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Securities Compliance Sentinel

Analysis of cutting-edge securities industry issues

SEC Announces Third Largest Whistleblower Award

Posted in Compliance and Supervision, SEC Compliance, SEC Enforcement, Whistleblowers

Business Insurance reported late last week that the Securities and Exchange Commission will award $5-6 million to a whistleblower who provided information on securities violations that would have been “nearly impossible” for the SEC to detect on its own.  Such an award would be the third larges award ever granted to a whistleblower by the SEC.  This also comes on the heels of a $3.5 million whistleblower award from the week before.  whistleblower

The takeaway is that the SEC continues to heavily incentivize company insiders to report possible securities violations.  It is critical to have internal controls and monitoring to catch these problems before a whistleblower runs into the SEC.  Self-reporting can drastically reduce exposure to damages and fines, but if you do not have proper compliance checks in place, you may never even catch the problem yourself.  Routine internal investigations and a rigorous compliance and monitoring system will go a long way to preventing and spotting securities issues early, and thereafter managing and mitigating the fallout.

So you think you want to invest in medical marijuana

Posted in Financial Industry Trends, Private Placements

By most recent estimates, the medical marijuana business is generating at least $4.5 billion a year in revenue. Naturally, many people want to cultivate their own opportunities in this ever growing business.

Now that Pennsylvania has become the latest state to authorize medical marijuana, many people will look to invest in this industry. Some businesses in this industry may try to raise capital by having a Reg. D offering. Before investing in such an opportunity, it is important to read the “fine print” in any statutory or regulatory scheme on the subject. money and calculator

Pennsylvania, for example, will require a criminal history record check (through the State Police and FBI) “of the principals [and] financial backers . . . .” The stated purpose of such a check is to determine the “fitness and suitability” of the principals and financial backers to serve in those capacities. The criminal background check does not apply, however, to an owner of securities of a publicly traded company as long as the owner of securities is not “substantially involved” in the operations of the business.

So what does this all mean? For those of you looking for investors, you should do your own legwork on all potential investors in your venture. For those of you looking to invest in this smoldering industry, you need not apply if you have a criminal background, especially one involving the sale of controlled substances.

There are many opportunities in this industry. But ownership or financial backing of such a business in Pennsylvania comes at a price. Before you buy in, make sure you are willing to pay the price.

Take Away From The NSCP New York Regional Conference

Posted in Breach of Fiduciary Duty, Broker-Dealer Regulation, Compliance and Supervision, Cyber-Security, Financial Industry Trends, FINRA Compliance, FINRA Enforcement, Investment Adviser Regulation, Public Customer Arbitrations, Registered Representatives, SEC Compliance, SEC Enforcement, Securities Litigation

It was great speaking at the May 17 New York NSCP regional conference on risk issues facing firms where Ernie Badway and I discussed cyber-security, risk issues, regulatory matters, issues involving elder clients and ways compliance personnel can protect themselves.  For those of you who could not make the conference, these topics are frequently discussed in our various publications.  Feel free to access them here and use them as you see fit.  Core Values

NSCP Spring Conference in New York

Posted in Breach of Fiduciary Duty, Broker-Dealer Regulation, Compliance and Supervision, Cyber-Security, Financial Industry Trends, FINRA Compliance

On Tuesday, May 17, Ernie Badway and I are the keynote speakers at the NSCP Spring Conference in New York, entitled “Juggling Compliance Risks — Maintaining the Balance“. BoardAmong other things, Ernie and I will be speaking about cybersecurity, risk avoidance techniques, government regulations, elder client issues and compliance.  We hope to see you at the conference.

Hey, what ever happened to the telephone

Posted in Broker-Dealer Regulation, Cyber-Security, Financial Industry Trends, FINRA Compliance

Believe it or not, the old fashioned telephone may be one of your best defenses to a data breach and corresponding fraud. How so, you may ask.

19196909_sOne of the greatest data security risks that firms have is not necessarily a hack into your IT systems. Instead, the hacking into your client’s email account may pose an even greater risk.

For example, an email account can be hacked and the hacker pose as your client and then makes an email request for a wire transfer of a significant amount of money. The easiest way to ensure that the email is legitimate is to pick up that thing that sits on the corner of your desk and call your client to confirm that he/she is requesting the wire.

This phone call takes no more than five minutes and will avoid you having to file a SAR and being out of pocket to your client. You should have a written policy that all wires should be confirmed over the phone where the failure to do so will be termination.

Hackers are getting more and more creative. Yet, the oldest technology in your office may be the difference between a data breach and a satisfied customer. Don’t forget to use it.

Why Face-to-Face Meetings Are Necessary for Proper Supervision

Posted in Books and Records, Broker-Dealer Regulation, Compliance and Supervision, Financial Industry Trends, FINRA Compliance, Registered Representatives, SEC Compliance

In this day and age of instant information and overstretched supervisory personnel, you have to be careful to avoid forgoing a very useful supervisory tool. Meeting face to face with those associated persons under your supervision on a regular basis could mean the difference between routing out rogue advisors and being subject to regulatory and civil actions.Core Values

Face to face meetings are even more important where the people you supervise are in regional offices. In other words, those advisors you do not see on a regular basis. With these people in particular, you must go to their offices for regular visits.

You may ask why it is so important to have face to face contact with the people you supervise. After all, you monitor email and correspondence on a daily basis. The advisor submits her outside business and AML forms on at least an annual basis. So who cares about a face to face?

Believe it or not, people lie on forms. It is easier to lie on paper (real or electronic) than it is in person. Also, seeing someone in their natural environment may make it easier to solicit information from them because they are relaxed.

Face to face meetings also help to show whether a person is living beyond his or her means. For example ,what would it mean if a mediocre producer is now driving a Ferrari? Maybe nothing, but maybe a lot more.

People living beyond their means can be a sign that they have another source of income, legitimate or not. You would never know if there is a potential issue if you did not bother to go to this person’s office for a face to face. That person could be the next Madoff, but you would never know if you only sat in your office and stared at a computer screen all day.

If you are going to supervise, then do it. Never forget the value of face to face meetings with those under your supervision.

Why A Free Dinner Is Never Really Free

Posted in Breach of Fiduciary Duty, Broker-Dealer Regulation, Compliance and Supervision, Federal and State Criminal Activities, Financial Industry Trends, FINRA Compliance, SEC Compliance, SEC Enforcement

The SEC recently charged four investment advisors who allegedly used free dinners to entice older clients to their firm. At these dinners, these individuals allegedly provided fraudulent marketing materials to the attendees and ultimately did not invest all of the money that they were given.whistleblower

Granted these four advisors may just be bad apples and not an indictment of the use of free lunches or dinners to attract new clients and money. However, if you do engage in these types of “seminars”, this enforcement action should be a wake-up call.

The SEC and FINRA have made it very clearly how they intend to approach marketing efforts directly at seniors. Both regulators will be taking a hard look at these types of seminars used to attract elder investors.

So, if you are going to offer a free meal, make sure that you are giving something of value to your prospects. Do everything on the up and up when offering these types of opportunities because your regulator is watching.

Why stupid clients should not ruin your business model

Posted in Books and Records, Broker-Dealer Regulation, Compliance and Supervision, Financial Industry Trends, FINRA Compliance, Registered Representatives, SEC Compliance, Securities Litigation

Unlike lawyers, especially litigators, the business model of a financial advisor is not dependent upon clients being stupid. Instead, financial advisors depend on their clients making smart decisions after full disclosure and consideration after speaking with their financial advisor. So what do you do when clients make stupid decisions?whistle

In defending brokers over the years, I have seen multiple instances where clients made stupid decisions. From a legal standpoint, there is generally no duty to prevent a client from making a stupid investment decision. It is what the advisor does in response that is the most important lesson to learn.

The mistake is when the advisor ignores his client’s stupid decision in light of an advisor having provided proper advice in the first place. The key thing is to document any instance where your client ignores your advice and does something stupid. A brief story solidifies this point.

A number of years ago, an advisor told his client not to sell his life insurance policy to take the cash out until the client cleared underwriting on a new policy. Of course, the client ignored the advice, went over the advisor’s head and cashed out the policy without clearing underwriting on the new policy. Turns out the client was “deathly” allergic of bee stings.

We were able to successfully defend because of something that the advisor did. He documented his recommendation not to cash out the old policy without underwriting being completed on the new policy.

But for the smart actions of the advisor, this situation would have turned out much differently. It is just as if not more important to document when a client ignores your advice as it is when you give advice to your clients. Doing nothing is never an option.

Who wants to know how OBA disclosures can save your firm

Posted in Broker-Dealer Registration, Compliance and Supervision, Financial Industry Trends, FINRA Compliance, FINRA Enforcement, Ponzi Schemes, SEC Compliance, SEC Enforcement

Over the years that I have defended broker-dealers and investment advisors, a more robust overview of outside business activity (OBA) disclosures would have gone a long way to disprove a number of claims. So where did these firms go wrong?

The biggest issue that I have seen is a firm’s willingness to take the OBA of a representative or IAR at face value and not do any more due diligence. In one instance, that due diligence could have unraveled a Ponzi scheme at its inception, instead of years after the facts and millions of dollars lost.money and calculator

In that case, the representative disclosed a beneficial interest in another business and that certain of his clients used that other business for tax preparation services. Although that other entity was not subject to the firm’s authority, the firm could have done more than nothing.

For one, the firm could have conditioned its approval of the OBA on the representative providing bank account statements for the other firm so that the FINRA-regulated firm could have assessed the scope of its clients using that other firm. By doing so, the firm could have uncovered that its clients were transferring money in not insignificant sums from their brokerage accounts to this third-party.

Conversely, if the representative refused or unable to get these statements, the firm could have denied approval of the OBA. Although this extra step may not have exonerated the firm from its representative’s use of the OBA to perpetrate a fraud, it would have provided a solid argument that it should have no liability because the representative acted outside the scope of his authority.

The moral of the story is that there is no perfect system for assessing OBAs. The important thing, however, is to take nothing at face value. Ask questions and push for information. If your employee is unwilling or unable to get that information, then the best thing is to not approve the OBA and lay the foundation for a defense if you are ever questioned about your employee’s outside business activity.

It’s All In The Documentation

Posted in Books and Records, Broker-Dealer Regulation, Compliance and Supervision, Financial Industry Trends, FINRA Compliance, Registered Representatives, SEC Compliance

In the near 20 years that I have been defending financial advisors against claims, many of which brought by seniors, the biggest issue that I have seen is the failure to document the file in a proper manner. Why does this matter you may ask?Core Values

First and foremost, the way a file is documented tells a story about how the advisor managed the relationship. This is even more important now that there is an intense focus on suitability issues with senior investors. The better and more detailed the documentation in the file, the easier it will be to defend against any suitability claim.

Another key is to document all communications with your clients, especially seniors. This particularly comes into play when a client ignores your advice. When a client ignores your advice, an email or letter to the client detailing that action and the consequences for doing so are key, and can mean the difference between winning or losing a case.

One last comment deserves mention. If your file lacks documentation, do not try to recreate it after a client complains. Speaking from personal experience, recreating documents does not end well for the advisor. You can still defend yourself when file is documentation-light, but you can’t when you alter your file.

So remember, it is all in the documentation. Have very good documentation and protect yourself. Don’t document your file and roll the dice. The choice is yours.