Securities Fraud Attorney Blog

This week, a Florida appeals court partially reversed a ruling denying Bank of America’s efforts to arbitrate various claims related to the Scott Rothstein Ponzi scheme. Bank of America, N.A. v. Beverly, Nos. 4D14-3167, 4D14-3168 (Fla. Dist. Ct. App. June 10, 2015). The appellate court ordered arbitration in a case brought by Douglas Von Allmen, a long-time customer of Bank of America, who alleged that the bank’s improper advice led him to invest in a feeder fund to the Rothstein Ponzi scheme. Von Allmen had entered into a loan agreement with the bank that had a broad arbitration clause, which the court found to be enforceable.

In a second case consolidated for purposes of appeal, the Florida court refused to order arbitration in a case against Bank of America brought by plaintiffs who had no relationship to Bank of America, but who alleged that the bank’s advice to Von Allmen propped up Rothstein’s Ponzi scheme. The court found that these plaintiffs, who were non-signatories to any agreement with Bank of America, could not be forced into arbitration.

For a potential plaintiff, knowing whether your dispute arises from an agreement and whether that agreement has an enforceable arbitration clause can save not only time but also legal costs.

Rich Intelisano and Katz LLP represents investors in arbitrations and other litigations against broker-dealers and other financial firms.

Deutsche Bank has agreed to pay a fine of $55 million to settle charges by the SEC that it filed misstated financial reports during the height of the global financial crisis relating to a multibillion dollar portfolio of derivatives.

The SEC’s multi-year investigation culminated in an Order Instituting a Settled Administrative Proceeding, available on the SEC’s website. According to investigators, the bank overvalued a portfolio of derivatives consisting of Leveraged Super Senior (“LSS”) trades, through which it purchased protection against credit default losses. This leverage created a “gap risk”, which the bank initially took into account in its financial statements, by adjusting down the value of the LSS positions. However, according to the SEC’s Order, when the credit markets started to deteriorate in 2008, Deutsche Bank steadily altered its methodologies for measuring the gap risk. Each change in methodology reduced the value assigned to the gap risk until Deutsche Bank eventually stopped adjusting for gap risk altogether. In other words, the bank slowly tweaked its formula over the months so that the risk didn’t show in its financial reports.

Therefore, “at the height of the financial crisis, Deutsche Bank’s financial statements did not reflect the significant risk in these large, complex illiquid positions”, according to Andrew J. Ceresney, Director of the SEC’s Division of Enforcement.

The Deutsche Bank enforcement action is notable in several respects, according to a recent piece by Matthew Goldstein in the New York Times. It was one of few cases brought by regulators involving valuation of securities, possibly due to the complex nature of the derivatives, CDOs and other products that were involved in trading that gave rise to the fiasco that was the financial crisis. Second, according to Scott Friestad, an SEC lawyer who handled the case and is quoted in the NY Times article, the Deutsche Bank enforcement action was the only enforcement action where the SEC alleged that a major bank failed to properly value a “significant portion of its portfolio of complex securities”. Finally, and equally importantly, the case was assisted by at least two whistle-blowers, former Deutsche Bank employees who reported and detailed wrongdoing at the bank and assisted in the investigation.

In addition to the $55 million penalty, the SEC’s order requires Deutsche Bank to cease and desist from committing or causing any violations or future violations of multiple sections of the Securities Exchange Act of 1934 and related Rules. Deutsche Bank neither admits nor denies the SEC’s findings in the order.

In a move intended to emphasize that FINRA’s ultimate mandate is to protect investors, the SRO’s National Adjudicatory Council last week issued newly-revised Sanction Guidelines including tougher ranges of recommended punishments to be meted out against member firms or brokers who commit fraud or make unsuitable recommendations to customers.

Since 1993, FINRA has maintained and published “Sanction Guidelines” setting forth common securities rule violations and the range of disciplinary actions FINRA can issue for such violations, including monetary fines as well as suspensions, bars from the industry and other sanctions.

Specifically, the revised Guidelines, announced in Regulatory Notice 15-15 available on FINRA’s website at, contain revisions to the Sanctions relating to two specific areas: (i) fraud, misrepresentations or material omissions of fact; and (ii) suitability and the making of unsuitable recommendations to investing customers. According to the Notice, the ramped-up sanctions are meant to reinforce that fraudulent conduct is unacceptable, and that FINRA adjudicators on the Regulatory side should consider strong sanctions for such conduct, including barring or expelling repeat offenders, particularly where aggravating factors outweigh mitigating ones. With regard to unsuitability, the heightened punishments include an increase in the high-end range of suspensions from one year to two, as well as recommending bars, suspensions or expulsions for the most egregious recidivists.

Although the Sanction Guidelines aren’t directly applicable to claims made by investors in FINRA arbitration proceedings, it’s reassuring to see that the Regulatory side at FINRA is taking these steps to increase sanctions specifically for bad acts directed at the investing public.

What are non-traditional exchange-traded funds (ETFs) and non-traded real estate investment trusts (REITs)? Why are independent broker dealers selling these complex products without proper supervision? FINRA wants to know and just slammed LPL Financial for doing such a thing.

This week, FINRA censured and fined LPL $10 million for broad supervisory failures in the sale of complex products such as leveraged ETFs and non-traded REITS. It also ordered LPL to pay an additional $1.7 million in restitution to certain customers who bought non-traditional ETFs.

This is a watershed moment for these and other complex products. First, LPL has over 14,000 brokers nationwide and is by a wide margin the largest independent broker dealer in the U.S. (Lincoln Financial Network with over 8,000 brokers is second). The biggest independent broker-dealer getting hit like this by FINRA is the equivalent of FINRA fining the old Merrill Lynch in wire house terms.

Second, as many investors struggle for yield in this low yield environment, brokers are pitching more complex products to investors such as leveraged ETFs and non-traded REITS. We will be adding significant content to our website on these products soon. The problems with them are that they are very complicated, expensive and often riskier than how they are being marketed. FINRA’s fine of LPL marks the beginning of what will likely be a string of problems for broker-dealers related to these products.

FINRA found that LPL did not enforce concentration limits on these products and failed to ensure that its brokers were adequately trained on the products’ risks. Amazingly, FINRA found that LPL failed to deliver over 14 million trade confirmations in 67,000 customer accounts.

As is typical, LPL neither admitted or denied FINRA’s charges. However, LPL did consent to the entry of FINRA’s findings.

Rich, Intelisano & Katz, LLP represents investors in complex product disputes. If you have any questions regarding them, please contact us.

Here is a link to FINRA’s press release regarding the fine.
Here is a link to a WSJ article on the topic.

An increasing issue in investment fraud cases is the liability of commercial banks for aiding and abetting fraud by an investment advisory firm that engages in fraud and then goes defunct. Such firms typically house their investment clients’ accounts with an independent broker dealer clearing firm that clears or processes the trading activity of the advisor. Cases against the clearing firm are typically resolved in arbitration at FINRA, and are subject to strong legal defenses based on claims of limited or nonexistent obligations of the clearing firm to the investor. Proof of the clearing firm’s knowledge and participation or knowing assistance in the fraud can sometimes be difficult, and what if the clearing firm itself has minimal assets? Another avenue to explore is the liability of the commercial bank that housed the non-investment bank accounts of the investment advisor. In the context of Ponzi schemes, such as Madoff, court cases have been brought with mixed results. But there are other forms of advisor misconduct that can implicate the bank as well.

When the nature of the fraud is outright theft or diversion of investor funds by the advisor this can occur through improper use by the advisor of its bank accounts. For example, the advisor may keep a bank account in its name and deposit customer funds into it, through various means, including having the check made out to the advisor “for the benefit of ” or “FBO” the investor. After the funds are deposited in the bank account in the name of the advisor it can often readily be stolen or diverted from the account by the advisor. Traditionally, bank laws have been structured to protect the banks from liability for routine check processing functions absent proof of aiding and abetting fraud. In the check processing part of the bank, until relatively recently, there would ordinary be little evidence of knowledge by the bank of wrongdoing. However, with the advent of strict anti-money laundering laws and regulations (AML), banks must now monitor for and report suspicious activity. Thus, improper activity by the advisor of the nature described above should be flagged by the bank’s own surveillance system. If the “red flags” of wrongful activity by the advisor in its bank accounts are disregarded by the bank, this can constitute evidence of the bank’s knowledge of and responsibility for the fraudulent activity. Expect to see more court cases being filed against commercial banks for investor losses stemming from fraudulent activity of investment advisors who manipulate their commercial bank accounts to cheat investors.

Merrill Lynch was fined almost $20 million by the Financial Conduct Authority (FCA) in London for incorrectly reporting more than 35 million transactions from 2007 to 2014. Merrill Lynch didn’t report, at all, another 120,000 transactions. It’s the largest fine ever levied by the FCA for reporting failures. While this may not seem like a big deal to the investing public, it is. The proper reporting of transactions is a hallmark of the securities industry. Without it, during tumultuous times, investors will not have a perfect view of the trades that occurred in their portfolios. Indeed, for some of the transactions, Merrill didn’t identify the counterparties on trades. This is problematic for over the counter derivative investors because investors couldn’t ascertain counterparty risk on their trades and if the trades went bad, it would be impossible for the investor to know how to potentially resolve the issue. What’s worse is that the FCA had warned Merrill in 2002 and fined Merrill in 2006 for the same types of infractions. In today’s fragmented, digital marketplace, proper reporting is absolutely necessary. Let’s hope the record fine is a wake up to call Merrill and others.

Here is a New York Times piece on it.
And here is the FCA news release.
Rich, Intelisano & Katz, LLP represents investors worldwide in disputes with the financial industry, including those related to over the counter derivatives and counterparty issues.

In what has become a hot issue this Spring, the Labor Department yesterday proposed a new set of standards for brokers who offer advice in connection with 401(k)’s and other retirement accounts. Currently, brokers are required only to recommend products that are “suitable” for investors, which permits the sale of products that earn the broker high fees. Reuters reports that the new standards will require brokers to put their clients’ best interests first ahead of any personal financial gain. The Labor Department proposal will require “best interest” contracts between brokers and investors.

Rich Intelisano and Katz LLP represents investors in FINRA arbitrations and other litigations against broker-dealers and other financial firms.

I noted in my March 20 post that the Chair of the SEC had just come out in favor of a rule requiring brokers to act in their clients best interests. While investors wait for the SEC to move forward on the issue, the New York City Comptroller, Scott Stringer, is proposing that New York State require brokers to disclose the present state of their relationship to clients – “I am not a fiduciary” and “I am not required to act in your best interests, and am allowed to recommend investments that may earn higher fees for me or my firm, even if those investments may not have the best combination of fees, risks and expected returns for you.” The Wall Street Journal posited that New York’s adoption of such a requirement could spur other states to impose similar regulations.

A recent report by the Public Investors Arbitration Bar Association (“PIABA”) shows why Stringer’s proposal is critical. U.S. News describes the PIABA report which contrasted brokers’ advertising campaigns with the legal positions taken by those brokers in litigation against their clients. For example:

• Ad: “It’s time for a financial strategy that puts your needs and priorities front and center.”

• Legal position: “Respondents did not stand in a fiduciary relationship with Claimants.”

The PIABA report makes clear that brokers lure investors with the suggestion that the broker will place the investor’s interests first. The average investor, however, may have no inkling that the broker believes that he has no legal duty to do so.

Rich Intelisano and Katz LLP represents investors in FINRA arbitrations and other litigations against broker-dealers and other financial firms.

There has been a spate of litigation in recent years over whether broker dealers can contract out of FINRA arbitration and litigate in court instead. Goldman, Sachs & Co. v. Golden Empire Schools Financing Authority, 764 F.3d 210 (2d Cir. 2014) is a recent example in the Second Circuit. Since 1989 the courts have blessed industry mandated FINRA arbitration as contained in the industry’s standard form customer agreement. Thus, investors effectively have no choice but to resolve investment disputes through arbitration. The industry has benefited from less costly and efficient arbitration and the avoidance of jury verdicts, and until recently, the FINRA rule requiring an industry representative on every panel. The trade off to enforcement of mandatory arbitration in favor of the industry was supposedly a fair and more efficient dispute resolution process for the investor.

Now, however, as FINRA reforms over the years have made arbitration more fair for investors, and as the cases brought against broker dealers have become larger and more complex, the industry is shifting strategy and attempting to have large and complex cases litigated in court. The means of choice for the industry to accomplish this are court forum selection clauses in contracts brokers obtain from the investor in an effort to trump any FINRA arbitration requirement.

Why would the industry like to be able to escape FINRA arbitration in a large and complex case? The answer lies in the nature of the investment documents usually associated with these cases which investors are required to sign as part of complex investment purchases. These investments typically have standard form risk disclosures which investors must acknowledge before investing. Such disclosures can sometimes be fatal to a court claim where they often form the basis for a motion to dismiss the case before discovery or trial, based on the more stringent pleading requirements of court litigation. In FINRA arbitration, on the other hand, absent rare circumstances, the investor is guaranteed a hearing on her case and motions to dismiss are not allowed.

In addition, in court the broker dealer can not only move to dismiss before trial, if it loses a large case it can move to set it aside before the trial court or on appeal. In FINRA arbitration, any court challenge must meet a very high burden and such challenges are rarely successful.

Why should the industry be able to cherry pick the disputes under which arbitration is required? The court decisions, like the Goldman decision referred to above, turn on principles of contract interpretation, often with no reference or discussion of the basic fairness and public policy implications of giving the industry an escape clause from its own mandated regime, whereas the investor can’t escape. Nor do the court cases adequately, or sometimes not at all, consider the role FINRA arbitration plays to help keep the industry playing by its own rules while avoiding the onerous legal hurtles and costs many investors would face in court.

Reuters reported that Mary Jo White, Chair of the U.S. Securities and Exchange Commission, came out in favor of creating of new rules to harmonize standards of care between investment advisers and brokers. Currently, investment advisers must act in a client’s best interest, while brokers may continue to sell products that primarily benefit their or their firm’s financial interests – so long as such products are “suitable” for the clients.

Wall Street has opposed efforts by the Department of Labor to craft rules governing such broker conduct and requiring them to put client’s interest first. White’s comments this week suggest that the SEC may be preparing to weigh in on the issue.

Rich Intelisano and Katz LLP represents investors in FINRA arbitrations and other proceedings against both investment advisers and brokers.