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On April 5, 2019, the Financial Industry Regulatory Authority (“FINRA”) issued Regulatory Notice 19-10, which clarifies conduct regarding how brokerage firms and brokers should communicate with clients in the event a broker transitions to a new firm. FINRA Regulatory Notice 19-10 makes two key points:

  1. in the event of a registered representative’s departure, the member firm should promptly and clearly communicate to affected customers how their accounts will continue to be serviced; and
  2. the firm should provide customers with timely and complete answers, if known, when the customer asks questions about a departing registered representative.
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On March 5, 2019, the Securities and Exchange Commission (“SEC”) entered into a settlement agreement with BB&T Securities in which the firm agreed to return approximately $5 million to retail investors and pay a penalty of $500,000. These fines and violations were related to the brokerage firm Valley Forge Asset Management (“Valley Forge”), which was acquired by BB&T, making BB&T responsible for Valley Forge’s liabilities.

Valley Forge represented to clients that it was a full-service brokerage house with high levels of client servicing, and clients must pay a premium for that servicing. Valley Forge did not disclose to clients that investors who did not choose in house advisory services paid fees 25% less than those who used the in-house service. Valley Forge justified these high fees by making false representations to clients that the fees were actually discounted by 70%, when in fact there was no higher price they were discounted from, and even the supposedly discounted rate was far above market rates for the level of service provided.
The SEC increasingly scrutinizes small broker-dealers and investment advisors for charging fees for services that have not in fact been delivered, or for charging fees not in line with the general mark to market for that level of service.  The attorneys at Lax & Neville LLP have extensive experience in successfully prosecuting claims on behalf of customers who have suffered losses as a result of investment and securities fraud. Additionally, attorneys at Lax & Neville are experienced with employment law in the financial services industry, and dealing with regulatory bodies such as the SEC. If you are a victim of fraud or are a Financial Advisor with a prospective regulatory issue, please contact Lax & Neville LLP today at (212) 696-1999 to schedule a consultation.

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On February 8, 2019 the Financial Industry Regulatory Authority (“FINRA”) accepted an Acceptance Waiver and Consent (“AWC”) from Elizabeth Marie Garcia, a Merrill Lynch Financial Advisor, pursuant to which Ms. Garcia consented to a complete and total bar from the securities industry. FINRA’s investigation concluded that Ms. Garcia filed fake childcare reimbursement expenses to Merrill Lynch, through the Merrill Lynch Business Development Account (“BDA”). The investigation concluded that approximately $9,015 in false expenses were improperly reimbursed to Ms. Garcia.

Financial services firms such as Merrill Lynch have business development accounts, or travel and entertainment spending allowances, for Financial Advisors, and other client facing/business development personnel. It is common for firms to contribute a sum to the accounts, and Financial Advisors to also contribute to the account, and there are generally tax advantages to this practice. Because Financial Advisors contribute their own money to the account, there is a trend towards advisors filing false expense reports, as they view a large portion of the money set aside as their own.

This view is unfounded: a percentage of the monies in any BDA account are contributed by the firm, therefore some percentage of any fraudulent expense is paid for with firm money. Additionally, filing a false expense report is taken very seriously by FINRA, and seen as both a violation of the just and equitable principles of trade, and a violation of the requirement to maintain accurate books and records. Individuals who file false expense reports can expect to face possible termination by their employer, face negative U5 language, and be investigated by FINRA. These investigations can have a wide range of outcome, with anything from a letter of warning, to a complete bar from the industry, depending on FINRA’s view of the specific circumstances surrounding the matter.

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On January 17, 2018 State Street Advisors announced the intention to reduce its work force by 1,500 employees, including 15% of senior management positions. This layoff may affect many veteran employees, impacting complicated compensation packages involving deferred compensation, equity awards, and bonuses in addition to base pay.

Lax & Neville has extensive experience negotiating severance packages on behalf of financial services executives. Lax & Neville can help ensure executives are protected when they transition to a new firm and provide input on draft U4 and/or U5 language to make it more favorable for the departing individual.

Lax & Neville can also assist departing employees in navigating restrictive covenants within their former firm’s employment agreements and negotiate contract language and compensation in new firm agreements.

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Wells Fargo has made its recruiting packages more generous than ever. The current deals on the street reflect Wells Fargo giving brokers with Trailing 12-month production (“T12”) exceeding $500,000 upfront forgivable loans that equal two times the previous year’s T12. The total value of some of these deals if the onboarding broker achieves back end bonuses of revenue and asset targets can exceed 325%.

The new deals Wells Fargo is offering resemble those that wirehouses such as Merrill Lynch, Morgan Stanley, and UBS used to make, during the peak of recruiting frenzies. Many firms have since scaled back on these expensive deals, due to the weight of forgivable-loan debt on their balance sheets and questions regarding the net return on such expensive broker book acquisitions.

Wells Fargo ended 2018 with approximately 13,970 brokers across its Private Client Group, branch bank group, and independent channel. Many brokers have been leaving Wells Fargo, possibly due to reputational issues affecting client’s perception of the banks abilities and platform.

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J.P. Morgan announced this week that it had terminated broker Trevor Rahn. Mr. Rahn’s U5 language, the regulatory filing made to the Financial Industry Regulatory Authority (“FINRA”) associated with any termination, stated the reason for termination as “unacceptable practices” related to the “timing and size of orders entered and resulting transaction charges in a client account.” This practice is referred to as “churning,” in the industry, when a broker repeatedly buys and sells securities in a clients account, not for strategic purposes in the interest of the client, but to generate fees and commissions.

J.P. Morgan reported Mr. Rahn’s date of termination as September 17, 2018. Mr. Rahn was terminated more than three months after reaching a settlement with a Tracey Dewart who filed a complaint against Mr. Rahn and J.P Morgan for the excessive fees charged to her elderly fathers account. Ms. Stewart, using a forensic accountant, found that Mr. Rahn had charged her father approximately $128,000 in commissions, in one year, on an account of approximately $1.2 million. Wealth management fees and commission fees are rarely supposed to exceed 2%, by industry standards, and FINRA has very specific rules regarding fee ratios to account size and profit. Mr. Rahn’s yearly fees exceeded 10% of the total account value.

Broker-dealers, especially large wire houses like J.P. Morgan, are intended to have compliance software that screens customer accounts for excessive churning. It is unknown why such flagrant activity by Mr. Rahn was not detected earlier. According to Ms. Stewart, there was irregular activity in her fathers account going back years. J.P. Morgan settled this churning case, and then continued to allow Mr. Rahn to trade customer accounts for three months before terminating him, a timeline that regulators may take issue with due to the possibility of members of the public being further exposed to Mr. Rahn’s sales practice abuses.

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On September 5, 2018 the Securities and Exchange Commission (“SEC”) issued an alert warning investors of scams involving marijuana related stocks. As the marijuana market becomes more mainstream, and legalization efforts continue to expand, there is an increasing number of publicly listed companies involved in the marijuana industry. The SEC alert noted a marked increase in the number of fraudulent schemes related to marijuana stocks.

Many marijuana stocks, such as Canopy Growth Corp (“$CGC”), Tilray (“$TLRY”) and Cronos ($CRON) have increased in value by several hundred percent within the last year. The enormous returns in this space may have attracted large amounts of speculative trading by retail investors. Where retail investors go, fraudulent securities schemes often follow.

As some analysts note, many Canadian listed marijuana stocks are now taking steps to list on US exchanges, so as to target US investors, and the increased trading volume and capital inflow that comes with a US listing. Many of these marijuana companies would be considered microcap stocks and can easily be subject to market manipulation. Stocks with small floats and low trading volume can be marketed to retail investors and manipulated in “pump and dump” schemes.

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When financial advisors transition from one bank to another, there is always a litigation risk. This risk can be minimized and greatly reduced by seeking proper counsel and gaining a full understanding of the restrictive covenants and duties of loyalty employment contract impose on financial services employees. A recent move that resulted in litigation was Kirk Cunningham and Todd Helfrich, who together manage close to $14 billion in assets, moving from JPMorgan to Merrill Lynch. JP Morgan has brought a suit against the former employees, claiming that the two advisors engaged in “bad-mouthing” the firm to former clients and that they allegedly violated the one-year non-solicitation clauses in their employment agreements. According to JPMorgan, the team allegedly told clients that the firm “only has junior people left to manage the client accounts,” and “forces its clients to use only its own products.” JP Morgan is seeking a temporary restraining order so as to halt this alleged activity.

The firm is suing Merrill advisors Kirk Cunningham and Todd Helfrich for violating non-solicitation agreements and improperly taking client contact information. Cunningham and Helfrich left JPMorgan’s private bank in February, after nine years as a private banker and seven years as an investment specialist, respectively. Together the pair served over 100 clients, making the $14 billion business a narrow-focused book, according to federal court documents from the U.S. District Court for the Northern District of Illinois.

Cunningham and Helfrich’s alleged solicitation efforts came to JPMorgan’s attention after the bank received complaints from clients about phone calls and emails from the duo. One client claimed his private data was being compromised by the duo and provided emails wherein Cunningham asks to discuss advisory services that he could offer from his new position with Merrill Lynch, according to JPMorgan’s suit.

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There have been over 2,000 FINRA arbitrations filed in Puerto Rico in regards to unsuitable leveraged investments in Puerto Rican bond funds, and over $226 million in awards so far. However, many of these cases settle. Some analysts have noted that while banks such as UBS have faced a large number of arbitration claims for investing clients’ funds in unsuitable high-risk leveraged Puerto Rican bond funds, bank of Santander was spared from most of these claims and is subject to only 200 filings. This lower number of claims stands in contrast to the fact that the Santander funds had higher leverage than UBS, and may have been marketed more aggressively to unsuitable clients.

Santander sold over 12 closed end funds and six open end funds in Puerto Rico; designated “First Puerto Rico Funds.” Santander marketed 11 of these funds to clients with conservative investment goals of “capital preservation,” yet these funds declined by 56% on average. In 2013, there were $3.4 billion in assets in these 11 closed end funds. By 2015, there were only $1.6 billion, with $1.8 billion in valuation vanishing as default rates rose on the bonds.

Most municipal bond funds are leveraged at a maximum of 20%, whereas Santander sold Puerto Rican municipal bond funds to conservative investors leveraged at 50% – 100%, doubling potential gains, but also doubling possible losses. Given that Puerto Rican municipal bonds were already paying coupons of between 5% to 6%, leveraging an already-risky bond in which the inflated yield is supposed to compensate for increased risk is unwise at best, according to some investment professionals.

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The Georgia Court of Appeals has held that the Protocol for Broker Recruiting (“the Protocol”) does not preclude Financial Advisors from informing their employers of their intentions to leave. Some firms have Notice of Termination provisions in their employment contracts, which require brokers to give notice of their intentions to resign, prior to terminating their employment.

The Protocol is an agreement that was made in 2004. It was designed to allow financial advisors and brokers to transition from one firm to another while taking client information with them. At its peak, the Protocol included the vast majority of brokerage firms, leading to a significant decrease in litigation costs, which had reached staggering levels prior to the institution of the protocol. However, with the withdrawal of firms such as Morgan Stanley, which effectively withdrew from the Protocol on November 3, 2017, the Protocol has lost some of its influence. A recent Georgia court decision has further weakened the Protocol.

The June 2018 decision concerns a 2014 case where several brokers departed from Aprio Wealth Management LLC. Without waiting the obligatory 60 to 90 days outlined in their contracts, the brokers encouraged their clients to transfer their accounts over to Morgan Stanley. Morgan Stanley had recruited the brokers, telling them that the Protocol would override their advanced notice agreements. The Georgia court-of-appeals was tasked with determining what influence the Protocol plays on advanced notice agreements. The presiding judge of the Georgia Court of Appeals ruled that the Protocol does not override the advance notice provisions present in brokers’ contracts. Aprio claims that this decision is beneficial to its purposes, as it protects smaller and mid-sized firms from being poached by larger firms with more resources.