FINRA Fines Firm for Option Trading Approval System

April 26, 2024

The Firm did not exercise reasonable due diligence before approving certain customers to trade options. During this period, the firm relied primarily on an automated, electronic approval system to approve or disapprove customers for options trading. However, the system was not reasonably designed and resulted in certain customers being approved for options trading levels despite red flags that the approved level was potentially inappropriate for them.

FINRA Fines Firm for Use of Social Media Influencers

March 18, 2024

FINRA fined a firm which paid individuals with followings on social media sites (commonly known as “influencers”) to promote the firm in social media communications. M1 Finance’s influencers posted on the firm’s behalf communications about the firm that were not fair and balanced or made claims that were exaggerated, unwarranted, promissory, or misleading.

Court Sanctions SEC for Bad Faith Conduct

March 18, 2024

A Utah federal judge sanctioned the U.S. Securities and Exchange Commission over misstatements its counsel made to obtain emergency measures against crypto project Debt Box, ordering the regulator to pay both the defense’s and receiver’s attorney fees as well as legal costs arising from the regulator’s “bad faith conduct.”  “The Commission’s above-discussed conduct constitutes a gross abuse of the power entrusted to it by Congress and substantially undermined the integrity of these proceedings and the judicial process,” Judge Shelby wrote in his 80-page order.

Customer Files Suit – Claiming Firm Failed to Review WhatsApp Messages Resulting in Loss of the Customer’s Entire Account

February 6, 2024

In Customer Ting’s complaint it states that “Ting opened the Merrill account in December 2020, in the midst of the COVID pandemic, to temporarily park the SBA loan proceeds in relatively safe investments while he contemplated how to use the funds in a potential new business. Copies of checks that were provided to Merrill to fund the account and multiple WhatsApp word for word transcripts corroborate Ting’s claims that Merrill employees were advised and aware that the account was funded by SBA loan proceeds, which by their very nature required careful, conservative and low-risk management. Merrill was also advised before the account was opened that Ting had never previously engaged in options transactions or used margin debt. Despite these clear and unequivocal warnings, after a short period of uneventful investing, Merrill financial advisor Fernando Costa (“Costa”) and his assistant Guilherme Moreira (“Moreira”) directed Ting into uncovered or naked call writing, a highly speculative and risky options strategy conducted on margin. Shortly thereafter and as a result, Ting lost his entire $250,000 investment and incurred a $70,000 margin debt.

FINRA Orders Four Firms to Pay $2.6 Million for Violations Relating to Fully Paid Securities Lending

December 7, 2023

FINRA announced that it has sanctioned four firms a combined $2.6 million, including over $1 million in restitution to retail customers enrolled in fully paid securities lending programs and fines of $1.6 million for the firms’ related supervisory and advertising violations.

The four broker-dealer firms that FINRA has sanctioned failed to establish, maintain, and enforce a supervisory system, including written supervisory procedures, reasonably designed to supervise their fully paid securities lending offerings. Although each firm agreed in contracts with their clearing firm to determine which of its customers were appropriate for participation in fully paid securities lending, the firms did not establish any criteria for customer participation or take any steps to make appropriateness determinations prior to enrolling their customers in fully paid securities lending. Instead, they enrolled all new customers in fully paid securities lending at account opening. The firms also provided customers with disclosure documents that contained misrepresentations that customers would receive compensation for the lending of their securities, including in the form of a “loan fee.” In fact, the customers did not receive any compensation.

FINRA REG BI CCO Enforcement Action: A Canary in a Coal Mine?

November 13, 2023

FINRA recently brought a settled enforcement case against a chief compliance officer (CCO) because his firm allegedly violated Regulation Best Interest (Reg BI) due to inadequate procedures pertaining to excessive trading. For this violation, the CCO wasn’t charged for supervisory failures;1 he didn’t affirmatively participate in misconduct unrelated to his compliance function; he didn’t intentionally help to mislead regulators; and there is no evidence that he
exhibited a wholesale failure to carry out his responsibilities. Nonetheless, he was charged and sanctioned.  Should CCOs be worried that they will be sanctioned more and more in the future for their firms’ compliance failures?

SEC Division of Examinations Announces 2024 Priorities

October 16, 2023

The Securities and Exchange Commission’s Division of Examinations released its 2024 examination priorities to inform investors and registrants of the key risks, examination topics, and priorities that the Division plans to focus on in the upcoming year. This year’s examinations will prioritize areas that pose emerging risks to investors or the markets in addition to core and perennial risk areas. See link to 2024 Exam Priorities below:

SEC Charges 10 Firms with Widespread Recordkeeping Failures

September 29, 2023

The Securities and Exchange Commission announced charges against five broker-dealers, three dually registered broker-dealers and investment advisers, and two affiliated investment advisers for widespread and longstanding failures to maintain and preserve electronic communications. The firms admitted the facts set forth in their respective SEC orders and acknowledged that their conduct violated recordkeeping provisions of the federal securities laws. The firms agreed to pay combined penalties of $79 million as outlined below and have begun implementing improvements to their compliance policies and procedures to address these violations. The SEC’s investigations uncovered pervasive and longstanding off-channel communications at all 10 firms. As described in the SEC’s orders, the broker-dealer firms admitted that, from at least 2019, their employees communicated through personal text messages about the business of their employers, and the investment adviser firms admitted that their employees sent and received off-channel communications related to recommendations made or proposed to be made and advice given or proposed to be given. The firms did not maintain or preserve the substantial majority of these off-channel communications, in violation of the federal securities laws.

SEC Charges Firm with Recordkeeping Failures concerning Underwriting Expenses

August 29, 2023

The Securities and Exchange Commission announced settled cease-and-desist proceedings against broker-dealer Citigroup Global Markets Inc. (CGMI) for willfully violating recordkeeping requirements concerning expenses that the firm incurred in connection with its underwriting business. Recordkeeping requirements of the federal securities laws require broker-dealers to make and keep current certain books and records, including ledgers or other records reflecting all assets and liabilities. The SEC’s order finds that, from at least 2009 through May 2019, CGMI used an unsubstantiated and unverified method to calculate and record indirect expenses associated with its work as an underwriter. According to the SEC’s order, CGMI calculated an indirect expense amount based on a fixed percentage of the underwriting fee for each deal where it was engaged as a lead underwriter and then, using fixed “allocation grids,” divided that amount into specific categories of expenses. The order finds that, upon calculating these indirect expenses through this unsubstantiated method, CGMI recorded the amounts in its general ledger. According to the order, for at least a decade, CGMI did not know the basis of this indirect expense calculation method and conducted no review or similar process to verify that this method was reasonable.

FINRA Fines Firm $6 Million for Longstanding AML Program Failures

July 11, 2023

FINRA announced that it has fined Merrill Lynch, Pierce, Fenner & Smith Inc. $6 million for failing to establish and implement policies, procedures, and internal controls reasonably designed to cause the reporting of suspicious transactions as required by the Bank Secrecy Act. In particular, Merrill Lynch failed to apply the correct threshold to report suspicious activities for more than 10 years and, as a result, failed to file nearly 1,500 Suspicious Activity Reports.

SEC Charges Private Equity Fund Adviser for Overcharging Fees and Failing To Disclose Fee Calculation Conflict

June 20, 2023

The Securities and Exchange Commission charged a New York-based investment adviser Insight Venture Management LLC with charging excess management fees and failing to disclose a conflict of interest to investors relating to its fee calculations. To settle the SEC’s charges, Insight agreed to pay a $1.5 million penalty and $864,958 in disgorgement and prejudgment interest, which has already been paid back to the impacted funds. According to the SEC’s order, Insight’s limited partnership agreements for certain funds it advised allowed it to charge management fees based on the funds’ invested capital in individual portfolio investments and required Insight to reduce the basis for these fees if Insight determined that one of these portfolio investments had suffered a permanent impairment. The order finds that, from August 2017 through April 2021, Insight charged excess management fees by inaccurately calculating management fees based on aggregated invested capital at the portfolio company level instead of at the individual portfolio investment security level, as required by the applicable limited partnership agreements. Further, the SEC’s order finds that Insight failed to disclose to investors a conflict of interest in connection with its permanent impairment criteria. Because Insight did not disclose its permanent impairment criteria, investors were unaware that the criteria Insight used were narrow and subjective, making them difficult to satisfy. Therefore, the order finds that Insight’s investors were unaware that Insight’s permanent impairment criteria granted Insight significant latitude to determine whether an asset would be considered permanently impaired so as to reduce the basis used to calculate Insight’s management fees.

SEC Charges Firm for Failing to Disclose Foreign Exchange Fees to Clients

April 3, 2023

The Securities and Exchange Commission today charged Merrill Lynch, Pierce, Fenner & Smith Incorporated for charging advisory clients more than $4 million in undisclosed foreign exchange fees for transfers to or from their accounts. To settle the charges, Merrill Lynch has agreed to pay disgorgement, prejudgment interest, and a civil penalty totaling more than $9.5 million and has agreed to distribute funds to harmed clients.

FINRA Fines Firm $3 Million for Options Customer Approval Violations

March 9, 2023

FINRA found that the firm did not exercise reasonable due diligence before approving customers for options trading. During this period, the firm employed an automated system to review customer applications for options trading, but the system failed to compare new applications with information previously provided by the customer. This led to the Firm’s approval of customers for options trading who did not satisfy the firm’s eligibility criteria, or whose accounts contained red flags that options trading was potentially inappropriate for them.  For example, the firm approved more than 2,500 customers under the age of 21 to trade options spreads, even though the firm’s eligibility criteria required customers have at least three years of options trading experience before being approved for that trading level. In addition, due to program errors in the firm’s automated systems, the firm mistakenly approved 9,000 accounts for options trading even though those customers stated that they did not have any investment experience — an acknowledgement that should have made the customers ineligible to trade options under the firm’s eligibility criteria.  FINRA separately found that from May 2018 through December 2021, the Firm’s supervisory system created to identify and respond to customer complaints was not reasonably designed.

FINRA Fines Firm for Failure to Retain Business-related Apple iPhone-to-iPhone messages

January 9, 2023

A Firm was fined $200,000 and required to remediate the issues identified in the AWC and implement a supervisory system, including WSPs, reasonably designed to achieve compliance with FINRA Rule 4511. Without admitting or denying the findings, the firm consented to the sanctions and to the entry of findings that it failed to retain business-related Apple iPhone-to-iPhone messages, called iMessages sent and received by its registered representatives on firm-owned iPhones. The findings stated that the firm permitted firm personnel to utilize text messages for work-related purposes on firm-owned mobile phones. By default, iPhones automatically create end-to-end encrypted iMessages that the firm’s third-party archiving system does not have the technological capability to capture. Given that the firm knew it could not archive iMessages, the firm sought to disable or block the iMessage function for the iPhones it had previously issued, and for those going forward, so that text messages would be sent as retainable messages, and thereafter archived by the firm’s third-party service. While attempting to apply the disabling control to new employees’ iPhones, the firm personnel noticed that the disabling control was not disabling iMessages on new iPhones, possibly because of an issue with a new version of iPhone’s operating system. Ultimately, the firm individual who was coordinating the deployment of the iMessage disabling control left the firm and that person’s responsibilities were not fully transitioned to a new person. Accordingly, the original blocking control ceased working, or was never applied, on an increasing number of firm-owned iPhones. Subsequently, a firm representative referenced sending and receiving specific text messages that the firm could not find in its archiving system. Upon investigation, the firm learned that the referenced text messages were iMessages, not retainable messages, and thus were not being archived by the firm’s third-party system. Thereafter, the firm collected firm-owned iPhones from its representatives and uploaded iMessages from those iPhones into the firm’s archiving system to perform a supervisory review. Only four of the iPhones that the firm collected had the iMessage function disabled, meaning that many firm-owned iPhones that were collected were not compliant with its original iMessage blocking control. While conducting the supervisory review, the firm also worked in concert with vendors to deploy a more robust blocking control to disable the iMessage feature on firmowned iPhones. As a result of the more robust blocking control, text messages are now sent as retainable messages, which are captured by the firm’s third-party service.

FINRA Fines Representative for Facebook Posts

December 1, 2022

Between January 2016 and November 2019, while associated with Planner Securities, a representative authored 22 posts on a public Facebook page that did not comply with FINRA’s rules regarding communications with the public. A number of the representative’s posts contained claims about the performance and purported success of an investment club that he operated and a hedge fund at which he traded, both of which were approved outside business activities. These posts, however, failed to provide sufficient facts to allow for a sound basis of the evaluation of those claims. Additionally, a number of his posts were options-related but did not contain disclosures about the risks of options, were posted prior to delivery of an options disclosure document, and were posted without firm principal approval or pre-submission to FINRA’s Advertising Regulation Department.

FINRA Issues AWC for Over Concentration in Energy-Sector Securities

October 19, 2022

FINRA issued an AWC in which the firm was censured, fined $100,000 and ordered to pay $145,019, plus prejudgment interest, in restitution to
customers. Without admitting or denying the findings, the firm consented to the sanctions and to the entry of findings that it failed to reasonably supervise registered
representatives who recommended that their customers invest an unsuitably high percentage of their assets in energy-sector securities. The findings stated that the
representatives recommended that customers purchase additional energy-sector securities even after their accounts were already concentrated in that sector.
Although trades recommended in the customers’ accounts generated many alerts, the firm failed to take reasonable steps to understand the potential risks
and rewards associated with these recommendations or to determine whether the recommendations were suitable in light of these customers’ investment profiles.
Moreover, the firm did not prevent the representatives from recommending that the customers further concentrate their accounts in securities in the energy sector.
As a result, the customers suffered realized losses on certain positions even after accounting for the income the investments generated. The firm has already paid
restitution to eight of the 11 customers who suffered losses. The amount of ordered restitution reflects the losses incurred by the customers to whom the firm has not
yet paid restitution.

https://www.finra.org/sites/default/files/fda_documents/2016051156903%20Janney%20Montgomery%20Scott%2C%20LLC%20CRD%20463%20AWC%20geg%20%282022-1668817213160%29.pdf

SEC Charges 16 Wall Street Firms with Widespread Recordkeeping Failures

September 27, 2022

The Securities and Exchange Commission today announced charges against 15 broker-dealers and one affiliated investment adviser for widespread and longstanding failures by the firms and their employees to maintain and preserve electronic communications. The firms admitted the facts set forth in their respective SEC orders, acknowledged that their conduct violated recordkeeping provisions of the federal securities laws, agreed to pay combined penalties of more than $1.1 billion, and have begun implementing improvements to their compliance policies and procedures to settle these matters.

• The following eight firms (and five affiliates) have agreed to pay penalties of $125 million each:
  • Barclays Capital Inc.;
  • BofA Securities Inc. together with Merrill Lynch, Pierce, Fenner & Smith Inc.;
  • Citigroup Global Markets Inc.;
  • Credit Suisse Securities (USA) LLC;
  • Deutsche Bank Securities Inc. together with DWS Distributors Inc. and DWS Investment Management Americas, Inc.;
  • Goldman Sachs & Co. LLC;
  • Morgan Stanley & Co. LLC together with Morgan Stanley Smith Barney LLC; and
  • UBS Securities LLC together with UBS Financial Services Inc.
• The following two firms have agreed to pay penalties of $50 million each:
  • Jefferies LLC; and
  • Nomura Securities International, Inc.
• Cantor Fitzgerald & Co. has agreed to pay a $10 million penalty.

https://www.sec.gov/news/press-release/2022-174

SEC Charges Firm and Five Brokers with Violations of Reg BI

June 16, 2022

The Securities and Exchange Commission charged a broker-dealer and five of its registered representatives, with violating Best Interest Obligation regulations (commonly referred to as Regulation Best Interest or Reg BI) when they recommended and sold an unrated, high-risk debt security known as L Bonds to retirees and other retail investors.

The broker-dealer and the brokers recommended and sold L Bonds to retail customers, many of whom were on fixed incomes and had moderate risk tolerances, despite the issuer, GWG Holdings, Inc., stating the L bonds were high risk, illiquid, and only suitable for customers with substantial financial resources. The defendants allegedly failed to comply with Reg BI’s “Care Obligation” both because they did not exercise reasonable diligence, care, and skill to understand the risks, rewards, and costs associated with L Bonds, and also because they recommended L Bonds to at least seven particular customers without a reasonable basis to believe the bonds were in their customers’ best interests. The complaint also alleges the broker-dealer failed to comply with Reg BI’s “Compliance Obligation” because it did not adequately establish, maintain, and enforce written policies and procedures reasonably designed to achieve compliance with Reg BI.

https://www.sec.gov/news/press-release/2022-110