Securities Law Blog

According to published reports on Bloomberg, FINRA, supervising 344 investor arbitration cases over auction-rate bonds, skirted losses from auction rate securities by selling its holdings months before the market collapsed.

FINRA, responsible for educating and protecting investors, owned as much as $862.2 million of the debt before exiting the market in the spring of 2007, less than six months before auctions began to fail. Investors who were sold the auction rate securities as money-market alternatives say FINRA, a non-profit corporation owned by banks that oversees 5,000 brokerage firms and 659,000 brokers, failed to protect them. The market froze in February 2008 when banks, which had supported the debt for two decades through periodic dealer-run auctions, stopped buying bonds that investors didn’t want as losses from subprime mortgages spread.

Auction-rate securities (ARS) are long-term notes and preferred stock with interest rates reset through sales every seven, 28 or 35 days. Auctions failed when banks, beset by mounting losses on bonds tied to subprime mortgages, stopped buying bonds that went unsold. Borrowers were forced to pay rates of more than 20 percent and investors got stuck with unwanted securities.

Dozens of auctions continue to fail daily, according to data compiled by Bloomberg.

FINRA issued its first guidance for investors caught in the debt on March 31, 2008, more than a month after the failure rate rose to about 80 percent.

FINRA, known as the National Association of Securities Dealers until its 2007 merger with the regulatory unit of the New York Stock Exchange, invested in auction-rate securities with funds from the $1.6 billion sale of the NASDAQ electronic trading system starting in 2000.