impact of rising interest rates on bonds. In some cases, that’s happening. In other instances, advisers appear to be completely out of touch with the state of the bond market. In that scenario, investors could very well be caught off guard and pay the ultimate price.

“The biggest risks to the clients is the adviser being either oblivious or in denial about how bonds work. And the client has faith in the adviser . . . High-quality bond funds are the worst investments on the planet right now,” said Robert Isbitts, founder and chief investment strategist at Sungarden Investment Research, in an Aug. 27 interview with Investment News.

The price of gold has had an amazing run over the past decade. But as gold investors are now learning, those days may be a thing of the past.

Gold investor Jon Norstog knows this reality first hand. A $29,000 investment that Norstog made in 2011 is now worth about $17,000, a 42% loss.

“I thought if worst came to worst and the government brought down the world economy, I would still have something that was worth something,” said Norstog, 67, in an April 2013 story by the New York Times.

For a countless number of investors like Norstog, the idea that rising gold prices are no longer a sure thing is a hard one to grasp. Making matters worse is the fact the financial industry seized on the idea that gold would always be the pinnacle of great investments – not to mention a forever safe haven – to market a growing range of gold investments, including government-minted coins, publicly traded commodity funds, and mining company stocks, according to the New York Times story.

But $5 billion that flowed into gold-focused mutual funds in 2009 and 2010, according to Morningstar, helped the funds reach a peak value of $26.3 billion. Since hitting a peak in April 2011, those funds have lost half of their value, the NYT reported.

Indeed, after gold prices reached incredible highs two years ago, they’ve fallen fast. The price of bullion soared to more than $1,900 an ounce in August 2011; on Aug. 6, 2013,  gold prices were less than $1,300 an ounce.

“Gold is very much a psychological market,” said William O’Neill, a co-founder of the research firm Logic Advisors, in the New York Times story. O’Neill told its investors to get out of all gold positions in December after recommending the investment for years. “Unless there is some unforeseen development, I think the market is going lower,” he said.

Every year, more investors watch helplessly as their retirement savings vanish because of investment fraud. Many of these individuals are elderly investors 65 years of age or older. According to researchers, scams from Ponzi schemes to frauds involving bogus private placements and promissory notes cost U.S. seniors $3 billion a year.

Just this week, the Securities and Exchange Commission (SEC) filed fraud charges against an Indiana man accused of stealing millions of dollars in retirement savings from clients. The SEC alleges that John K. Marcum of Noblesville, Indiana, and Guaranty Reserves Trust LLC used clients’ money for personal use and to fund a bounty hunter reality TV show.

Marcum Cos. LLC was named as a relief defendant in the SEC’s case. Marcum is the principal of both Guaranty Reserves and Marcum Cos.

“Marcum tricked investors into putting their retirement nest eggs in his hands by portraying himself as a talented trader who could earn high returns while eliminating the risk of loss,” said Timothy L. Warren, Acting Director of the SEC’s Chicago regional office, in a statement.  “Marcum tried to carry on his charade of success even after he squandered nearly all of the funds from investors.”

The SEC says that Marcum allegedly raised more than $6 million from at least 37 investors by selling investments in Guaranty Reserves Trust. Clients were allegedly told by Marcum that their principal was guaranteed and their proceeds would earn large returns from day trading. In addition, Marcum allegedly provided investors with account statements showing that he had used their money to achieve annual returns of more than twenty percent (20%), with no monthly losses. Marcum also reportedly told his clients that he would use their money to earn strong returns by day-trading in stocks.

In reality, Marcum did very little actual trading, and when he did, he suffered significant losses. Instead of day-trading, Marcum used his investors’ money as collateral for a $3 million line of credit for himself. Marcum turned to this line of credit to finance several start-up businesses, including a bridal store, a soul food restaurant and bounty hunter reality television show. Marcum also used investor money to finance his lavish lifestyle, which included luxury car payments, airline and sporting event tickets, expensive meals and hotel stays, the complaint states.

In the complaint, the SEC says that Marcum assisted many of his investors in setting up self-directed IRA accounts at several trust companies. The investors gave Marcum control of their assets by either rolling their existing IRA accounts into the newly-established self-directed IRA accounts, or by transferring their taxable assets directly to brokerage accounts which Marcum controlled.

Marcum and certain investors then co-signed promissory notes created by Marcum and issued by Guaranty Reserves Trust, which were then allegedly placed into the IRA accounts, the SEC says. The notes were securities and stated that the individual is making an “investment” with GRT. The promissory notes also repeatedly stated that the securities are “asset-backed,” “secured” and “guaranteed,” and promise the payment of interest based on “100% of the asset’s performance.”

Marcum’s scheme, which began in 2010, began to unravel in mid-2013, when certain investors began demanding distributions. Marcum could not comply, because virtually all of his investors’ money was gone. Faced with the reality of being unable to honor investor redemption requests, the SEC alleges that Marcum provided investors with a “recovery plan” that revealed his intention to solicit funds from new investors so that he could pay back his existing investors.

In June 2013, the SEC says Marcum had a phone conversation with three investors in which he admitted that he had misappropriated investor funds and was unable to pay investors back.  During this call, Marcum begged the investors for more time to recover their money, the SEC alleges. According to the complaint, Marcum offered to name these investors as beneficiaries on his life insurance policies, which he claimed included a “suicide clause” imposing a two-year waiting period for benefits.  Marcum suggested that if he was unsuccessful in returning investors’ money, he would commit suicide to guarantee they would eventually be repaid.

The SEC obtained an emergency court order to freeze the assets of Marcum and his company.

 

 

The Financial Industry Regulatory Authority (FINRA) filed a complaint on July 30 against real estate investor Tony Thompson, alleging that he deceived and defrauded investors who bought $50 million in high-yield promissory notes sponsored by Thompson National Properties LLC.

Thompson is well known in the independent-broker-dealer industry for his real estate deals, including 1031, or “tenant in common,” exchanges.  He launched Thompson National Properties in 2008, raising $250 million from investors via a series of real estate-related offerings. Among them is a now-struggling non-traded real estate investment trust, TNP Strategic Retail Trust Inc., which eliminated dividends to investors this year.

FINRA’s complaint focuses on the level of disclosure regarding financial difficulties at Thompson National Properties in the PPMs, said Thompson’s lawyer, Thomas Fehn, in an Aug. 6 article by Investment News. Fehn contends those issues were appropriately disclosed.

According to the complaint, Thompson National Properties had provided a purported guarantee of principal and interest for three notes programs sold from 2008 to 2012 through a network of independent broker-dealers.  TNP Securities LLC, which is Thompson’s broker/dealer, also named in the complaint.

The three note programs in FINRA’s complaint include the TNP 12% Notes Program LLC, the TNP 2008 Participating Notes Program LLC and the TNP Profit Participation Program LLC.

As reported in the Aug. 6 story by Investment News, Thompson’s profile on Finra’s BrokerCheck system states that TNP Securities and Thompson “engaged in transactions, practices or courses of business which operated as a fraud or deceit upon the purchaser” of the note securities. In FINRA’s complaint, one of those series of private notes is reported to be in default, while two others have stopped making payments to clients.

Thompson and TNP Securities are allegedly in violation of Securities and Exchange Act of 1934, as well as FINRA’s Rule 2020, which prohibits the use of manipulative, deceptive or other fraudulent devices by registered representatives and broker-dealers. They are also allegedly in violation of FINRA Rule 2010, which requires registered reps and broker-dealers to adhere to high standard of commercial honor and trade.

Thompson and TNP Securities are no strangers to FINRA. Both have been on the regulator’s radar for some time now over allegations of failing to cooperate in a FINRA investigation.

 

 

A recent editorial by Investment News addresses a newly introduced bill intended to end the mandatory arbitration clause found in contracts between financial advisers and their clients.  Rep. Keith Ellison, who introduced the bill, says he believes that doing away with mandatory arbitration could begin the process of rebuilding investor trust in Wall Street.

“Investors want to get back in the market, but they’re rightly wary that the game is rigged against them,” Ellison said in a statement after introducing the bill. “Investors shouldn’t have to sign away their rights in order to work with a financial adviser or broker/dealer. By removing some of these unfair advantages, consumers will be more eager to invest, which will create jobs and strengthen the economy.”

The mandatory arbitration clauses are standard in brokerage contracts and often included by registered investment advisers. Specifically, the clauses dictate that any client complaints must be settled in binding arbitration instead of the courts.

As the Investment News editorial correctly points out, there are other reasons to get rid of mandatory arbitration, not the least of which is the fact that investors should not be required, as they are now, to relinquish their legal rights in advance of a future complaint with their broker. Such a requirement does nothing to instill trust and faith in Wall Street.

In reality, as of three years ago, the Securities and Exchange Commission (SEC) has had the authority to end, or at the very least, limit mandatory arbitration under the Dodd-Frank Act. But the SEC has yet to make a move in that direction.

This summer, one SEC member – Luis A. Aguilar – went against the tide and introduced a bill to kick start the process. That bill, the Investor Choice Act of 2013, is strongly supported by several investor protection and financial groups, including the North American Securities Administrators Association (NASAA), which believes that inclusion of mandatory arbitration provisions in broker/dealer and investment adviser customer contracts denies many investors the ability to pursue legitimate claims against fraudsters.

“Investors deserve better than the current ‘take-it-or-leave-it’ approach to securities dispute resolution. Rep. Ellison’s legislation will ensure that investors have the unencumbered right to seek redress in the appropriate and desired forum,” said Heath Abshure, NASAA President and Arkansas Securities Commissioner, in a statement.

The bottom line: If the investment world hopes to restore the trust of investors – and create true financial reform – it needs to act in their best interests. Period. Ending mandatory arbitration is a beginning.

 

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.