Investor Lawyers Blog

Spotlight on FINRA: SRO Disciplines Brokerages That Ignore Red Flags, Warns About Retirement Plan Rollover Conflicts, & Investigates for Stock Trade Incentives

Published on: January 16, 2014 | by Shepherd Smith Edwards & Kantas, LLP

FINRA Fines COR Clearing LLC $1M for Disregarding Red Flags

The Financial Industry Regulatory Association is continuing to crack down on brokerage firms that don’t detect and investigate “red flags” indicating possible suspect activity. Earlier this month it fined COR Clearing LLC $1 million for its purported failure to put into place procedures to detect and report suspect account activity.

The self-regulatory organization said that while the broker-dealer used a “tagged identifier list” to identify the entities and individuals linked to high risk accounts, the list only worked effectively when cross-checked against a demographic AML system, which included customer data that the firm had collected but was maintained by a third-party. However, the DAML database was incomplete because it did not include the names of COR Clearing’s introducing brokers.

The Players in the UBS Puerto Rican Bond Fraud

Published on: January 15, 2014 | by Shepherd Smith Edwards & Kantas, LLP

UBS Puerto Rico

A catastrophic collapse of life savings such as many investors in Puerto Rico bonds have been experiencing does not just happen on its own. There are inevitably a number of different parties that are involved, often to varying degrees. For most affected investors, the main party is UBS Financial Services Incorporated of Puerto Rico (“UBS Puerto Rico”). UBS Puerto Rico is a broker-dealer, meaning that it is a company in the business of buying and selling securities for clients, either by pairing together individuals looking to buy a particular security with a seller looking to sell that same security, and thus acting as a broker, or by buying and selling securities to investors out of its own portfolio, thus acting as a dealer. As a broker-dealer, UBS Puerto Rico is required to, and has, registered with the Financial Industry Regulatory Authority (“FINRA”), which is the regulator of broker-dealers in the United States and its territories. However, UBS Puerto Rico is licensed to operate solely within Puerto Rico.

Without delving into the legal issues involved, some of which have been discussed in previous posts and some of which will be addressed in subsequent ones, a broker-dealer can be legally liable for losses that its clients suffer under some circumstances. These situations can either because applicable laws and regulations covering broker-dealers in the United States require broker-dealers to properly supervise their brokers, and put in place various compliance systems to make sure the brokers are doing what they are supposed to be doing. Liability can also exist simply if the employees of the broker-dealer act improperly, even if the broker-dealer had no knowledge that it was going on, under legal theories such as respondeat superior.

MSRB to Implement Municipal Advisory Regulatory Framework in 2014

Published on: January 15, 2014 | by Shepherd Smith Edwards & Kantas, LLP

As part of its broader mandate under the Dodd-Frank Wall Street Reform and Consumer Protection Act, this year the Municipal Securities Rulemaking Board will concentrate on implementing a regulatory framework for municipal advisors that will encompass professional qualification standards, rules, and education. Already, the MSRB has made a priority the development of five rules for muni advisors.

The rules are intended to protect municipal entities and investors.They have to do with fiduciary duty, fair dealing standards of conduct, municipal firm supervisory requirements, pay-to-play activities, solicitor duties, and gift and gratuity limits to municipal issuer employees. The board intends to provide outreach and education to municipal advisors to assist them in getting ready for regulatory oversight and participating in rulemaking and professional qualification standards.

Just last week, the MSRB put out a draft rule to govern municipal advisor conduct. Draft Rule G-42 codifies the Dodd-Frank Act’s language that places a fiduciary responsibility on municipal advisors to put the interest of their clients above their own—and that they them owe not just a duty of care but also a duty of loyalty. If the draft rule, also called the Duties of Non-Solicitor Municipal Advisors, passes, this would prevent municipal advisors and affiliates from taking part in a transaction other than in a principal role with a client. According to BondBuyer.com, some market participants are worried that this means municipal advisors won’t be allowed to take part in non-fiduciary business relationships concurrent with the municipal advisory agreement.

Stifel, Nicolaus & Century Securities Must Pay More than $1M Over Inverse and Leveraged ETF Sales

Published on: January 14, 2014 | by Shepherd Smith Edwards & Kantas, LLP

Financial Industry Regulatory Authority says that Century Securities Associates, Inc. and Stifel, Nicolaus & Company, Inc. must pay almost $1 million over the sale of inverse and leveraged exchange-traded funds. Stifel Financial Corporation (SF) owns both firms.

According to the SRO, for more than four years Century and Stifel recommended non-traditional ETFs that were not suitable to customers because a number of its representatives did not fully comprehend the products’ features or the risks involved. The instruments were marketed to retail investors with conservative investment goals. A number of customers ended up holding the investments for long periods and they suffered net losses.

The regulator says that Century and Stifel failed to set up proper training for their representatives and lacked the reasonable supervisory systems for the sale of these non-traditional ETFs. Instead, the firms oversaw these investments the way they did traditional ETFs. Also, they did not set up a procedure to deal with the risk for the longer-term holding periods involving these complex investments.

Securities Fraud Court Matters

Published on: January 14, 2014 | by Shepherd Smith Edwards & Kantas, LLP

While a district court allowed the securities fraud claims brought under securities law against LightSpeed Environmental, Inc. & other defendants to go forward, the claims brought against the company under Section 12(a)(2) of the Securities Act were thrown out. The securities case is Wang v. LightSpeed Environmental, Inc.

The court said that while the plaintiff, Tonglin Wang, sufficiently alleged justifiable reliance, specific misrepresentations, and scienter, so that certain claims could proceed, he did not succeed in his claims that there was a prospectus or a public offering or that there was any verbal exchange made about the prospectus.

Wang is a Chinese businessman who wanted to invest in a US entity to obtain immigration status here via a federal program. In 2011, two individuals, who were LightSpeed agents (Wang did not know this), purportedly told him they would act as his translators and advisors. He then was introduced to David Tarrant, CEO of ASG. He had the majority of voting shares in LightSpeed.

In Alleged $400M Texas Securities Fraud, Medical Device Maker Pays Over $30M Settlement

Published on: January 13, 2014 | by Shepherd Smith Edwards & Kantas, LLP

Austin-based medical device manufacturer ArthroCare Corporation (ARTC) will pay $30 million to settle allegations that its senior executives were involved in a Texas securities scam that caused shareholders to lose over $400M. The company’s former senior VPs, David Applegate and John Raff, have already pleaded guilty to conspiracy to commit wire fraud and securities fraud over the financial scam.

As part of the deferred prosecution settlement, the US Justice Department has filed a complaint in the Western District of Texas charging the company with one count of conspiracy to commit securities fraud. The medical device maker will continue to cooperate with the government in its ongoing probe and pursuit of the individuals involved in the financial fraud. ArthroCare’s ex-CEO and CFO are scheduled to stand trial later this year.

In this Texas securities settlement, the company admitted that its executives inflated its revenues by tens of million of dollars, hid the nature and financial importance of its relationship with certain distributors, and engaged in bogus transactions to manipulate earnings and revenue. ArthroCare also acknowledged that these executives caused it to “park” millions of dollars worth of medical devices at distributors during the end of each relevant quarter to make it appear as if these were shipments (meaning supposed sales).

CFTC News: Chairman Gensler Steps Down, New Co-COOs Are Appointed, & the Agency Revokes Commodity Trading Adviser’s Registration Over Fraud

Published on: January 11, 2014 | by Shepherd Smith Edwards & Kantas, LLP

Gary Gensler has stepped down as the chairman of the Commodity Futures Trading Commission. Timothy G. Massad, an official from the US Treasury, is his successor.

A former Goldman Sachs (GS) trader and later also a Treasury Department official, Gensler became, according to Reuters, the regulator that Wall Street became most afraid of following the economic crisis. His tough reforms have gained him numerous admirers, as well as critics who believe that he hurt the markets.

During his 5-year tenure as head of the CFTC, the Commission finished 70% of the rules it was supposed to write—way more than any other US regulator. He also took the most stringent stance regarding rules to get swaps trading onto exchange-like platforms and just recently he brought through a plan mandating that foreign banks follow CFTC rules when dealing with US clients even though foreign regulators wanted otherwise.

Billions of Dollars Have Already Been Lost by Investors in Puerto Rico Closed-End Funds that were Sold by UBS

Published on: January 10, 2014 | by Shepherd Smith Edwards & Kantas, LLP

According to new research from a consulting group, the losses of investors who purchased UBS Puerto Rico closed-end municipal bond funds is now in the billions of dollars. During the first nine months of 2013 alone, reports InvestmentNews.com, 19 of UBS’s Puerto Rico closed-end funds lost $1.6 billion. The ones that lost the most were reportedly the funds with big muni bond holdings that were underwritten by UBS.

UBS Financial Services, Inc.’s Puerto Rico unit put together and sold roughly $10 billion in closed-end bond funds between 2002 and 2012. As the funds were only registered to be sold in Puerto Rico, they were largely composed of Puerto Rico municipal bonds and could be sold only to Puerto Rican residents, who have now been hit with huge losses as the value of Puerto Rican debt has fallen sharply over the last few months.

In addition to UBS’s bond funds, other bond funds that have purchased Puerto Rican debt and investors holding individual Puerto Rican bonds in the US have been significantly impacted. In fact, if Puerto Rico were to default on its debt, the impact would be far reaching. According to Forbes.com, a default in Puerto Rico would change the price of the whole $3.7 trillion US municipal bond market, which could cost municipalities and states in the US billions of dollars in interest rate charges. Already, investors on the mainland found themselves paying close to $10 billion last year because Puerto Rico’s $52 billion in bonds were down 20% on average.

Ex-Goldman Sachs Trader Fabrice Tourre’s Request for New Civil Trial in RMBS Fraud Case is Denied

Published on: January 10, 2014 | by Shepherd Smith Edwards & Kantas, LLP

The federal district court in Manhattan has turned down former Goldman Sach’s (GS) trader Fabrice Tourre’s request that he get a new civil securities fraud trial after he was found liable on seven counts of federal securities law violations related to his involvement in the firm’s sale of the Abacus 2007-AC1, which is a synthetic collateralized debt obligation that was backed by residential mortgage-backed securities. Goldman has already paid a $550 million fine over the matter.

The district court is saying that his claim that there was no evidence backing a finding that he violated Section 17(a)(20) of the Securities Act by getting property or money via the alleged fraud can’t be supported. The court noted that to prove liability this section of the Act does not make it necessary for the SEC to show that Tourre got a “fraud bonus”—only that he got the property or money through omission or material statement. The court said Tourre could have given evidence to show that the compensation he received from Goldman would have been the same without such a transaction, but since he didn’t put on a case during his trial the jury was free to infer otherwise.

The court noted that there was sufficient evidence backing the jury’s finding that the ex-Goldman Sachs trader’s conduct abetted and aided violations of SEC regulations. Also, the court is rejecting Tourre’s contention that he should get a new trial because he believes that the other court acted inappropriately when it took away from the jury the question of whether the swaps agreements involved were security based swap agreements within the meaning of securities law. This court said that for securities law purposes, the swap agreements were security-based swap agreements, and it granted summary judgment to the SEC on this.

SEC in Action: Finds Nomura Holdings Not Ineligible Issuer Even with Judgment, Will Consider Redrafted Shareholder Proposal Regarding Exelon, & Puts Out Regulation M, Rule 105 Violation Sanctions

Published on: January 8, 2014 | by Shepherd Smith Edwards & Kantas, LLP

The Securities and Exchange Commission’s Division of Corporation Finance has given relief to Nomura Holdings, Inc. over an entry in the final judgment issued against its subsidiary Instinet, LLC last month. The staff said that Nomura made a good cause showing under 1933 Securities Act Rule 405(2), and now the SEC says it won’t consider the company an ineligible issuer even with the entry of that final judgment.

The SEC opened up an administrative proceeding action against Instinet, accusing it of purposely abetting and aiding and violating sections of the Investment Advisers Act. The claims involved purported soft dollar payments.

J.S. Oliver Capital Management, L.P., an Instinet customer, had asked for the payments for expenses it did not tell clients about. The Commission says that Instinet made the payments per JS Oliver’s request, even though there were red flags indicating that the requests for payment approval were improper. The Nomura subsidiary turned in a settlement offer that led to a cease-and-desist order against the brokerage firm, & the regulator accepted the settlement offer.