by Bill Singer
A lot of unhappy customers were burned by Auction Rate Securities -- and a lot of stockbrokers aren't too happy with the product either.
In a Financial Industry Regulatory Authority (“FINRA”) ArbitrationStatement of Claim filed in December 2010, customer Claimant Najdzin asserted damages arising from breach of fiduciary duty, misrepresentation, omission of facts and unsuitability in connection with his purchase of various Blackrock and Eaton Vance auction rate securities (“ARS”). Claimant sought Claimant $125,000.00 in compensatory damages; $500,000 in punitive damages, plus interest attorneys’ fees, and costs. In the Matter of the FINRA Arbitration Between Louis Najdzin,Claimant, vs. E*Trade Securities LLC, E*Trade Financial Corporation, and William John Velthaus, Respondents (FINRA Arbitration 10-05584, May 10, 2012).
Respondents E*Trade Securities LLC and Velthaus generally denied the allegations and asserted various affirmative defenses.
Bill Singer
Respondent E*Trade Financial Corporation did not enter an appearance in this matter.
Respondents filed a Motion to Expunge Velthaus’ Central Registration Depository records (“CRD”), which Claimant did not oppose.
Settlement
In February 2012, the parties reached a settlement and, thereafter, an expungement telephonic hearing was held. The FINRA Arbitration Panel recommended the expungement of the arbitration from Respondent Velthaus’s CRD. In reaching that decision, the Panel reviewed the parties’s December 1, 2011, Settlement Agreement and General Release; and also the transcript of a September 10, 2007, telephone conversation between Claimant and Velthaus during which Claimant decided to purchase the ARS in dispute.
Because this Panel presented its expungement rationale with great clarity, I offer their words to you:
Claimant bought the auction rate securities on September 10, 2007. The widespread failure of auction rate securities did not commence until February 2008. At the time of the sale, auction rate securities were not considered unsafe or imprudent. There was no significant history of auction failures. Mr. Velthaus testified there had been no major failures since that involving Drexel Burnham & Lambert some 18 years earlier. Claimant did not claim that Mr. Velthaus had information indicating the threat of likely auction failures that he suppressed.
The underlying securities were AAA rated New Jersey municipals. The transcript of the telephone conversation reveals that Mr. Velthaus also discussed with Claimant investing in FDIC insured certificates of deposit and United States government treasury securities, which he described as the “most safe, most liquid securities in the world” as alternatives to the auction rate securities.
E*Trade Securities was not an underwriter, market maker, auction agent or bidder for auction rate securities and did not have auction rate securities in inventory. Mr. Velthaus testified that he made a smaller commission on the sale of auction rate securities than he would have made on Claimant’s purchase of the certificates of deposits or government securities he discussed with Claimant. Mr. Velthaus advised Claimant that E*Trade Securities “is being compensated by the issuer of the security”.
Claimant is an experienced investor who carried debit balances, traded options and was able to evaluate risks. He stated in the telephone conversation with Mr. Velthaus “I’m pretty risk tolerant… I’m not opposed to risk. I mean, I understand the risks of the market… it’s not like I’m going to say, ‘Hey, you lost me money’”.
Bill Singer’s Comment
Few products caused more harm than ARS — they angered many customers whose savings were tied up in the suddenly illiquid securities; and many stockbrokers were named in lawsuits and arbitrations concerning a product that, frankly, they had believed in and were victimized by. See some of these “Street Sweeper” articles:
Public Customer Seeks $1 Million From Oppenheimer in ARS Arbitration (December 2, 2011)
The Ghost of Bear Stearns Raised in $59 Million FINRA ARS Arbitration Against JP Morgan (November 8, 2011)
US Airways Lands $15 Million FINRA Auction Rate Securities Award (June 2, 2011)
Arbitration Litigates ARS Suitability (December 29, 2010)
I got up this morning – which is always preferable to the alternative – and realized that this was going to be one of those days where most of what’s in the news is a rehash of what’s been in the news for some time. I mean, you know, Greece, JP Morgan, Facebook . . . ho hum. As far as playing today’s market, who knows?Should we be long SPY, XLF, QQQ, IWM, EEM — or just short the crap out of all of ‘em?
Not finding much grist for today’s “Street Sweeper” mill, I thought that I might digress. Okay, so, sure, I always digress. Fact is, I just did it again. Anyway – where was I? Oh,yeah, I was digressing.
So — last night I opened a bottle ofNaia Ducado de Altanfrom Rueda, Spain. It’s a 100% Verdejo, a white wine grape. Some of you may know that I was the third generation of my family in the wine business. For those of you unfamiliar with that fascinating aspect of my life, let me inform you that before I became a lawyer, I was the third generation of my family in the wine business. Okay, so now all of you know that I was the third generation of my family in the wine business and, likely, all of you could care less.
Anyway, back to my digression about last night’s bottle of Spanish white wine. It was a cheap bottle – no, let me correct that, my father always told me that we never sold anything cheap, only fantastic purchases of inexpensive wine. Consequently, the Ducado de Altan was an inexpensive white wine. Perhaps, to best put the wine in perspective, it was the perfect choice for a Tuesday night meal: affordable, interesting, not great, but not vinegar.
While my wife listened to me grouse about Wall Street, world events, and the New York Mets during dinner, I stopped talking for a few seconds (a rare event for me and most lawyers) to sip the verdejo. Good acid. Nice bite. Astringent with some interesting citrus tones and a pervasive herbaceous aroma. See, I know all that lingo. Ya wanna buy a case? I can work with ya on that.
In any event, I reached for the bottle to see what the back label said. This is what I read:
Made to please everyone, this wine is fresh and intense, with white fruit and balsamic notes. Immediately appealing is the ideal wine to drink at any moment, with no complexes. With marked character of its origin Castilla, and the uniqueness of the varietal Verdejo.
I laughed at the intriguing syntax and grammar of the write-up. Sometimes things get lost or go awry in translation. Here we simply left the known universe and wound up with some fascinating assertions.
This was a wine that was made to “please everyone.” No small challenge. On top of that, the wine was “immediately appealing.” Not eventually appealing. Not somewhat appealing. But immediately appealing. Moreover, in addition to this wine’s ability to immediately please everyone, it was proudly proclaimed as the “ideal wine to drink at any moment.” Truly, how does one top that and all for under $10 a bottle?
After reading such enological braggadocio, I would normally roll my eyes in response to the hyperbole. Last night, however, the purple prose didn’t upset me. I wasn’t quite sure why until I re-read the rear label and saw the promise that the wine came with “no complexes.” Apparently, the vintner’s alchemy imbued the Ducado de Altan with the unique ability to not foster an inferiority complex and to permit me to immediately enjoy my life.
This morning, while perusing the news, I fondly thought back to last night and wondered. If only Wall Street could develop a financial product that was made to please everyone, was immediately appealing to all investors, and was the ideal investment at any moment. Oh, and if we could toss in that “no complexes” stuff when it came to understanding the financial reports so that we could truly comprehend what they were selling us and what we were buying, wouldn’t that too be nice?
Alas, In Vino Veritas but In Wall Street Verisimilitude.