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Major Fine Slams FINRA Firm For Supervisory Violations
July 22, 2015
When FINRA imposes a $500,000 fine for failed supervision, it is worth reading the regulatory settlement for guidance. In this BrokeAndBroker.com Blog, veteran regulatory lawyer Bill Singer presents the various outside business activity, private securities transaction, advertising, seminar, U4, website, and email issues that got one FINRA member firm tangled up in a costly mess.
Since 1997, NFP Advisor Services
has been a FINRA member firm and presently has about 1,924 registered
representatives at 673 branches.
Prior AWCs
U5 and Rule 3070
Filings The 2015 AWC asserts that in
October 2007, NFP was censured and fined $12,000 pursuant to
FINRA
AWC E062005012702 for failing to timely file Uniform Termination Notice For
Securities Industry Registration ("Form U5"); and for failing to file accurate and timely FINRA
Rule 3070 reports.
Advertising and
Seminars The 2015 AWC asserts that in
April 2011, NFP was censured and fined $50,000 via FINRA
AWC #2007011393902 for approving advertising materials used by a
registered rep in connection with with equity-indexed annuity business, and
that said materials contained false, exaggerated, unwarranted, or misleading
statements. Moreover, the AWC alleged that the firm had failed to document a
principal's approval on said materials and failed to maintain a record of same.
Finally, the AWC asserted that the firm had failed to supervise the rep's
seminars, did not require him to produce a copy of the seminar's script, and
did not have someone attend the seminars to ensure
compliance. Mark-Ups Missing from the
2015 AWC was any assertion as to the existence of a
third prior June
2012 FINRA AWC 2009016273001 in which FINRA
alleged that from October 2008 through December 2008, NFP charged excessive
markups on seven riskless principal corporate bond transactions and also failed
to implement a supervisory system and procedures that were reasonably designed
to ensure that prices charged in principal transactions with customers were
fair, reasonable and not excessive 2009 Branch
Exam The AWC asserts that in February 2009, NFP had
conducted a non-OSJ branch office examination of the office of registered
representative, who is identified in the AWC only as "DM." During the firm's
examination, it purportedly learned that DM was recommending "managed accounts"
and "alternative investments" through his outside Registered Investment
Advisor. The AWC asserts that the rep
had not previously disclosed this business to NFP. Moreover, in October 2009,
DM allegedly disclosed to NFP that he was also engaged in the outside business
activity ("OBA") of managing an investment fund. DM was apparently terminated
by NFP in May 2011. FINRA asserts that DM's outside activities constituted red flags that required NFP to
follow-up and ensure that DM was not also also engaging in private securities
transactions ("PSTs"). As a consequence of NFP's alleged failure to pursue such
warning signs, the AWC asserts that the firm failed to identify DM's
participation in private securities transactions and failed to supervise DM's
participation in those transactions.
79 Dually Registered
Reps The AWC further asserts that NFP failed to
supervise the advisory activity of 79 registered
representatives, who were dually registered with NFP and fourteen RIAs - the
RIAs purportedly had over $3 billion in assets under management, a portion of
which was under the management of the 79 registered representatives.
The AWC contends that
the dually-registered reps had facilitated securities transactions on behalf of
their advisory clients by placing orders with the carrying broker-dealers.
Accordingly, the AWC alleges that NFP failed to supervise and failed to record
these transactions on its own books and records. Further, by failing to discern
the subject trading as PSTs rather than solely OBA, NFP allegedly failed to
establish and maintain a compliant supervisory system.
Unmonitored Email
Addresses The AWC alleges that between January 1, 2009 and
December 31, 2011, NFP failed to preserve securities-related emails that were
sent and received by five registered representatives, notwithstanding that the
firm had corresponded with each rep through the un-monitored email addresses.
The AWC asserts that NFP failed to investigate the addresses to determine
whether they were approved and monitored, and, as such, failed to have a
compliant supervisory system.
Websites The AWC alleges that between
January 1, 2009 and April 26, 2011, the NFP either knew, or should have known,
about three separate securities-related websites that one of its registered
representatives maintained and operated. As a result of this ignorance, the AWC asserts
that NFP failed to provide principal approval of the advertising statements
contained on these websites, and, further, failed to maintain a record of the
websites' communications.
U4 Disclosures
The AWC alleges that in
81 instances between April 1, 2011 and July 7, 2014, NFP's registered
representatives had properly disclosed their participation in OBA; and, in
March 2014, FINRA had advised NFP of its deficiencies in timely-filing Form U4
Amendments for OBAs. Notwithstanding the disclosures and FINRA
admonition, the AWC alleges that NFP failed to correct Forms U4 that it knew
were incomplete or inaccurate despite notice of OBA participation. While the
AWC concedes that with the 2011 implementation of FINRA Rule 3270, NFP had
increased its efforts to encourage registered reps representatives to report
their OBAs, the AWC concludes that the firm still failed to properly scrutinize
these disclosures to ensure that all OBAs
were being properly disclosed on a Form U4 amendment.
Human
Error The AWC contains this somewhat odd allegation:
Moreover, NFP maintained a manual system for reviewing disclosures and filing Form U4 Amendments that was susceptible to human error. NFP thus did not have a supervisory system in place that was reasonably designed to ensure compliance with its Form U4 reporting obligations pursuant to Article V, Section 2 of FINRA's By-Laws.Adding It All Up In summation, the AWC alleges that at various times from December 2006 through January 2014, the NFP "failed to commit the necessary time, attention and resources to several critical regulatory obligations related to its supervision of registered representatives. . ." Among the cited violations were failures to:
- supervise the private securities transactions of 79 representatives who were dually registered with RIAs;
- preserve securities-related emails sent and received by five of its registered representatives;
- approve and preserve advertising materials contained on three websites that were maintained by one of its registered representatives; and
- timely update the Forms U4 of its registered representatives on 81 occasions.
- FINRA By-Laws Article V, Section 2,
- FINRA Rules 1122,2010 (for conduct on and after December 15, 2008) and 4511 (for conduct on and after December 5,2011),
- NASD Rules 2110 (for conduct before December 15,2008), 2210(b), 3010(a), 3040(c)(2), and 3110 (for conduct before December 5, 2011) and
- Section 17(a) of the Securities Exchange Act of 1934 (the "Exchange Act") and Rule 17a-4 promulgated thereunder.
Bill Singer's
CommentOverall, a strong presentation by FINRA. Excellent
content and context. We are provided with clear-cut examples of alleged
misconduct and nderstandable rationale for the allegation of a violation
-- all of which offers meaningful guidance to compliance
staff.A fair point made in the AWC is the sense of
reciprocity in terms of being on notice when you are aware of Act X and should
automatically inquire about Act Y. In the case of PSTs and OBAs, FINRA is correct in warning that these are so frequently in tandem
as to compel an inquiry of the other when only one is discovered by compliance
staff. Although FINRA makes some fair points about member
firms being on "notice" when receiving from or sending to
un-monitored email accounts, I'm not sure that many email users are even aware
of the full "Sender" or
"Recipient" address on their digital communications. For example,
many email programs automatically populate such fields with the name of the
sender/recipient if such is maintained in a Contacts file. Consequently, Reggie Repp may have been assigned the business address of "rrepp@BDXYZ.com" but
when he sends email from his personal address of "reggie123@gmail.com" account, that latter, unapproved account address may
show up in BDXYZ's in-box only as "RREPP" -- and the same often happens in reverse when someone
at BDXYZ sends email to Reggie Repp and
his address is inserted automatically or pursuant to a pull-down menu as
"RREPP." Whether the result of
merely hitting "REPLY" or the impact of auto-fill, email users are
not always viewing the full email addresses of their senders or recipients. That does not excuse lax compliance oversight but it does assert that "notice" is not always so clear.Finally, there is that somewhat odd
admonition in the AWC about NFP's use of a "manual system" susceptible to "human error." I doubt that FINRA meant to imply that human
oversight always renders a supervisory system as not reasonably
designed to ensure compliance. The hallmark of the
definition "reasonable" is premised upon comparison to a
reasonable human being. If, in fact, in reviewing 100
disclosures a compliance officer may mis-read or mis-file one document, for example, that is likely inadvertent error, which does not always rises
to the level of rendering an entire supervisory system unreasonable.
Similarly, we
have seen many examples of computer bugs and glitches that cause far more havoc
than a human being trying to get work done with a head cold. My guess is that
this "manual system" commentary in the AWC is more inartful than
inane.