Securities Industry Commentator by Bill Singer Esq

Equitable Inadvertence Earns Inequitable FINRA Sanctions (BrokeAndBroker.com Blog)

Indian Trail Man Is Sentenced To Three And A Half Years For Investment Scheme (DOJ Release)

Manhattan Man Pleads Guilty To $6.9 Million Scheme To Defraud Loan Program Intended To Help Small Businesses During COVID-19 Pandemic (DOJ Release)

Indictment Unsealed Charges Three in Fraud Scheme Targeting Rhode Island Seniors (DOJ Release)

SEC Obtains Final Judgment Against Investment Professional Charged with Misappropriating Client Funds (SEC Release)

SEC Awards Over $1.5 Million to Two Whistleblower Claimants

Order Determining Whistleblower Award Claims

FINRA Censures and Fines NYLIFE Securities LLC, and Orders Restitution and Supervisory Undertakings Per Mutual Fund/Cross-Product Switching

In the Matter of NYLIFE Securities LLC, Respondent (FINRA AWC)

FINRA Fines and Suspends Rep for Discretionary Trading

In the Matter of Michael Miles Hartlett, Respondent (FINRA AWC)

[F]rom 2015 to 2020, Cohen defrauded at least 10 victims of more than $385,000, by inducing them to invest money in his purported investment businesses, OTC Bully, Ascension Trading, and Recharge Investments, and in other business ventures. Court records show that Cohen falsely represented to victims, most of whom were Cohen's friends and acquaintances, that he was a financially savvy investor with a successful track record in the financial industry, and that he would invest their funds using a computer algorithm called the "Dewey System."

As Cohen previously admitted in court, to convince victims their investments were legitimate, Cohen provided them with bogus Investment Agreements that purported, among other things, that Cohen would not charge any investment fees, and that the money would be invested in a manner "expected of a reputable, experienced and competent professional investment manager." To further lull victims into thinking their investments were safe, Cohen supplied them with fake profit and loss sheets on a monthly basis, which falsely indicated the victims' investments were growing.

Contrary to claims Cohen made to his victims, court documents show that Cohen did not invest their money as promised. Rather, Cohen used the money to pay for personal expenses and to make Ponzi-style payments to older investors using new investors' money. In November 2020, Cohen pleaded guilty to wire fraud.

The Coronavirus Aid, Relief, and Economic Security ("CARES") Act is a federal law enacted on March 29, 2020, designed to provide emergency financial assistance to the millions of Americans who are suffering the economic effects caused by the COVID-19 pandemic.  One source of relief provided by the CARES Act was the authorization of up to $349 billion in forgivable loans to small businesses for job retention and certain other business expenses through the Paycheck Protection Program (the "PPP").  The PPP allows qualifying small businesses and other organizations to receive unsecured loans guaranteed by the U.S. Small Business Administration (the "SBA").  PPP loan proceeds must be used by businesses for payroll costs, mortgage interest, rent, and/or utilities, among other specified expenses.  Pursuant to the CARES Act, the amount of PPP funds a business is eligible to receive is determined by the number of employees employed by the business and its average payroll costs.  Businesses applying for a PPP loan must provide documentation to confirm that they have in the past paid employees the compensation represented in the loan application. 

Between in or about May 2020 and in or about April 2021, FRAZIER submitted to the SBA at least seven applications for PPP loans for various businesses that he controlled (collectively, the "Frazier Companies").  These applications relied upon fraudulent statements regarding the number of employees of each business and the amount of payroll involved in each business, and were submitted, in many cases, alongside fake bank statements, designed to support FRAZIER's false statements.  These fake bank statements included, among other things, fraudulent account statements for a checking account that showed balances far greater than the account actually held, and that depicted payroll withdrawals that never occurred.  FRAZIER also submitted lists of employees on the purported payrolls of the Frazier Companies, which included names and Social Security numbers which do not match the records of the Social Security Administration, suggesting that FRAZIER fabricated the employee records.  On at least one occasion, FRAZIER also provided documents purporting to show that one of the Frazier Companies had been in existence for approximately 10 years.  In fact, the corporate entity had not been registered until in or about July 2020, months after the onset of the COVID-19 pandemic.

FRAZIER sought a total of more than approximately $6.9 million in PPP loans and was awarded at least approximately $2.17 million.  A substantial portion of the funds awarded was spent not on payroll for the Frazier Companies but, rather, on FRAZIER's personal expenses.  During the period between on or about June 18, 2020, shortly after his first PPP loan was funded, and on or about April 7, 2021, FRAZIER utilized PPP funds to spend approximately $124,982 on hotels, including more than approximately $88,791 at a luxury hotel located in Miami, Florida.  During the same period, FRAZIER spent approximately $63,000 on restaurants and food service, approximately $17,000 on transportation using the ride-hailing app Uber, approximately $16,519 on airline travel, and approximately $11,000 on clothing.  During this same period, FRAZIER collected approximately $21,000 in unemployment benefits.

In addition, between in or about January 2018 and in or about November 2019, FRAZIER engaged in a scheme to obtain personal loans from financial institutions and to evade the payment of credit card debt by making false representations, and sending fake documents, to lenders and banks. 

[B]etween June 9 and June 11, 2021, the three men allegedly participated in a scheme to contact elderly Rhode Islanders and pose as the person's grandchild, claiming that they had been arrested and needed money for bail. The victims were instructed to gather the necessary funds in cash and provide the cash to a courier who would arrive at their home later that day. Several victims were contacted multiple times, in some instances by an individual claiming to be an attorney, seeking additional funds because, they claimed, the amount of cash bail had increased due to additional and more serious criminal charges being brought against their grandchild. The victims were instructed to provide the additional cash to a courier; to mail the cash to an address in Florida; or to electronically transfer the funds to an account in the Dominican Republic. Some victims were told that a "gag order" was in effect and that they were prohibited from telling anyone about the case or the cash payments.

Eleven of the twelve victims allegedly contacted by members of the conspiracy provided cash payments ranging from $6,000 to $99,225. Relatives of one person targeted by the scammers intervened and chased away a person who attempted to retrieve $9,500 in cash.

[B]oggs, without his clients' knowledge or authorization, misappropriated his clients' money by selling securities in their advisory accounts and then transferring the proceeds to his personal credit card account. The complaint further alleged that from 2016 to 2018, Boggs made more than 200 illegal transfers from three advisory clients' accounts to his personal credit card account.

[A[s such, and in light of the unique facts and circumstances here, including Claimants 1 and 2's clear intention to apply for awards in connection with all actions that arose out of the same nucleus of operative facts, that the NoCA posting for Covered Action  Redacted cross-referenced the proceeding later posted as Covered Action Redacted, that Claimants 1 and 2 were unrepresented, and the fact that the claims for the Covered Actions had not yet been adjudicated, we treat Claimant 1 and 2's award claims in both Covered Actions as timely.

The firm's supervisory system and procedures were not reasonably designed or enforced to detect and prevent unsuitable mutual fund switching. 

From January 2015 through March 2019, NYLIFE Securities' written supervisory procedures defined mutual fund switching as using the "proceeds from the redemption of one mutual fund to purchase one or more other mutual funds" and noted that mutual fund switching was problematic when the "benefit to the client does not justify the incidental costs." The firm surveilled for mutual fund switches on a weekly basis, identifying transactions that the firm deemed "letterable," such as a switch from an A share to A share where accounts incurred front-end sales charges. A letterable switch resulted in a letter to the customer that disclosed the mutual fund purchase and sale at issue, but did not disclose the sales charges incurred on either transaction. 

When a registered representative had five or more letterable switches in a quarter, NYLIFE Securities' system flagged the transactions on a quarterly mutual fund switching report for a quarterly switch review conducted, in part, by the firm's compliance department. NYLIFE Securities also tasked the flagged registered representative's direct supervisor, known as the Managing Partner, with a review of the transactions through the completion of a mutual fund switch checklist that required the Managing Partner to determine whether the customer received an "overall benefit as a result of the transaction(s)." The Managing Partner could delegate the review of transactions to another supervisor but was responsible for making the final determination about the transactions. 

The firm, however, did not have written supervisory procedures or adequately train supervisors on how to determine whether the clients benefitted from the mutual fund switch transactions or whether the transactions were suitable. The firm provided Managing Partners with the sales charges incurred on mutual fund purchase transactions. However, the firm did not provide Managing Partners with other critical information such as the holding periods and costs (such as front-end sales charges) associated with the mutual fund shares sold. The Managing Partners also could not readily access historic transaction information for the customers' accounts. Without this information, the Managing Partners could not independently determine if short-term trading was taking place in the customer's account or assess the overall financial impact of the transactions to the customer. 

The firm failed to reasonably supervise Broker A's mutual fund trading. 

The firm failed to take reasonable steps to review Broker A's recommended short-term trades of Class A mutual funds in ten customers' accounts, many of which belonged to senior customers.² Specifically, on hundreds of occasions between January 2015 and March 2019, Broker A recommended that these ten customers buy and sell Class A mutual funds after holding the shares for short periods of time. As a result of these shortterm trades, the ten customers paid approximately $175,000 in unnecessary front-end sales charges for Class A mutual fund shares, with Broker A earning approximately $116,000 in commissions. 

To the extent NYLIFE Securities' system flagged Broker A's mutual fund switches for a quarterly switch review related to customers, his Managing Partner did not have adequate tools and was not properly trained to review the suitability of the transactions in order to determine whether a switch provided a benefit to the customer. The firm's compliance department typically closed Broker A's mutual fund switching flags largely on the basis of the Managing Partner's unreasonable review. 

In January 2017, the firm issued a letter of education to Broker A for mutual fund switching in two customer accounts and missed mutual fund breakpoints. The firm's system continued to flag Broker A for mutual fund switch transactions in 2017 and 2018. Even then, the flags remained open for weeks without an adequate supervisory review. Further, although Broker A had multiple switch transactions in every quarter from 2015 through 2018, for 11 quarters, the firm did not flag his trading for supervisory review because the firm's threshold for review was five letterable switches in one quarter. 

NYLIFE Securities failed to maintain a reasonable surveillance system for mutual fund and cross-product switches. 

NYLIFE Securities' procedures defined "cross-product switching activity" as switching activity amongst products (e.g., mutual fund to annuity/life, and/or vice versa) and a "purchase and sale, or a combination of such transactions, occurring within a 90-day period." The firm's system flagged registered representatives' cross-product switch activity on a cross-product switching report, similar to the quarterly mutual fund switching reports, for supervisory review when multiple switch transactions met one or more tests during one quarter. 

Starting in approximately April 2016, as the result of a software upgrade, a database connectivity issue caused incomplete information to flow to the firm's mutual fund switching reports and cross-product switching reports. While the firm conducted limited spot checks for mutual fund switching activity in the ninety days following the software upgrade to check whether the system was properly functioning, the firm did not continue to monitor the system. Further, the firm did not conduct any tests on its cross-product switching surveillance system from January 2015 through March 2019. Notably, in 2017, the first full year after the software upgrade, the number of representatives flagged for quarterly mutual fund and cross-product switching reviews declined by approximately 80% and 69%, respectively, compared to 2015, the last full year before the software upgrade. Still, despite this significant decline, the firm failed to identify red flags of potential system issues during this period and only discovered the cause of the software failure in March 2019 during FINRA's investigation. As a result of the firm's failure to identify this system error, the firm failed to capture approximately 5,700 mutual fund transactions (22% of all mutual fund transactions) for supervisory review, resulting in the failure to supervise 326 mutual fund switch transactions, including those of Broker A, and 1,229 cross-product switch transactions that should have been elevated to a quarterly switching report, according to the firm's procedures. 

During FINRA's review, NYLIFE Securities voluntarily enhanced the firm's procedures and controls concerning mutual fund and cross-product switching; conducted extensive lookback reviews over multiple years to identify potentially overlooked switching activity; and paid restitution of $271,182 to Broker A customers, primarily consisting of front-end sales charges incurred by customers following the April 2016 software failure.

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Footnote 2: Broker A entered into an AWC with FINRA relating to his misconduct. AWC No. 2017056197101 (Nov. 2019). 

In May 2018, a customer opened three brokerage accounts at LPL with Hartlett as the assigned representative. The customer did not execute any documentation granting Hartlett discretionary trading authority in the three accounts. However, the customer orally granted Hartlett discretionary trading authority. Hartlett did not disclose this grant of authority to the firm. From May 2018 through February 2020, Hartlett exercised discretionary trading authority without obtaining prior written authorization from the customer in a total of 22 trades in the three accounts held by the customer. Between 2018 and 2020, Hartlett also falsely stated in three annual compliance questionnaires that he had not exercised discretionary trading authority in any customers' brokerage accounts. 

Therefore, Hartlett violated NASD Rule 2510(b) and FINRA Rules 3260(b) and 2010. 

• Securities Industry Commentator
• Bill Singer