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Stockbroker Fraud News Roundup: UBS Puerto Rico Settles SEC Action for $26M, Morgan Keegan’s Bid to Get $40K Award Over Marketing of RMK Advantage Income Fund Vacated is Denied, and SEC Settles with Attorney Involved in $1B Viaticals Scam

Published on: May 11, 2012 | by Shepherd Smith Edwards & Kantas, LLP

UBS Financial Services Inc. of Puerto Rico (UBS) has agreed to pay $26.6 million to settle the Securities and Exchange Commission administrative action accusing the financial firm of misleading investors about its control and liquidity over the secondary market for nearly two dozen proprietary closed-end mutual funds. By settling, UBS Puerto Rico is not denying or admitting to the allegations.

Per the SEC, not only did UBS Puerto Rico fail to disclose to clients that it was in control of the secondary market, but also when investor demand became less in 2008, the financial firm bought millions of dollars of the fund shares from shareholders that were exiting to make it appear as if the funds’ market was stable and liquid. The Commission also contends that when UBS Puerto Rico’s parent firm told it to lower the risks by reducing its closed-end fund inventory, the Latin America-based financial firm carried through with a strategy to liquidate its inventory at prices that undercut a number of customer sell orders that were pending. As a result, closed-end fund clients were allegedly denied the liquidity information and price that they are entitled to under the law. UBS Puerto Rico must now pay a $14 million penalty, $11.5 million in disgorgement, and $1.1 million in prejudgment interest.

The SEC has also filed an administrative action against Miguel A. Ferrer, the company’s ex-CEO and vice chairman, and Carlos Ortiz, the firm’s capital markets head. Ferrer allegedly made misrepresentations, did not disclose certain facts about the closed-end funds, and falsely represented the funds’ market price and trading premiums. The Commission is accusing Ortiz of falsely representing the basis of the fund share prices.

In other stockbroker fraud news, the U.S. District Court for the District of Colorado has denied Morgan Keegan & Co. Inc.’s bid to vacate the over $40,000 arbitration award it has been ordered to pay over the way it marketed its RMK Advantage Income Fund (RMA). Judge Richard Matsch instead granted the investors’ motion to have the award confirmed, noting that there were “many factual allegations” in the statement of claim supporting the contention that the firm was liable.

Per the court, Morgan Keegan had argued that the arbitration panel wasn’t authorized to issue a ruling on the claimants’ bid for damages related to the marketing of the fund, which they had invested in through Fidelity Investment. Morgan Keegan contended that seeing as it had no business relationship with the claimants, it couldn’t be held liable for their losses, and therefore, the FINRA arbitration panel had disregarded applicable law and went outside its authority. The district court, however, disagreed with the financial firm.

In other stockbroker fraud news, the SEC has reached a settlement with a Florida attorney accused of being involved in a financial scam run by a viaticals company that defrauded investors of over $1 billion. The securities action, which restrains Michael McNerney from future securities violations, is SEC v. McNerney. He is the ex-outside counsel for now defunct Mutual Benefits Corp.

The MBC sales agent and the company’s marketing materials allegedly falsely claimed that viatical settlements were “secure” and “safe” investments as part of the strategy to get clients to invest. The viaticals company also is accused of improperly obtaining polices that couldn’t be sold or bought, improperly managing escrow premium funds in a Ponzi scam, and pressuring doctors to approve bogus false life expectancy figures.

McNerney, who was sentenced to time in prison for conspiracy to commit securities fraud, must pay $826 million in restitution (jointly and severally with other defendants convicted over the MBC offering fraud).

UBS Puerto Rico unit to pay $26.6 mln in SEC pact, Reuters, May 1, 2012

Morgan Keegan & Co. Inc. v. Pessel (PDF)

SEC Files Charges Against Former Attorney for Mutual Benefits, SEC, April 30, 2012

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Stockbroker Fraud Roundup: SEC Issues Alert for Broker-Dealers and Investors Over Municipal Bonds, Man Who Posed As Investment Adviser Pleads Guilty to Securities Fraud, and Citigroup Settles FINRA Claims of Excessive Markups/Markdowns, Stockbroker Fraud Blog, April 10, 2012

Commodities/Futures Round Up: CFTC Cracks Down on Perpetrators of Securities Violations and Considers New Swap Market Definitions and Rules, Stockbroker Fraud Blog, April 20, 2012

Institutional Investor Fraud Roundup: SEC Seeks Approval of Settlement with Ex-Bear Stearns Portfolio Managers, Credits Ex-AXA Rosenberg Executive for Help in Quantitative Investment Case; IOSCO Gets Ready for Global Hedge Fund Survey, Institutional Investor Securities Blog, March 29, 2012 Continue Reading ›

Court Rules that Victims of Fraudulent Sales of Derivative Securities Must File Separate Claims – No Class Action Allowed

Published on: May 11, 2012 | by Shepherd Smith Edwards & Kantas, LLP

The U.S. Court of Appeals for the Second Circuit has affirmed a lower court’s decision to not grant the petition of two pension funds asking to certify a class action of investors that allegedly suffered financial losses in mortgage-backed securities. The Second Circuit said that the Lower Court did not abuse its discretion by denying the motion for class certification.

The institutional investment fraud cases were argued together at both the district court and appeals court levels but have never been officially consolidated. In both mortgage-backed securities lawsuits, the lead plaintiffs—both pension funds—are accusing their respective defendants of making misleading and false statements in the different MBS prospectuses. They are seeking to recover their losses.

Although the MBS that the plaintiffs had purchased were given AAA credit ratings for the majority of the tranches, the delinquency and default rates in the underlying mortgages would go on to dramatically go up. The ratings agencies then went on to downgrade most of these tranches.

The plaintiffs are claiming that the defaults are an indicator that the subcontractors and issuers failed to follow underwriting guidelines. If this is true, then there were false statements in the registration statements at the time the MBS were bought.

While the plaintiffs had made their claims under the 1933 Securities Act’s Sections 11, 12, and 15, the appeals court said that only claims under Section 11 needed to be discussed, as the claims under the other two sections were derivatives of the Section 11 claims. Under Section 11, a prima facie case has to have proof that a registration statement included material misstatements or omissions. However, since it isn’t a fraud provision, a culpable mental state on the issuer’s part is not required.

Section 11 claims are subject to an affirmative defense in that the issuer can show that when the acquisition took place the buyer had knowledge about a specific omission or untruth. The district court held that to determine whether each buyer had knowledge of specific untruths or omissions at the time of purchase, individual inquiries overriding the common issues would be needed. This holding was affirmed by the appeals court. The second circuit also said that the district court only looked at the facts “on the limited record available on this case.” It noted that district court judge, Harold Baer Jr. has since this decision not to certify the plaintiffs in these two cases granted class certification in similar litigation. (Public Employees’ Retirement System of Mississippi v. Goldman Sachs Group)

The appeals court said that its review was limited to the class definition rejected by the lower court judge and to the record the way it was when the motion to certify was made. It said the appeals determination was “without prejudice to further motion practice in the district court on the matter.”

Boilermaker Blacksmith National Pension Trust v. Harborview Mortgage Loan Trust 2006-4 (PDF)

More Blog Posts:

H & R Block Subsidiary Option One Mortgage Corporation to Pay $28.2M to Residential Mortgage-Backed Securities Investors, Institutional Investor Securities Blog, April 25, 2012

FDIC Objects to Bank of America’s Proposed $8.5B Settlement Over Mortgage-Backed Securities, Stockbroker Fraud Blog, August 30, 2011

Private Fund Advisers Have Fiduciary Duty to Client Funds, Says SEC’s Di Florio

Published on: May 10, 2012 | by Shepherd Smith Edwards & Kantas, LLP

Speaking before the Private Equity International Private Fund Compliance Forum, Securities and Exchange Commission Office of Compliance Inspections and Examinations Director Carlo di Florio reminded the audience that investment advisers are fiduciaries to advisory clients, including client funds. He made his comments just as the SEC is preparing to start overseeing large private equity firm advisors. Di Florio was careful to emphasize that the views he was sharing were his own.

Per the Dodd Frank Wall Street Reform and Consumer Protection Act, private equity fund advisors must now register with the SEC. In the wake of this requirement, there are now nearly 4,000 investment advisers registered with the SEC. These private fund advisers offer advise on nearly 31,000 private funds with $8 trillion in assets.

Di Florio talked about how it was the responsibility of advisors of private equity firms to fairly allocate their expenses and fees. He said must pinpoint any conflicts related to the structure and kinds of investments that their funds usually make and ensure that these conflicts are correctly “mitigated and disclosed.” Regarding the need for pooled investment vehicle advisors to make sure that material facts are disclosed to current and potential investors, he said that to do otherwise could constitute securities fraud.

Dallas Man Involved in $485M Ponzi Scams, Including the Fraud Involving Provident Royalties in Texas, Gets Twenty Year Prison Term

Published on: May 8, 2012 | by Shepherd Smith Edwards & Kantas, LLP

A judge has sentenced Joseph Blimline to 20 years in prison over his involvement in two complex, oil and gas Ponzi scams that took place in Texas and Michigan. The Dallas man, who was sentenced to two counts of conspiracy, was actually sentenced to 240 months behind bars for each count, but U.S. District Judge Marcia A. Crone said the sentences could run concurrently. He also has to pay restitution to his Ponzi scheme victims.

Blimline is accused of working with others to run a Michigan Ponzi scam between November 2003 and December 2005. That financial fraud made more than $28 million before it fell part. The government says that fraudsters promised investors inflated return rates. Blimline would then use payments from newer investors to pay previous investors, while also diverting investor payments for his personal gain.

The scammers then moved the Ponzi scheme to Texas in 2006 where they started running Provident Royalties in Dallas. That fraud eventually made more than $400 million from about 7,700 investors. Blimline was accused of also making materially false representations to Texas and failing to disclose material facts to investors to get them to invest in Provident. Once again, investor money was used to pay other investors. Also, Blimline got millions of dollars in unsecured loans from the investors’ money and directed Provident’s purchase of worthless assets belonging to the Michigan venture.

The 11th Circuit Revives SEC Fraud Lawsuit Against Morgan Keegan Over Auction-Rate Securities

Published on: May 8, 2012 | by Shepherd Smith Edwards & Kantas, LLP

The 11th U.S. Circuit Court of Appeals has revived the US Securities and Exchange Commission’s fraud lawsuit against Morgan Keegan & Co. accusing the financial firm of allegedly misleading investors about auction-rate securities. The federal appeals court said that a district judge was in error when he found that alleged misrepresentations made by the financial firm’s brokers were immaterial. The case will now go back to district court. Morgan Keegan is a Raymond James Financial Inc. (RJF) unit.

The SEC had sued Morgan Keegan in 2009. In its complaint, the Commission accused the financial firm of leaving investors with $2.2M of illiquid ARS. The agency said that Morgan Keegan failed to tell clients about the risks involved and that it instead promoted the securities as having “zero risk” or being “fully liquid” or “just like a money market.” The SEC demanded that Morgan Keegan buy back the debt sold to these clients.

In 2011, U.S. District Judge William Duffey ruled on the securities fraud lawsuit and found that Morgan Keegan did adequately disclose the risks involved. He said that even if some brokers did make misrepresentations, the SEC had failed to present any evidence demonstrating that the financial firm had put into place a policy encouraging its brokers-dealers to mislead investors about ARS liquidity. Duffey pointed to Morgan Keegan’s Web site, which disclosed the ARS risks. He said this demonstrated that there was no institutional intent to fool investors. He also noted that a “failure to predict the market” did not constitute securities fraud and that the Commission would need to show examples of alleged broker misconduct before Morgan Keegan could be held liable.

Houston, Texas-Based Forethought Financial Group to Purchase The Hartford Financial Services Group’s Annuities Units

Published on: May 4, 2012 | by Shepherd Smith Edwards & Kantas, LLP

Forethought Financial Group, a privately-owned Houston based firm, is bringing more annuities business to Texas with its purchase of The Hartford Financial Services Group Inc. (HIG)’s annuities units. The deal was announced on April 26. It was just in March that The Hartford made it known that it was planning to get out of the annuities business to focus on mutual funds, group benefits, and property and casualty insurance. It will will, however, keep managing is current annuity policies.

The Hartford had reported huge earning losses in its annuities business. Earnings dipped from $96 million during to 2010’s final quarter to $86 million during 2011’s last quarter and its overall net income had also plunged downward to $127 million from $619 million the year before. Low interest rates also hurt the financial firm.

The terms of the sale to Forethought were not revealed. However, the Texas firm is buying The Hartford’s distribution, management, and marketing units.

SEC Changes to Enforcement Have Led to Enhanced Results, Says Khuzami

Published on: May 4, 2012 | by Shepherd Smith Edwards & Kantas, LLP

According to Securities and Exchange Commission Enforcement Director Robert S. Khuzami, the restructuring that has recently taken place at that agency’s division is allowing the SEC to not just improve the quality of its efforts but also its results. He spoke at a Practicing Law Institute conference earlier this month.

Not only has the enforcement division set up several specialized units that are each assigned a specific area of enforcement to focus on, but also market specialists from the private sector have been hired. Khuzami also said that the SEC has improved its handling of complex securities cases and is now detecting signs of alleged wrongdoing sooner.

In the last fiscal year, the Commission has opened 735 enforcement cases—a record number—and imposed $3 billion in penalties and disgorgement against alleged offenders. Moving forward, the Commission intends to continue placing a lot of its attention on going after parties that committed securities laws violations related to the economic crisis of 2008. The SEC has so far initiated 107 such securities cases. 74 of these are against individuals.

Morgan Stanley, Citigroup, Wells Fargo, and UBS to Pay $9.1M Over Leveraged and Inverse ETFs

Published on: May 3, 2012 | by Shepherd Smith Edwards & Kantas, LLP

Wells Fargo & Co. (WFC), UBS AG (UBSN), Morgan Stanley (MS), and Citigroup Inc. (C) have consented to pay a combined $9.1 million to settle Financial Industry Regulatory Authority claims that they did not adequately supervise the sale of leveraged and inverse exchange-traded funds in 2008 and 2009. $7.3 million of this is fines. The remaining $1.8 million will go to affected customers. The SRO says that the four financial firms had no reasonable grounds for recommending these securities to the investors, yet they each sold billions of dollars of ETFs to clients. Some of these investors ended up holding them for extended periods while the markets were exhibiting volatility.

It was in June 2009 that FINRA cautioned brokers that long-term investors and leveraged and inverse ETFs were not a good match. While UBS suspended its sale of these ETFs after the SRO issued its warning, it eventually resumed selling them but doesn’t recommend them to clients anymore. Morgan Stanley also had announced that it would place restrictions on ETF sales. Meantime, Wells Fargo continues to sell leveraged and inverse ETF. However, a spokesperson for the financial firm says that it has implemented enhanced procedures and policies to ensure that it meets its regulatory responsibilities. Citigroup also has enhanced its policies, procedures, and training related to the sale of these ETFs. (FINRA began looking into how leveraged and inverse ETFs are being marketed to clients in March after one ETN, VelocityShares Daily 2x VIX Short-Term (TVIX), which is managed by Credit Suisse (CS), lost half its worth in two days.)

The Securities and Exchange Commission describes ETFs as (usually) registered investment companies with shares that represent an interest in a portfolio with securities that track an underlying index or benchmark. While leveraged ETFs look to deliver multiples of the performance of the benchmark or index they are tracking, inverse ETFs seek to do the opposite. Both types of ETFs seek to do this with the help of different investment strategies involving future contracts, swaps, and other derivative instruments. The majority of leveraged and inverse ETFs “reset” daily. How they perform over extend time periods can differ from how well their benchmark or underlying index does during the same duration. Per Bloomberg, leveraged and inverse ETFs hold $29.3 billion in the US.

“These highly leveraged investments were – and still are – being bought into the accounts of unsophisticated investors at these and other firms,” said Leveraged and Inverse ETF Attorney William Shepherd. “Although most firms do not allow margin investing in retirement accounts, many did not screen accounts to flag these leveraged investments which can operate on the same principle as margin accounts.”

For investors, it is important that they understand the risks involved in leveraged and inverse ETFs. Depending on what investment strategies the ETF employs, the risks may vary. Long-term investors should be especially careful about their decision to invest in leveraged and inverse ETFs.

Finra Sanctions Citi, Morgan Stanley, UBS, Wells Fargo $9.1M For Leveraged ETFs, The Wall Street Journal, May 1, 2012
Leveraged and Inverse ETFs: Specialized Products with Extra Risks for Buy-and-Hold Investors, SEC
FINRA investigating exchange-traded notes: spokesperson, Reuters, March 29, 2012

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SEC to Investigate Seesawing Credit Suisse TVIX Note, Stockbroker Fraud Blog, March 30, 2012

Principals of Global Arena Capital Corp. and Berthel, Fisher & Company Financial Services, Inc. Settle FINRA Securities Allegations, Stockbroker Fraud Blog, April 6, 2012

Goldman Sachs to Pay $22M For Alleged Lack of Proper Internal Controls That Allowed Analysts to Attend Trading Huddles and Tip Favored Clients, Institutional Investor Securities Blog, April 12, 2012 Continue Reading ›

Global Investing Round Up: SEC Sues Chinese Company for Overstating Asset Values, 11th Circuit Reinstates Investor Claims Over Alleged Financial Scam in Involving India Entities, EC Calls for Delay in Imposing U.S. Swap Regulations, and Switzerland Propos

Published on: May 2, 2012 | by Shepherd Smith Edwards & Kantas, LLP

In SEC v. SinoTech Energy Ltd., Securities and Exchange Commission is suing SinoTech Energy Ltd. (CTESY), a Chinese oil field services company, for securities fraud. According to the Commission, SinoTech allegedly made misrepresentations about how its IPO proceeds were used, as well as misrepresented its assets’ value. The company also is accused of repeatedly deceiving both investors and the SEC, the latter with filings it submitted to the Commission in 2010 and 2011.

Per the SEC’s complaint, SinoTech claimed that $120 million of its IPO proceeds would be used to purchase lateral hydraulic drilling units when it spent less than $17 million to buy them. Also, its chairman, Qingzeng Liu, has admitted to skimming $40 million from a company bank account. This monetary withdrawal allegedly was not noted in SinoTech’s records or books. The Commission wants injunctive relief, disgorgement, and penalties from SinoTech and its chairman.

In other Global investment news, the 11th Circuit Appeals Court has decided to reinstate the unjust enrichment and racketeering claims made by investors over an alleged financial fraud involving City Group, which is based primarily in India, and the company’s affiliates in the US. The plaintiffs, Virendra Rajput and Mansingh Rajput, are claiming that they suffered financial losses after investing in a network of firms with ties to the Masood family. Rajput and Rajput are accusing the family of keeping the investments, running a financial racket, and never having intended to issue the payouts of high return rates that they promised investors. The two of them are also alleging that City Group’s US branches were set up to launder money from the scam in India.

Schwab Subsidiary OptionsXpress Accused of Naked Short Selling Scam by SEC

Published on: May 1, 2012 | by Shepherd Smith Edwards & Kantas, LLP

The Securities and Exchange Commission is accusing optionsXpress, a Charles Schwab Corp. (SCHW) subsidiary, of being involved in a naked short selling scheme between 2008 and 2010. The SEC filed an administrative order against the online futures and options brokerage and clearing agency, its CEO, and a client while settling with three other company officials. OptionsXpress didn’t come under Schwab’s ownership until 18 months after the alleged securities fraud occurred.

According to the Commission’s Division of Enforcement, the Chicago-based online futures and options brokerage and clearing agency did not meet its obligations under Regulation SHO because it repeatedly took part in a number of fake “reset” transactions that were created to make it appear as if the financial firm had bought securities of “like kind and quality.” CEO/CFO Thomas Stern, who is also named in the order, is accused of taking part in these transactions that resulted in a “continuous failures to deliver” securities to a clearing agency. Such alleged actions violate Commission rules because the SEC mandates that in most cases securities reach a clearinghouse within three days after a trade happens. Otherwise, the brokerage must borrow or buy the security so that the position is closed out by the start of the next trading day at the latest.

The alleged naked short-selling scam occurred when optionsXpress facilitated its customers’ buying of shares while at the same time selling deep-in-the-money call options that were pretty much the economic equivalent of selling shares short. Buying the shares made it appear as if the financial firm had fulfilled its close-out duty when, in fact, the shares that were purportedly bought in the reset transactions were never sent to the buyers because on the day that they were “purchased,” the deep-in-the money calls that occurred caused the shares to be effectively resold. Also, the reset transactions were not actual purchases because they were for perpetuating an open short position while making it appear as if Reg. SHO’s delivery and close out requirements were being met. As a result, optionsXpress and its clients were able to take part in a stock-kiting scheme that kept true stock purchasers from experiencing the benefits of ownership.

One optionsXpress customer, Jonathan I. Feldman, is also named in the SEC’s administrative order. He is accused of taking part in a number of these fake transactions involving several securities. For example, in 2009, he purchased $2.9 billion in securities while selling short at least $1.7 billion of options using his optionsXpress account.

OptionsXpress and Feldman intend to fight the SEC’s administrative order.

Meantime, optionsXpress trading and customer service head Peter Bottini and compliance officers Kevin Strine and Phillip Hoeh have settled the SEC’s allegations against them over the alleged naked short selling scheme. They are accused of knowing (or if they didn’t that they should have known) that the omissions or actions they committed contributed to optionsXpress violating Reg SHO. By settling, they are not denying or admitting to any wrongdoing.

Read the SEC’s administrative order (PDF)

SEC Charges OptionsXpress in Naked Short Selling Scheme, AdvisorOne, April 16, 2012

More Blog Posts:
FINRA Says Charles Schwab Corp. is Making Customers Waive Right to Pursue Class Action Lawsuits, Stockbroker Fraud Blog, February 8, 2012

Fontana Capital LLC Founder Violated Short-Selling Rule, Says SEC, Stockbroker Fraud Blog, February 2, 2011

Goldman Sachs to Pay $22M For Alleged Lack of Proper Internal Controls That Allowed Analysts to Attend Trading Huddles and Tip Favored Clients, Institutional Investor Securities Fraud, April 14, 2012 Continue Reading ›