The Wall Street Legal & Regulatory Feed

Securities Industry Commentator by Bill Singer Esq

May 21, 2021










As FINRA would have you believe in the opening words of "Financial Reports and Policies" (FINRA / May 20, 2021) https://www.finra.org/about/annual-reports:
 
As a not-for-profit, self-regulatory organization whose operations are funded by member firm fees-without the support of any taxpayer dollars-FINRA must prudently manage its finances to ensure it can appropriately fund its mission to protect investors and promote market integrity in a manner that facilitates vibrant capital markets.

Ah yes, FINRA must "prudently manage its finances." And how, pray tell, has FINRA been doing with its prudent management? If we examine a document linked on the above page, we find the "FINRA 2021 Annual Budget Summary" at https://www.finra.org/sites/default/files/2021-05/2021_annual_budget_summary.pdf, which ominously notes in part on Page 1:

As described in the Budget Summary, FINRA's 2021 operating revenues are projected to be $924.2 million, a decrease compared to 2020 operating revenues. The COVID-19 pandemic presented a unique set of circumstances in 2020 that contributed to increased revenues due primarily to higher trading volumes and a large number of public offerings. While the budget anticipates that overall trend may continue, it projects that revenues will decline by nearly six percent in 2021 as trading volumes and filing fees from public offerings stabilize. Additionally, FINRA realized lower operating expenses than budgeted for 2020, due to vacancies created from a one-time voluntary retirement program implemented in 2020 that took more time to fill than anticipated during the pandemic, as well as significant reductions in travel and in-person testing expenses. Operating expenses are anticipated to increase in 2021 by approximately 3.5 percent over 2020 budgeted levels, with headcount gradually rising to budgeted levels and in-person testing and travel expected to pick up as the year progresses. 

FINRA asserts that the Covid pandemic "contributed increased revenues due primarily to higher trading volumes and a large number of public offerings." And despite those increased 2020 revenues, FINRA projects a "nearly six percent" reduction in revenues for 2021. Notwithstanding FINRA's projected fall for 2021 revenues, the regulator advises that "Operating expenses are anticipated to increase in 2021 by approximately 3.5 percent . . ." All of which begs the question as to why operating expenses are not being targeted more aggressively. Perhaps the answer is found in FINRA's existence as a "not-for-profit" organization -- given that status, why bother trying to make ends meet. As to how far apart those non-meeting ends are, consider this statement on Page 2 of the "FINRA 2021 Annual Budget Summary":

In light of the projected revenues and expenses described above, the budget anticipates we will report a loss in 2021, with a potential draw-down of our reserves of about $187.5 million (referred to as the Potential Reserve Reliance). As in prior years, this projection helps us understand at the beginning of the year, for budgeting purposes, how reliant we may have to be on our reserves during the course of the year. However, in practice, our actual net income or loss-to be reflected in our 2021 AFR-will ultimately include fines, investment returns and other accounting adjustments (including consolidated subsidiaries such as the FINRA Investor Education Foundation and FINRA CAT, LLC). 

Oh my, a $187.5 million draw-down. But wait, it's not so bad because it's a "Potential Reserve Reliance." 

A Potential Reserve Reliance?

What's the difference between a "Potential" reserve and an "Actual" reserve? And what the hell is a "Reliance"?

This is what Wall Street's self-regulatory-organization thinks passes for plain English and clear disclosure? 

FINRA's overblown 2021 budget is projected to require funding from FINRA's reserves to the tune of $187.5 million, but FINRA says that it will not encounter any problems because there's money in something described as a "Potential Reserve Reliance." And they don't want to allow the sales of cryptocurrency because it's still too confusing to understand? Making matters worse is this prosaic subterfuge: "As in prior years, this projection helps us understand at the beginning of the year, for budgeting purposes, how reliant we may have to be on our reserves during the course of the year." Ummm, what? We got a regulator regulating the financial services industry and that regulator needs to be "reminded" at the start of each fiscal year that it lacks adequate revenues to cover its ongoing expenses?  

http://www.brokeandbroker.com/5860/insecurities-aegis-frumento-alex-oh/Guest Blogger Aegis Frumento discusses the unravelling of Alex Oh's dream job as the SEC Director of Enforcement. That dream started on April 22nd but by April 28th had turned into a nightmare. Within a week, Oh was in as Director and then Oh was out. As dream jobs go, it was a rude awakening.

Two Jackson Men Charged in Multi-Million Dollar Fraud Scheme Conspiracy (DOJ Release)
https://www.justice.gov/usao-sdms/pr/two-jackson-men-charged-multi-million-dollar-fraud-scheme-conspiracy
In an Indictment filed in the United States District Court for the Southern District of Mississippi, Ted Brent Alexander and Jon Darrell Seawright were each charged with one count of conspiracy to commit securities fraud and wire fraud; one count of securities fraud; and four counts of wire fraud. As alleged in part in the DOJ Release:

[F]rom January 2011 through December 2018, Alexander and Seawright misled their investors to believe that Alexander and Seawright were the principal actors in the venture, while downplaying and concealing from investors the true fact that the "broker" was Madison Timber Properties, LLC, a company wholly owned by Arthur Lamar Adams, and there were no real contracts for timber and lumber mills.  Adams was previously convicted and sentenced for his role in the Ponzi scheme. 

In addition, the indictment alleges that Alexander and Seawright represented to their investors that the two men would inspect each property underlying each investment,  and they would verify that supposed lumber mill agreements were in existence and valid.  Alexander and Seawright failed to do any of those things.  Throughout the fraud scheme, Alexander and Seawright persuaded their investors to maintain their investments and to invest additional funds, by asserting that Alexander and Seawright had their own personal funds invested in the venture. 

Alexander and Seawright represented to their investors that the investors would be first repaid all of their principal and interest before  Alexander  and Seawright would receive fees, and therefore Alexander and Seawright would only earn money from each investment if they performed as promised to their investors.  In fact, in addition to receiving a percentage of return on the investors' funds, Alexander and Seawright also received payments from the broker for recruiting investors into the scheme.  Alexander and Seawright did not disclose to the investors (a) that they were receiving those payments, or (b) the amount of the payments, or (c) that Alexander and Seawright were getting paid before any payment was  made to the investors.

The indictment alleges that, during the course of their scheme and artifice to defraud, Alexander and Seawright solicited over twenty million dollars ($20,000,000) from more than fifty (50) investors.

https://www.justice.gov/usao-sdny/pr/former-ceo-real-estate-private-equity-investment-firm-pleads-guilty-58-million
In an Information filed in the United States District Court for the Southern District of New York
https://www.justice.gov/usao-sdny/press-release/file/1396016/download, the former Chief Executive Officer/founder of MG Capital Management L.P., Eric Malley, pled guilty to one count of securities fraud.  As alleged in part in the DOJ Release:

MALLEY founded MG Capital Management L.P. ("MG Capital") in approximately January 2013, and served as its chief executive officer and chief investment officer from that time until approximately December 2019.  During that time, MALLEY formed two real estate investment funds (collectively, "the Funds") - MG Capital Management Residential Fund III ("Fund III"), in approximately February 2014, and MG Capital Management Residential Fund IV ("Fund IV"), in approximately September 2017.

MALLEY promised, when soliciting investors and throughout the life of the Funds, that the Funds would provide investors with the opportunity to own an equity interest in hundreds of luxury income-producing properties across Manhattan, following a debt-free investment strategy informed by sophisticated proprietary analytics that MALLEY had developed over the course of his career in real estate.  MALLEY touted two purportedly extremely successful prior funds he had formed, Fund I and Fund II; assured investors that the Funds would be and were debt-free; and represented that the properties held by the Funds would be and were leased primarily to corporate tenants, including, among others, well known technology companies and a prominent university based in New York City.  But MALLEY's representations were false.  His claims about the existence and performance of Funds I and II were largely fabricated; the Funds were not debt-free, but instead held mortgaged properties; the properties that made up the Funds were almost entirely leased to individual, not corporate, tenants; and the Funds held far fewer properties than MALLEY had represented.

Through these and other fraudulent misrepresentations and omissions throughout the life of the Funds, MALLEY induced approximately 335 investors to invest a total of approximately $58 million in the Funds.  The Funds together incurred millions of dollars in losses, yet MALLEY distributed at least $278,000 to himself in his capacity as general partner in connection with Fund III, and did not disclose Fund IV's losses until approximately two years into Fund IV's operation.

https://www.justice.gov/usao-edva/pr/new-york-couple-indicted-romance-fraud-scam
In an Indictement filed in the United States District Court for the Eastern District of Virginia, Linda Mbimadong and Richard Broni were charged with wire fraud and conspiracy to commit mail and wire fraud; and, Mbimadong was additionally charged with making false statements to law enforcement during the investigation. As alleged in part in the DOJ Release:

[F]rom at least September 2019 through April 2021, Linda Mbimadong, 29, and Richard Broni, 31, along with other unnamed co-conspirators, targeted elderly victims on social media and email by impersonating romantic love interests, diplomats, military personnel, and more. The pair, and other co-conspirators, tricked victims into mailing them cashier's checks, wiring funds, and sending Apple computer products and other items of value.

According to the indictment, Victim #1 was a 78-year-old man who lost $580,000 to the scheme. He had set up an iFlirt account, an online dating application, on his cell phone for the purpose of communicating with women. A member of the conspiracy began communicating with him on the app as part of the scheme to defraud, transitioning the conversations to Google Hangouts and text messages around September 2019. Victim #2 was a 74-year-old woman who lost approximately $80,000 to the scheme from her retirement savings. A member of the conspiracy contacted Victim #2 on Facebook and transitioned the conversation with her to email and text messages around March 2021.

Posing as a young widow who had inherited gold bars, or as a diplomat assisting people in dire straits overseas, Mbimadong, Broni, and other co-conspirators allegedly tricked elderly victims into sending the conspirators large sums of money. Victims were also allegedly directed to purchase brand new Apple MacBooks and mail them to a conspirator. Mbimadong and Broni allegedly received cashier's checks and wires directly from victims, which they allegedly deposited and shared among the co-conspirators.

SEC Charges Broker-Dealer with Order Execution Violations (SEC Release)
https://www.sec.gov/litigation/litreleases/2021/lr25092.htm
In a Complaint filed in the United States District Court for the Southern District of New York
https://www.sec.gov/litigation/complaints/2021/comp25092.pdf, the SEC charged BTIG, LLC with violating Rules 200(g) and 203(b)(1) of Regulation SHO. As alleged in part in the SEC Release:

[F]rom December 2016 through July 2017, BTIG violated Rule 200(g) of Regulation SHO when it mismarked more than 90 sale orders from a hedge fund customer-representing total sales of more than $250 million-as "long" and "short exempt" when those orders should have been marked as "short." According to the complaint, as a registered broker-dealer, BTIG had independent gatekeeper responsibilities to ensure that the trades it executed were correctly marked. The SEC alleges that BTIG ignored facts indicating that the hedge fund's representations that it owned the securities it was selling and that it would deliver them by the settlement date were false. In particular, the SEC alleges that BTIG was aware of prior compliance concerns regarding the hedge fund, the hedge fund's net short position in the securities it was selling in its BTIG account, statements by hedge fund employees indicating that they did not expect to deliver the securities by the settlement date, the hedge fund's failure to provide documentation showing that it owned the securities on the trade date, and the hedge fund's repeated failure to deliver the securities by the settlement date. Despite these and other red flags, BTIG allegedly continued to mark the hedge fund's orders as "long" and "short exempt" without taking reasonable steps to determine whether those order markings were correct. In addition, the SEC alleges that because BTIG failed to borrow or locate the shares before effecting what were, in reality, short sales, BTIG also violated Rule 203(b)(1) of Regulation SHO.

https://www.sec.gov/litigation/litreleases/2021/lr25093.htm
In a Complaint filed in the United States District Court for the Central District of California
https://www.sec.gov/litigation/complaints/2021/comp25093.pdf, the SEC charged LFS Funding Limited Partnership, Stephen Michael Thompson, Steven Robert Comisar, Dale Jay Engelhardt, and Ross Gregory Erskine with violating the registration provisions of Section 5 and the antifraud provisions of Sections 17(a) of the Securities Act, Section 10(b) of the Securities Exchange Act, and Rule 10b-5 thereunder. With the exception of LFS Funding, the other Defendants are further charged with violating the broker-dealer registration provisions of Section 15(a)(1) of the Exchange Act (and LFS Funding is charged with aiding and abetting those violations). Finally,  Dale Engelhardt is charged with violating Section 15(b)(6)(B)(i) of the Exchange Act for violating a previously imposed associational bar. LFS Funding Limited Partnership and Stephen Thompson agreed to settle the charges by consenting to the entry of judgments that permanently enjoin them from violating the charged provisions; and Thompson will be permanently enjoined from soliciting any purchase or sale of any security, participating in the issuance, purchase, or sale of any security, or acting as an officer or director, and imposes a civil penalty. As alleged in part in the SEC Release:

[B]etween May 2018 and May 2019, the defendants raised more than $618,000 from investors through an offering of limited partnership securities interests in LFS Funding. The SEC alleges that Thompson, an individual with a history of securities law violations, possessed undisclosed de facto control over LFS Funding despite others being named as nominal general partners to conceal Thompson's involvement. The SEC further alleges that Thompson, acting on LFS Funding's behalf, recruited and engaged Comisar, Engelhardt, and Erskine, none of whom were registered as a broker or dealer, as salespersons to solicit investors. As alleged in the complaint, the offering documents represented that investments would be used to fund two medical clinics. These documents were materially misleading because they failed to disclose that, in fact, investor funds would be used to pay more than $170,000 in total commissions to unregistered salespersons and that Thompson was engaged in a skimming scheme designed to divert a portion of investor funds to him through mark-ups charged on equipment and services provided by a supplier that he also controlled. LFS Funding also included materially misleading statements about who controlled the partnership and the compensation paid to salespersons in its Forms D filed with the Commission.

https://www.finra.org/sites/default/files/fda_documents/2018060596601
%20Levi%20William%20Johnson%20CRD%201539986%20AWC%20va.pdf
For the purpose of proposing a settlement of rule violations alleged by the Financial Industry Regulatory Authority ("FINRA"), without admitting or denying the findings, prior to a regulatory hearing, and without an adjudication of any issue, Levi William Johnson submitted a Letter of Acceptance, Waiver and Consent ("AWC"), which FINRA accepted. The AWC alleges that Levi William Johnson was first registered in 1987 and by 2002 he was registered with Thrivent Investment Management Inc. The AWC alleges that Johnson "has no relevant disciplinary history." In accordance with the terms of the AWC, FINRA imposed upon Johnson a $10,000 fine and a five-month suspension from association with any FINRA member in all capacities. As set forth under "Overview" in the AWC:

From July 2014 through September 2017, Johnson borrowed approximately $200,000 from one of his brokerage customers, a family member, without providing required notice to the firm. He also made false statements to the firm that the loans and another transfer were gifts and, in one instance, made a false statement regarding the purpose of a withdrawal from the customer's account. Therefore, Johnson violated FINRA Rules 3240 and 2010. 

https://www.finra.org/sites/default/files/fda_documents/2019060701001
%20David%20Daniel%20Lopez%20CRD%202667397%20AWC%20va.pdf
For the purpose of proposing a settlement of rule violations alleged by the Financial Industry Regulatory Authority ("FINRA"), without admitting or denying the findings, prior to a regulatory hearing, and without an adjudication of any issue, David Daniel Lopez submitted a Letter of Acceptance, Waiver and Consent ("AWC"), which FINRA accepted. The AWC alleges that David Daniel Lopez entered the industry in 1995 and by 2001, he was registered with Spartan Securities Group, Ltd. The AWC alleges that Lopez "does not have any relevant disciplinary history." In accordance with the terms of the AWC, FINRA found that Lopez violated FINRA Rules 3110 and 2010; and the regulatory imposed upon him a 12-month suspension from associating with any FINRA member in all Principal capacities -- in light of his financial status, no monetary sanctions were imposed. As set forth under "Facts and Violative Conduct" in the AWC:

This matter originated from a notice FINRA received on March 7.2019. that Spartan had had ceased business operations due to net capital deficiencies that had been caused by a firm trader. 

Pursuant to FINRA Rule 3110(a) and (b). members must establish and maintain a supervisory system, as well as establish, maintain, and enforce WSPs, reasonably designed to achieve compliance with applicable securities laws and regulations, and FINRA rules. 

FINRA Rule 2010 requires an associated person to observe high standards of commercial honor and just and equitable principles of trade in the conduct of his or her business. A violation of FINRA Rule 3110 also constitutes a violation of FINRA Rule 2010

Pointedly, the AWC alleges in part that:

On March 6, 2019. the trader executed a series of transactions in Spartan's proprietary account that resulted in short positions in a biotechnology stock that exceeded the trading limits set forth in the firm's WSPs. Lopez became aware of the short positions in the biotechnology stock in the morning on March 6, 2019, but failed to modify or restrict the trader's market access until close to the end of the trading day. On March 7, 2019, by the time Spartan was able to cover the short positions into which the former trader had entered, the firm suffered a loss of approximately $16.6 million. 

http://www.brokeandbroker.com/5859/finra-arbitration-vanguard/
In a recent FINRA expungement case, we come across a dispute in which a Vanguard Marketing Corporation customer insists that he sustained losses after he had asked for a portfolio reallocation that wasn't performed. Except three independent arbitrators found otherwise. They said the customer hadn't asked, and, even if he did, those alleged losses weren't even losses. That's as dramatic a rebuke as you could imagine. But what the hell is with the firm's telephone system?

http://www.brokeandbroker.com/5856/finra-ato/
As readers of the BrokeAndBroker.com Blog know, our publisher Bill Singer is a frequent critic of many FINRA Regulatory Notices, which unwisely divert the focus of industry compliance staff from serious tasks and this stress has been exacerbated by the COVID pandemic. Perhaps in response to some of Bill's recent complaints, FINRA just published the truly helpful "Cybersecurity / FINRA Shares Practices Firms Use to Protect Customers From Online Account Takeover Attempts" (FINRA Regulatory Notice 21-18 / May 12, 2021).

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