Securities Law Blog

The Financial Industry Regulatory Authority (FINRA) announced today that it has imposed a $250,000 fine against J.P. Turner; Company, LLC of Atlanta, GA, for failing to have an adequate supervisory system designed to ensure that its registered representatives charged customers fair and reasonable commissions on stock trades.

As part of the settlement, FINRA ordered J.P. Turner to retain, at its own expense, an independent consultant to conduct a comprehensive review of the adequacy of the firm's policies, systems, procedures, and training relating to FINRA's Fair Pricing Rule. "In order to establish a fair commission or mark-up, brokers must take into consideration all of the relevant circumstances and not just whether the commission is below a certain percentage of the total price of the transaction," said Susan Merrill, FINRA Executive Vice President and Chief of Enforcement. "In this case, J.P. Turner allowed its brokers to charge commissions of up to 4.5% on almost every stock trade without regard to the circumstances, such as the size of the transaction, the cost of executing the order, or whether the securities were readily available in the market."

FINRA requires firms to implement a system and reasonable procedures to ensure that customers are fairly charged for transactions, taking into consideration all relevant factors. FINRA's mark-up policy lists seven factors for firms to consider: the type of security involved; the availability of the security in the market; the price of the security; the size of the transaction; disclosure to the customer; the pattern of the firm's mark-ups; and, the nature of the firm's business. FINRA found that between January 2002 and March 2005, J.P. Turner's supervisory system and written procedures failed to take these factors into account and failed to provide adequate guidance to its registered representatives to determine a fair commission or mark-up on equity securities transactions. FINRA found that under J.P. Turner's system and procedures, representatives had discretion to establish the commission on such transactions, limited only by whether the price of the security was above or below $25 per share. On all equity securities transactions in which the price of the security was below $25, registered representatives were allowed to charge up to 4.5%, while they could only charge up to 3.5% if the price of the security was above $25. During the review period, 91% of the firm's equity securities transactions involved securities priced below $25 per share.

J.P. Turner's trading manager was responsible for reviewing and approving trades for fair and reasonable charges. Those reviews, however, were limited to reviewing the transactions to ensure that the commissions charged did not exceed the firm's 3.5% and 4.5% guidelines.

For more information on this subject contact securities attorney's with Michaels, Ward & Rabinovitz, LLP.

FINRA has fined SunTrust Investment Services $700,000 for violations related to its fee-based brokerage accounts. It claims the firm overcharged commission rates on certain low-priced stocks. In addition to the fine, the firm voluntarily agreed to refund $713,362 in fees and interest to affected accountholders. In settling the charges, SunTrust neither admitted nor denied the charges against it, but consented to the entry of FINRA's findings, according to a FINRA release. FINRA found from November 2002 through December 2005 that SunTrust opened some 2,644 fee-based “Portfolio Choice” accounts without doing its due diligence to assess whether the accounts were appropriate for the customers.

FINRA discovered at least 36 SunTrust fee-based accounts that made no trades for at least eight consecutive quarters. But SunTrust nonetheless charged those accounts more than $129,000 during the final four inactive quarters alone. Some SunTrust accountholders paid both a commission and an asset-based fee on the same assets, FINRA charged. The double charges resulted in approximately $437,500 in excess fees and/or commissions paid by Portfolio Choice account holders. FINRA claims that SunTrust had no system in place to guarantee it charged investors fair and reasonable commissions. SunTrust used an automated commission system that allowed commissions over 5% to be charged on small trades. As a result, it charged certain customers excess commissions totaling nearly $100,000.

In December 2003, one customer transferred an account to SunTrust in which there had been no trading activity for about two years and was set up put in a SunTrust fee-based Portfolio Choice account. For the next 39 months, he made no trades in the account, yet during that period of inactivity, SunTrust charged the accountholder some $8,170 in asset-based fees. The amount of money earned by the firm from fee-based accounts was obviously not dependent upon whether a customer actually placed any trades at all.

In November 2003, FINRA addressed fee-based accounts in a Question and Answer Notice released to industry professionals. Fee-based, or “wrap accounts” as they came to be known, troubled FINRA on several levels and the agency identified certain potential problems through its examination program. “For example, it is not always clear that customers receive adequate disclosure about the distinctions and features of fee-based versus commission-based accounts, including the differences in fee structures and that fees will probably be higher in a fee-based account if the level of activity is modest,“ the agency found. It also charged that certain firms lacked systems and procedures in place to ensure that fee-based accounts were appropriate for customers “both at the point where the pricing feature is added and periodically thereafter.”

For more information on this subject contact securities attorneys, Michaels, Ward & Rabinovitz, LLP.

In the wake of the turmoil in the securities industry, many industry insiders foresee a spike in recruiting and raiding litigation in the months to come. Bank of America Corp. is offering Merrill brokers bonuses of as much as 100% of their annual trailing twelve month production to keep Merrill brokers from going independent or fleeing to a competitor. No doubt, Bank of America realizes the importance of retaining brokers and their clients' assets. It has been reported that brokers who generate at least $1 million in fees and commissions are eligible for the retention bonus at that level. Bank of America is trying to prevent attrition in Merrill's brokerage ranks. Evidently, Merrill's brokers are getting pummelled by recruiting calls. Given the state of the market, brokers from other firms must be weighing similar offers. Even before the recent market turmoil, recruiting litigation had seen a rise in activity in the past year after the relative calm which ensued with the advent of the securities industry recruiting protocol several years ago. However, in light of recent events, one can only expect that employment litigation in the securities industry is back for the foreseeable future.

For more information on this subject contact securities attorneys, Michaels, Ward & Rabinovitz, LLP.

The SEC’s Lori Richards, Director, Office of Compliance Inspections and Examinations, spoke last week at an event and emphasized the importance of compliance during these volatile markets. For chief compliance officers (CCOs) at registered investment advisory firms, the following speech transcript should be required reading. Hedge fund managers registered as investment advisors must be especially aware of the fiduciary obligation they have to their client. Specifically, Richards noted that examiners will be focusing investment programs to make sure there is no style drift in their portfolios and that valuation is done pursuant to the manager’s stated valuation procedures.

Richards also discussed a number of areas which compliance officers should be focusing on during this time. Specifically she advocated that a firm’s CCO: make sure following all securities laws and regulations, including the Form SH filings; make sure there is no market manipulation or insider trading; review and update if necessary the following: Form ADV, Form ADV Part II, performance advertising, marketing, fund prospectuses and any other information provided to clients; review best execution and any soft dollar programs. Richards noted that in keeping with the “culture of compliance,” the CCO “should insist on absolute compliance with policies and procedures, there should be no possibility of ‘suspending’ compliance...” Richards also noted that the examiners will be looking for undisclosed payments by and to hedge fund investment advisors. This is especially interesting in light of the recent case brought by the DOL against a registered investment adviser for failing to disclose payments from a hedge fund manager.

The full text of Richard’s speech can be found here:
http://www.sec.gov/news/speech/2008/spch102108lar.htm

For more information on this subject contact securities attorneys, Michaels, Ward & Rabinovitz, LLP.