There are different degrees of investor fraud, ranging from the lack of alignment between your interests and those of your stock broker to the notoriety of billion-dollar scam artists like Bernie Madoff. How do you calculate a figure like this? It’s difficult. But between structural problems like a lack of fiduciary duty between investors and advisors to criminal enterprises like Ponzi Schemes, the losses to investors are in the many billions.
Interestingly, comparatively few Americans realize that, under certain circumstances, they can sue their stock broker and his or her brokerage firm in the even that something goes wrong in the account. The most important part of that sentence is really “under certain circumstances.” While those circumstances are certainly not unlimited, there are a number of issues related to financial professional malpractice that come up again and again.
The Securities Industry and Financial Markets Association, or SIFMA, has long advocated free and efficient capital markets in the United States. Recently, the organization came out in favor of a proposal by the securities industry self-regulator, FINRA, to force registered brokerage firms to contribute to an investor compensation fund. The fund would be earmarked for investors who have been injured by broker misconduct and investment fraud, and it would allow them to recover even when a brokerage company has gone bankrupt or out of business.
Financial scam artists are some of the most sophisticated criminals around. However, if you ask many law enforcement officials and regulatory agencies, investors often play right into their hands by not being cautious enough when vetting a new investment opportunity or by getting carried away into believing a “too good to be true scheme” that involves “no risk” and “huge returns.” There’s a reason why the Ponzi Scheme, invented around the turn of the 20th century, is still doing big business one hundred years later.
Last week, the securities industry watchdog FINRA issued a new Investor Alert concerning “Social Sentiment” tools and investing. According to the regulatory agency, a new form of investing data has been taking hold of investors, and it’s not so reliable.
A few weeks ago the securities industry watchdog, FINRA, announced that it had received reports that scam artists had been calling the public and impersonating FINRA executes. This week, FINRA warned investors about a new scam: fraudsters who impersonate brokers and financial advisors.
In order to strengthen the message that such schemes will not be tolerated, and will be punished tot he fullest extent of the law, the financial industry watchdog agency, FINRA, has begun to look at the role of individual brokers in shoring up the Woodbridge scam. After all, Woodbridge’s success, during which it swelled to a value of over $1.2 billion at its peak, relied heavily upon an extensive network of brokers and investment professionals who sold Woodbridge promissory notes to retail investors.
In a new alert, the SEC is seeking the help of investors to do background checks on new and existing brokers who may or may not be registered financial and investment advisors.
Following on the heels of a recent report by the NASAA, a group responsible for monitoring the securities industry, which showed that many broker-dealers are not doing enough to monitor “rogue brokers” with a history of multiple indiscretions on their permanent records, news broke recently that supervision of brokers may be further eroded if changes proposed by the Financial Industry Regulatory Authority (FINRA) are passed into official regulation.
A group of attorneys who advocate for investors is trying to change all that. PIABA (Public Investors Arbitration Bar Association) recently issued a lengthy report on the negative impact non-attorney representatives (or, NARs, as they call them) have on investor interests.
Some brokers start cheating early. A recent Reuters piece reminded us of how important it is for retail investors to remain ever-vigilant when dealing with representative of a financial industry so rife with rule-benders and rule-breakers. As you may know, the industry watchdog, FINRA (Financial Industry Regulatory Authority) requires would-be brokers to pass a series of licensing exams before they can handle other people's money. The most common exam is known as the "Series 7," or general stockbroker exam, and it's a 250 multiple-choice question test that ensures candidates have a strong grasp of industry rules and regulations as well as how to invest appropriately according to client risk tolerances and investment objectives. In 2012, according to FINRA, around 32% of Series 7 test-takers failed the exam. Another handful cheated and got caught. Who knows how many cheated and didn't get caught.
Normally, a candidate who gets caught cheating on any of the FINRA exams will be banned from the financial industry. In rare cases, he or she will receive a lengthy suspension. Some of the more colorful examples of broker cheating include hiring a better prepared test-taker to ace the exam; stashing review materials in the ceiling tiles of a test center bathroom; and using the old cheat-sheet during the test. Although new technologies such as palm scanning, test randomization (which means each individual gets a unique test generated from scores of possible questions, so peeking at your neighbor's answers is pointless), and in some cases video surveillance have significantly cut back on the amount of broker subterfuge going on each year, the impulse to game the system remains alive and well in some shady quarters. And apparently it's not just aspiring brokers who are guilty of cheating, it's test-prep professionals, too, who try to steal test questions to better prepare their students.
Although it's amusing to hear anecdotes like these, which harken back to high school midterms or the SATs, we must remember that these cheaters could have been our future brokers, the ones handling our life-savings or 401Ks. And again, not every cheater gets caught. And some cheaters, as we've seen in so many of our cases, are late bloomers. They wait till they pass their exams before they really start cheating.
If you or anyone you know has been the victim of broker fraud or misconduct, please contact us immediately for a free consultation.
Brokerages have a primary fiduciary and legal obligation to protect their clients. Period. Unfortunately, greed and other unsavory considerations often get the best of them, and far too many brokerages tend to lose sight of this fundamental tenet of the financial industry. Soon, they’re serving themselves at the expense of their clients. A recent article on the Financial Regulatory Authority’s disciplinary actions against Cedar Brook Financial Partners for allegedly making false statements about high-risk funds sold to wealth management firm Pepper Pike is another sharp reminder that brokerages are often willing to bend or break the rules to turn a profit.
According to the article, FINRA punished Cedar Brook for making “false and misleading statements” about two funds: Medical Capital Holdings Inc, or MedCap, and IMH Fund, a security backed by subprime mortgages. MedCap in particular created massive problems for firms like Cedar Brook, when the Anaheim, CA-based company was revealed to be a Ponzi scheme sold to investors across the country and totalling nearly $2.2 billion in notes. The fraud was exposed by the SEC. The whole works. Oh boy.
Now, MedCap was a superlative fraud. But that’s got nothing to do with Cedar Brook. Except that Cedar Brook allegedly went wrong by misrepresenting just how risky the financial products being offered by MedCap and IMH actually were to investors--as well as altering at least three of their own investors’ accounts to create a false presentations of their net worth, concealing unbalanced portfolio distributions and potential unsuitability issues. Bad news. And it turns out Cedar Brook were not the only brokerage guilty of playing dirty over MedCap and IMH fund. According to FINRA’s records, across the country, 18 firms and 66 individual brokers have suffered disciplinary action over MedCap; and 15 firms and 40 brokers have suffered similarly over the IMH fund. And you can bet your bottom dollar there’s more where that came from.
Until this most recent scandal, Cedar Brook was a fairly well-regarded Midwestern brokerage. But beneath that veneer of respectability lurked a significant history of complaints against its principals that any informed investors could have accessed via FINRA’s BrokerCheck, which provides a history of any and all complaints against brokerage firms and individual brokers nationwide. After all, around 95% of registered brokers have NO complaints on their record.
If you or anyone you know has been the victim of broker misconduct or fraud, please contact us immediately for a free consultation.
xtended periods of uncertainty in the stock market along with low interest rates can drive investors seeking higher returns into the arms of products that they may not fully understand or that may not be appropriate for their financial situation or risk tolerance. Take non-exchange traded real estate investment trusts (REITs), usually referred to as "non-traded REITs." A particularly egregious case we're currently handling reminded us that we needed to get the word out once again about the danger of buying into non-traded REITs if you don't fully grasp how they work. Of course, it's not the customer who would generally consider purchasing such sophisticated financial products; rather, brokers are pitched on such products by REIT representatives; and, seduced by promises of low-risk and high-return, the brokers in turn pitch their clients on them.
(Very quickly, if you're not familiar with the concept of a "REIT:" a REIT is a trust or company that pools individual investments to purchase large portfolios of income-producing real estate. A very large percentage of the income from these properties is then disbursed annually to shareholders in the form of their distribution or return.)
Before you agree to the purchase of a non-traded REIT at your broker's suggestion (if it's not too late already), bear in mind three very important things:
- hares of non-traded REITs by definition do not trade on any national securities exchange
- arly redemptions of the shares you own in a non-traded REIT are strictly limited and in any case come with high fees that cut deep into your potential return
- Unlike in publicly traded companies, the distributions or returns ou get from non-traded REITs often come from borrowed funds or investor principal
1) The first item means that it can very difficult to determine the value of your investment in the REIT, especially if it starts to go bad. Since the REIT is not part of any actual market or exchange, its valuation is assigned internally and can often be inaccurate or manipulated by those running the fund. Moreover, until the shares are actually sold, the valuation of those shares is pure speculation. It's like a company going public for the first time: the value of its shares can fluctuate wildly in the initial offering and more often than not fails to correspond to projections, even by the experts.
2) Non-traded REITs are an illiquid investment. Be prepared to have your money locked up in a REIT for at least 8 years, possibly longer. In the meantime, if your financial situation changes, and you need to get out of the REIT, you face steep fees and losses.
3) A unique feature of non-traded REITs is that he distributions or returns you get from them do not come out of earnings or profit, but rather from heavily subsidized debt or initial investor principal. When things go bad, and a non-traded REIT starts losing money, this can look a lot like a Ponzi scheme in that new investors are paid distributions from early investor principal. In some cases, a failing REIT will suspend distributions entirely, n which case not only will an investor be stuck in an illiquid product but it's an illiquid product that provides them with no return whatsoever.
In investing, as in much else, knowledge is power. Know what you're getting into if you agree to purchase shares in a non-traded REIT. And if you don't know what you're getting into, ask your broker to explain everything to you--along with why he or she thinks this financial product is good for you. For more on non-traded REITS, consult FINRA's tip sheet here.
f you or anyone you know has been the victim of broker misconduct related to the purchase of non-traded REITs or any other financial product, please contact us for a free consultation.
If you don't read past the first sentence of this entry, hear this: you are the client, and your financial adviser works for YOU, not the other way around. We're often dismayed at how readily investors surrender their authority to brokers. Part of this could be due to the fact that financial advisors have a high degree of expertise (that's why you hired them), and so we defer to their expertise. Plus, brokers tend to want to control their own domain. As professionals who are constantly being scrutinized by their bosses, FINRA, the SEC, and who knows who else, they'd often rather not be engaged in constant communication with their client as well--especially when things aren't going so well. But, brokers need to remember to whom they owe their primary fiduciary duty. In salesmen parlance, it's a version of the old nugget, "The customer is always right." In all the froth and fury of trading, brokers can often forget that ultimately they're providing a service to their clients--and that the client, the customer, is always right.
In a perfect world, financial advisers wouldn't need to be reminded of how fiduciary duties break down, nor how discretion works. In our not-so-perfect world, it's up the client and, in situations where communication really breaks down, FINRA's job, to remind them. And, well, when FINRA has to remind a broker, it's generally in the form of penalties, fines, and suspensions. A recent article suggests that FINRA is sending out more and more of these stern reminders. Since January, the regulatory agency has disciplined 17 different brokers for "improper use of discretion"--more than twice the amount in the same period of time last year.
ere's the takeaway: unless you the client give your broker full discretion to make all investment decisions on your behalf, he or she must seek your approval before making any trades in your account. Period. What may seem like common sense--your broker checks in with you before taking risks with your money--doesn't always shake down that way, unfortunately. Remember the perfect world thing... Many brokers--whether it's because they're feeling cavalier, or because they're chasing a hot investment opportunity, or because they can't reach their client quickly enough, will take the liberty of making trades in non-discretionary accounts without explicit client approval. What's worse, this seems to happen most often with elderly or less sophisticated investors who simply fail to recognize the unauthorized trading. By the time they do, the consequences are often dire.
Here's what investors can do to help prevent improper use of discretion:
1) Check your monthly statements and the confirmations of account activity that are mailed to you. If you see trades or other activity you don't recall authorizing, call your broker immediately to discuss it with him or her. If your broker acts fishy, call the branch manager.
2) eep notes or other written records of your conversations with your broker, noting key issues and information, such as the date and time of the conversations, what recommendations were made, what particular investments were discussed, etc.
3) Stay in frequent contact with your financial adviser. It's your money, never forget it, and the more closely you stay in touch with your broker, the less likely he or she will be to take liberties with your money. If your financial adviser does not return your phone calls in a timely fashion or otherwise proves inaccessible, consider it a red flag and contact the branch manager.
If you or anyone you know has been the victim of improper use of discretion or any other form of broker misconduct, please contact us immediately for a free consultation.