Securities Law Blog

On Thursday April 29, 2010 the Financial Industry Regulatory Authority (FINRA) permanently barred Tom Bretton from the securities industry for his alleged involvement in a $1.3 million fraud. The former Chief Compliance Officer and Head Trader in the Garden City, NY office of Prestige Financial, Inc. was accused of running a fraudulent trading scheme that imposed improper charges on his clients’ trades, according to the FINRA report.

Allegedly from September 2006 through June 2009, Bretton placed large customer orders, typically of 1,000 shares or more, through a firm proprietary account instead of effecting the trades through the customers’ accounts. For securities being purchased, Bretton allegedly increased the price per share by $.02 to $.05 before allocating the shares to the customers’ accounts. For securities being sold, Bretton allegedly decreased the price by $.02 to $.05 before allocating proceeds to customer accounts. FINRA found that these findings were never authorized by or disclosed to the customers.

According to FINRA, Bretton allegedly concealed his fraud by entering false information on the corresponding order tickets regarding the share price and the time the customer order ticket was received, entered and executed.

The scheme generated $1.3 million in profits for the proprietary accounts, of which Bretton received 33% interest, equaling a payday of $429,000.

GunnAllen Financial Inc. has been shut down by the Financial Industry Regulation Authority (FINRA) for failing to meet its mandatory net capital requirements. On Friday March 19, 2010 FINRA warned the Tampa, Florida based broker/dealer that it had fallen below its capital requirement, and was subsequently unable to open for business the following Monday.

The closing has left 400 reps and advisers to look for new firms. One of the largest branch offices at GunnAllen, RG Michals Holdings Inc., will be moving roughly 70 brokers to Aegis Capital Corp. According to Investment News, “One of the biggest problems facing the 400 or so reps and advisers who remain at the company is finding an independent broker-dealer that uses its clearing firm.”

Upon closing, GunnAllen’s clearing firm, Ridge Clearing & Outsourcing Solutions, Inc. took over client accounts. J.P. Turner & Co. LLC, Aegis Capital and Lombard Securities Inc., are among the few firms that have access to Ridge.

There are several factors that are believed to have lead to the firm’s closing. The broker/dealer has been caught in a swarm of client lawsuits, some seeking as much as $50 million in damages. Many of the claims stem from disgraced broker Frank Bluestein’s alleged activities related to a Ponzi scheme that fell apart in 2007. The SEC charged Bluestein with fraud for soliciting roughly 800 investors who invested $74 million in an alleged Ponzi scheme. Other client lawsuits have been filed against GunnAllen over the sale of Provident Royalties LLC private placements. According to GunnAllen executives, legal costs mounting to about $500,000 per month were devastating the firm.

Some speculate that despite the firm’s investment in compliance systems and hiring compliance personnel, the presence of ethically challenged brokers was a major contributing factor to GunnAllen’s ruin. According to the firm’s former general counsel, David Jarvis, GunnAllen “let the inmates run the asylum, and that’s where the firm failed.”

The Securities Investor Protection Corp. (SIPC) discovered Monday March 8, 2010 that a web site called i-sipc.com was mimicking the SIPC web site, sipc.org. Using the name International Securities Investor Protection Corp., “I-SIPC”, the site modeled itself after the SIPC site. It copied both the structural design and artwork in an alleged attempt to obtain sensitive information or money from victims of the Bernard Madoff Ponzi scheme.

The real SIPC works to restore funds to investors with assets in the hands of bankrupt and otherwise financially troubled brokerage firms. The SIPC will act as trustee or an independent court-appointed trustee in a brokerage solvency case to recover funds. Since the collapse of the Madoff scam, the SIPC has been providing funds up to $500,000 to certain investors who lost money. In order to utilize the organizations services, the victims provide their financial and other personal information.

The fake copycat group claims to be based in Geneva, as well as having ties to the United Nations and the International Monetary Fund. The site published images of stacks of U.S currency totaling $1.3 billion which was claimed to have been recovered in Malaysia in collaboration with Interpol. In an attempt to further legitimize its claims, the site posted alleged statements from Madoff victims who reported receiving funds from I-SPIC. The quotes were later found to have been lifted from a New York Times article and taken out of context.

“Investors who lose money in widely publicized schemes are often targeted by con artists looking to cash in on the victim’s desire to recover losses,” said Lori Schock, Director of the SEC’s Office of Investor Education Advocacy. “Victims of fraudulent schemes should be aware that such refund schemes commonly exist, and can be perpetrated through copycat web sites that appear similar to those of actual regulators or other organizations.”

According to SIPC President, Stephen Harbeck, SIPC learned of the phony site when an individual contacted the organization asking about the legitimacy of the I-SPIC. The individual had contacted I-SPIC via email, and received a response directing him to send $1,000 to an offshore account. Since the reported incident, the phony site has been disabled.

The Financial Industry Regulatory Authority (FINRA) recently released a regulatory notice to remind firms of their responsibilities when dealing with deferred variable annuities. FINRA outlines several steps that ought to be taken in order to ensure customer suitability when buying deferred variable annuities and compliance measures that can be set up by the firm.

The recommendation requirements state that:

*No recommendation of the purchase or exchange of a deferred variable annuity shall be made unless a member or person associated with a member has reasonable basis to believe that the customer has been informed of various features of deferred variable annuities, and that the customer would benefit from certain features of deferred variable annuities.

*Prior to recommending the purchase, the associated person must research the customer’s background and needs. Such fields should include but are not limited to age, income, financial situation, investment experience/objectives, assets and risk tolerance.

*After receiving necessary information, the application should be submitted to the firm’s office of supervisory jurisdiction (OSJ).

*A registered principal shall review and determine whether he/she approves the recommended purchase or exchange of the deferred variable annuities prior to submitting to the insurance company.

*Each suitability determination should be documented and signed by the person recommending, approving or rejecting the transaction.

FINRA also reminds firms that it is their responsibility to establish and maintain specific supervisory procedures reasonably designed to achieve compliance. Surveillance procedures should be implemented to prevent inappropriate exchanges and corrective measures should be in place to deal with inappropriate conduct.

Training policies or programs should be developed and documented to ensure that persons who effect and those who review transactions dealing with deferred variable annuities comply with the requirements of this Rule and understand material features of deferred variable annuities.

Since the boom of investment fraud uncovered during the financial crisis, lawmakers and state securities regulators are attempting to assume oversight of many investment advisers currently under the supervision of the Securities and Exchange Commission (SEC).

According to the testimony given by Texas Securities Commissioner and the North American Securities Administrators Association (NASAA) President Denise Voigt Crawford, “As the regulators closest to the investors, state securities regulators provide an indispensable layer of protection for Main Street investors.”

Crawford was one of many industry leaders to testify before the U.S. Financial Crisis Inquiry Commission (FCIC) during its first round of hearings in January 2010. The FCIC is a 10-member bipartisan panel established to examine the cause of the financial crisis with the intention of producing a report offering recommendations to prevent a reoccurrence.

The financial regulation proposals in Congress could bring about 4,000 advisers who manage between $25 million and $100 million in assets under the supervision of state regulators, according to NASAA. Currently the SEC says it inspects from 9% to 12% of the 11,000 advisory firms it oversees. Allowing each state to oversee anywhere up to around 600 additional advisers, as would be the case in California, would lead to more frequent examinations. State regulators are in the process of generating a mutual agreement to cooperate with one another in policing additional advisers if the proposal passes.

“Our presence did not contribute to the crisis; rather, the fact that our regulatory and enforcement roles have been eroded was a significant factor in the severity of the financial meltdown,” testified Crawford.

Since the passage of the National Securities Markets Improvement Act of 1996 (NSMIA), the responsibility of enforcement shifted from state to federal government. Now the states are fighting to get it back.

The NASAA President offered a series of recommendations to improve the ability of state regulators to pursue financial fraud. A few of these recommendations include: restoring state regulatory oversight of all Regulation D Rule 506 offerings; increasing state regulation of investment advisers; reexamining and removing the hurdles facing securities plaintiffs in private actions; and providing additional resources to uncover and prosecute securities fraud cases.