Hearing Panel Dismisses Claims Against Charles Schwab & Company, Inc. Concerning Class Action Waiver

February 22, 2013 By Jay Eng

Yesterday, a Hearing Panel dismissed two claims brought by FINRA against Charles Schwab & Company (the “Broker”), Inc. concerning the Broker’s use of new provisions in customer agreements which provide that any customer claim against the Broker must be arbitrated solely on an individual, case-by-case basis.  The provisions provide that customers “waive any right to bring a class action, or any type of representative action” against the Broker or any related third party “in court.”  This would force all customer claims to arbitration without exception.   Since FINRA rules prohibit class actions in arbitration, the provision would have the effect of barring any class actions against the Broker in any forum.

In response to the use of these new provisions, FINRA brought an enforcement action against the Broker claiming that such class action waivers violate FINRA rules which prohibit members from imposing “limits” on the ability of a party to file a a claim in court if the rules of the of the forum where the claim might otherwise be filed permit filing in court.

According to the Decision,

The first two causes of action in this disciplinary proceeding against Respondent, Charles Schwab & Company, Inc., charge that new provisions in Respondent’s customer agreements by which a customer waives any ability to assert a claim by means of a judicial class action conflict with and violate FINRA Rules 2268(d)(1) and (d)(3) and NASD Rules 3110(f)(4)(A) and (4)(C). These Rules operate to preserve judicial class actions as an alternative to arbitration, even when there is a pre-dispute arbitration agreement between a FINRA member firm and its customer. The Hearing Panel concludes that Respondent’s new language does conflict with and violate these Rules. The Hearing Panel further concludes, however, that these Rules may not be enforced. Enforcement is foreclosed by the Federal Arbitration Act, as construed by the Supreme Court in Concepcion and other decisions. Those decisions hold that adjudicators must enforce
agreements to go to arbitration to resolve disputes and must reject any public policy exception that disfavors arbitration, unless Congress itself has indicated an exception to the Act. Accordingly, the Hearing Panel dismisses the first two causes of action.

FINRA may appeal the hearing panel’s decision to the National Adjudicatory Council or NAC.

Compelling arbitration has been a hot issue over recent years with the Concepcion decision and the enactment of Section 921 of Dodd-Frank which gives the SEC authority to limit or prohibit the use of mandatory arbitration provisions.

Dept. of Enforcement v. Charles Schwab & Company, Inc., Disciplinary Proceeding No. 2011029760201 (Feb. 21, 2013).   See the decision here.

FINRA Proposes Rule to Increase the Promotion of BrokerCheck Website to Assist Investors in Their Investigation of Brokers and Their Firms

January 30, 2013 By Jay Eng

The Securities and Exchange Commission (“SEC”) has issued a notice of a proposed rule change to FINRA Rule 2267 to require that members include a prominent description of and link to FINRA BrokerCheck on the “on their Web sites, social media pages and any comparable Internet presence and on Web sites, social media pages and any comparable Internet presence relating to a member’s investment banking or securities business maintained by or on behalf of any person associated with a member.”  The intent of this rule is to promote the use of BrokerCheck by investors.  See the proposed rule here.

In 1988 FINRA established BrokerCheck (previously, the “Public Disclosure Program”) to provide the investors with information on the background and conduct of FINRA member firms and their associated persons.  The information that FINRA releases to the public through BrokerCheck is derived from the Central Registration Depository (‘‘CRD’’), the securities industry online registration and licensing database.  FINRA-member firms, their associated persons and regulators report information to the CRD system.  Red flags, such as prior complaints and disciplinary history, are useful information to customers, and can assist investors in choosing the brokers to work with.

FINRA’s BrokerCheck tool can be found here.

Wells Real Estate Funds Retreats From Non-Traded REIT Offerings

January 16, 2013 By Jay Eng

Investment News Is reporting that Wells Real Estate Funds is halting non-traded REIT offerings at this time. According to the report,

Wells Real Estate Investment Trust II is moving to become an independent company early this year and the Wells Core Office Income REIT will close to new investments in June, Mr. Wells wrote. The Wells Timberland REIT is also looking toward “its appropriate exit strategy,” he added.

Mr. Wells is one of the most noted real estate sponsors in the independent-broker-dealer industry. Many B-Ds have long sold his REITs, but the nontraded-REIT business is changing in the aftermath of the collapse of the commercial real estate market and credit crisis in 2008.

Mr. Wells is also one of the most outspoken and colorful figures in an industry that has generated plenty of headlines in the past decade. In October 2003, Finra’s precursor, NASD, sanctioned Wells Investment Securities for improperly rewarding broker-dealer reps who sold the company’s REITs. Those rewards included lavish entertainment and travel perquisites. At the time, the regulator also censured Mr. Wells and suspended him from acting in a principal capacity for one year.

Non-traded REITs have come under increased scrutiny recently as brokerage firms improperly recommended these illiquid investments to many of their clients.  Recently regulators filed a complaint against LPL Financial concerning Cole Credit Property Trust II, Inc., Cole Credit Property Trust III, Inc., Cole Property 1031 Exchange, Wells Real Estate Investment Trust II, Inc., WP Carey Corporate Property Associates 17, and Dividend Capital Total Realty.

Interesting Facts from FINRA’s 2013 Year in Review Including ETFs, Structured Products and Non-Traded REITS

January 9, 2013 By Jay Eng

On January 8, 2013, FINRA issued a release discussing highlights from 2013. In 2012, FINRA assessed $68 million in fines, ordering a record $34 million in restitution to injured customers.

According to the report, FINRA’s Office of Fraud Detection and Market Intelligence referred 692 cases of potential fraud to the Securities and Exchange Commission and other law enforcement agencies.  Among the cases referred were 347 insider trading matters and 260 other fraud-related matters.

FINRA counted as significant accomplishments concerning actions WR Rice, Hudson Valley and TWS Financial.  As to WR Rice, FINRA filed an action to halt fraudulent sales activities by WR Rice Financial Services and its owner, as well as the conversion of investors’ funds or assets.  As to Hudson Valley, FINRA expelled the firm and barred the CEO for defrauding its clearing firm and customers by using their funds and securities to cover losses caused by the CEO’s manipulative day trading.  As to TWS Financial, FINRA filed a complaint alleging affinity fraud targeting the Polish community.

Disciplinary actions included cases involving , among other things, exchange-traded funds, structured products and non-traded REITs.  As to these complex products, FINRA pointed to the following actions:

Non-traded REITs – FINRA sanctioned David Lerner Associates, the firm’s founder, President and CEO, and the firm’s head trader in an action related to the non-publicly traded Apple REITs involving suitability and supervision violations. The settlement also consolidated numerous matters, including a municipal and CMO markup case, a pending enforcement investigation of more recent municipal and CMO markups, and 10 pending market regulation matters involving municipal markups identified through surveillance reviews.

Improper Sales of ETFs – FINRA sanctioned Citigroup Global Markets, Inc; Morgan Stanley & Co., LLC; UBS Financial Services; and Wells Fargo Advisors, LLC a total of more than $9.1 million for selling leveraged and inverse ETFs without reasonable supervision and for not having a reasonable basis for recommending the securities. The firms were fined more than $7.3 million and are required to pay a total of $1.8 million in restitution to certain customers who made unsuitable leveraged and inverse ETF purchases. In addition, FINRA also brought similar cases against Merrill Lynch and Scott & Strongfellow.

Structured Products – Merrill Lynch was fined $450,000 for supervisory failures relating to the sales of structured products to retail customers. The firm relied upon automated exception-based reporting systems to flag transactions and/or accounts that met certain pre-defined criteria, but did not specifically monitor for potentially unsuitable concentration levels.

Finally, FINRA highlighted its efforts to protect investors including the implementation of “a new suitability rule requiring a broker-dealer or their associated persons to have a ‘reasonable basis’ to believe a recommended transaction is suitable for the customer, based on information obtained through ‘reasonable diligence’ to understand a customer’s investment profile.” FINRA published a FAQ on the rule.

 

 

 

Former Walnut Creek Securities, Inc. Representative Fined $40,500 and Suspended in Connection with Private Securities Transactions

December 19, 2012 By Jay Eng

Former Walnut Street Securities Representative John Thomas Gaspar was fined and suspended in connection with selling away according to an AWC he entered into with FINRA in October 2012.  According to the AWC,

From about September 2007 through about April 2009, Gasper participated in private securities transactions without providing prior written notice to, and obtaining prior written approval from, the Firm. Specifically, Gasper was involved in the sale of approximately $200,000 in DLG secured investment notes and $272,000 in CMC promissory notes, as part of two private offerings to five investors, all of whom were customers of the Firm at the time. The secured investment notes and promissory notes sold were securities. Gasper received approximately $30,491.14 in commissions as a result of those transactions. By participating in private securities transactions without providing prior written notice to, or obtaining prior written approval from, his employer member firm, Gasper violated NASD Conduct Rules 2110 (for conduct before December 15, 2008) and 3040 and FINRA Rule 2010 (for conduct after December 14, 2008)

The respondent was fined $40,500 and suspended for six-months.

Department of Enforcement v. John Thomas Gaspar III (CRD 2732961) , Disciplinary Proceeding No. 2011028660001.

FINRA Fines GFI Securities LLC $2.1 Million In Connection with Alleged Collusive Misconduct

December 19, 2012 By Jay Eng

FINRA has announced that GFI Securities LLC (“GFI”) was censured and fined $2.1 million in connection with claims that it had engaged in  “collusive interactions in 2005 and 2006 … among FINRA-registered brokers whereby the brokers sought to frustrate their customers’ efforts to obtain competitive brokerage rates on credit default swap (CDS) transactions.”  GFI was one of a “relatively small number of firms that brokered inter-dealer CDS transactions.”  The complaint alleges that “[i]n response to certain commission reduction proposals, and unbeknownst to the customers, the individual Respondents in this proceeding and their counterparts at competing firms colluded with one another in an effort to keep the customers from obtaining CDS brokerage services at more favorable fates. By knowingly engaging in anticompetitive conduct through which they benefited themselves at their customers expense.”

FINRA alleged that GFI “lacked reasonable supervisory procedures to prevent misconduct of the kind alleged” and “failed to adequately supervise the activities of the firm’s CDS brokers so as to prevent such misconduct.”

Dept. of Market Regulation v. GFI Securities, LLC (CRD No. 19982), Disciplinary Proceeding No.20060051583.

FINRA Fines Seattle-Northwest Securities Corp., Investment Professionals Inc. and Wunderlich Securities Inc. for Violating MSRB Rules

December 19, 2012 By Jay Eng

The Bond Buyer is reporting that FINRA has fined Seattle-Northwest Securities Corp., Investment Professionals Inc.,  Wunderlich Securities, Inc. for violations of rules of the Municipal Securities Rulemaking Board (“MSRB”).

According to FINRA, was fined $87,500 for its alleged violations, Wunderlich was fined $36,500 and Investment Professional was fined $17,500.   See the FINRA Report here.

Morgan Keegan Enters Into AWC with FINRA Over Leveraged / Non-Traditional ETFs

November 7, 2012 By Jay Eng

On October 24, 2012 Morgan Keegan & Company, Inc. (“Morgan Keegan”) entered into a Letter of Acceptance, Waiver and Consent (“AWC”) with FINRA concerning its supervision of of sales of “Non-Traditional ETFs” which were “not sufficiently tailored to address the unique features and risks involved with these products.”  FINRA rules require a “broker to perform reasonable diligence to understand the nature of a recommended security, as well as the potential risks and rewards.”

In the AWC, FINRA contented, among other things, that

During the period from January 2008 through June 2009 (the “Relevant Period”), Morgan Keegan failed to establish and maintain a supervisory system, including written procedures, reasonably designed to achieve compliance with applicable NASD and/or FINRA rules in connection with the sale of leveraged, inverse, and inverse-leveraged Exchange-Traded Funds (“Non-Traditional ETFs“). Leveraged ETFs seek to deliver multiples of the performance of the index or benchmark they track. Some Non-Traditional ETFs are “inverse” or “short” funds, meaning that they seek to deliver the opposite of” the performance of the index or benchmark they track. Some funds are both inverse and leveraged, meaning that they seek to achieve a return that is a multiple of the inverse performance of the underlying index or benchmark.

Non-Traditional ETFs have certain risks that are not found in traditional ETFs, such as the risks associated with a daily reset, leverage and compounding. The performance of Non-Traditional ETFs over longer periods of time can differ significantly from the performance of their underlying index or benchmark, especially in volatile markets. Nonetheless, Morgan Keegan supervised Non-Traditional ETFs the same way it supervised traditional ETFs. Thus, Morgan Keegan failed to establish a reasonable supervisory system and written procedures to monitor the sale of Non-Traditional ETFs. Morgan Keegan also failed to establish adequate formal training regarding Non-Traditional ETFs during the Relevant Period.

See FINRA Letter of Acceptance, Waiver and Consent, No. 20090191135 (10/24/2012) (emphasis added).

 

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