Brad Bennett, FINRA’s Executive Vice President and Chief of Enforcement, said, “A key element of retail investor protection is the aggressive pursuit of brokers who churn and excessively trade customer accounts. FINRA has no tolerance for brokers who place commissions ahead of what is suitable and appropriate for their customers.” (FINRA News Release August 6, 2015.)
In the financial world, churning is the practice of over-trading a customer’s account for no reason other than to generate commissions for the broker. This can be done with stocks, bonds, mutual funds or even annuities. Accounts that are fee-based or leave sole discretion of the account in the hands of the customer are not at risk for churning.
Fortunately, FINRA has always been vigilant about churning because it involves suitability as well as the infamous ‘just and equitable principles of trade.’
Notably, last month, FINRA settled a case involving a broker who churned the accounts of 11 customers, seven of whom were seniors (four in their 80’s, and one in his 90’s). In this situation, the broker was running a mutual fund A share scam. Whereas A shares are usually a long-term hold (about five years or more), this broker was trading them less than every six-months. He did this even though the clients’ profile was a four- to six-year hold horizon.
In addition to running a mutual A share scam, the broker had liens against him, including a deferral tax lien, that he did not report on any of the six Form U4s he filed in an 18-month period. It is for this reason that compliance officers should periodically ask and have their registered employees attest to disciplinary reporting matters, in addition to outside business activities and other activities, no less than annually.
While the broker’s firm suspended his trading privileges and his registrations in January 2015, they did not inform his clients of either of those events. Instead, the broker sent letters to 37 clients informing them that he was becoming an investment adviser and suggested those clients move their accounts over to him, claiming it was “for their benefit.” That letter alone violated two rules: communications with the public, as well as just and equitable principles of trade (ethical standards).
As a result of his actions, the broker was barred from the industry, and cannot associate with any FINRA firm in any capacity.
For more information about how to prevent financial churning and develop internal controls to track registered persons’ activities, contact us at (619) 298-2880, or email firstname.lastname@example.org. Thank you.
Author: David Sobel. David Sobel serves as JLG’s FINRA specialist. He has been in the industry for 35 years. He has been a floor broker on the NYSE floor; a third market trader; and in NY, represented many of the independent brokers on the NYSE and AMEX for compliance and enforcement matters. Since 1998, David has been a FINRA arbitrator and is a past Chair of FINRA’s Small Firm Advisory Board. For more information, please visit http://www.jackolg.com/Professionals/.