Pro Se Customer Alleges Unsuitability of Self Directed Put Sales

In the Statement of Answer, Respondent confirmed that Claimant opened a self-directed trading account with eOption is [sic] a division of Respondent.

[B]y Order dated May 8, 2019, the Panel advised that the parties spent approximately 80 minutes describing the discovery process to date, and both parties agreed that the evidentiary hearing scheduled to begin July 23 could proceed as scheduled. In the Order, the Panel directed Claimant to comply with the prior discovery orders and, for Claimant's clarification, itemized the documents to be produced. The Panel also ordered the following: 

2). Regarding documents which have been failed to be produced, the Panel further orders sanctions in accordance with Rule 12212 that it will: 

A) Preclude Claimant from presenting evidence at the hearing in connection with the subject-matter of those documents, and/or 

B) Make an adverse inference against the Claimant at the hearing 

3). The Panel has deferred its assessment of monetary damages in connection with Claimant's failure to comply with the FINRA Code [of Arbitration Procedure] to the conclusion of the hearing. 

1- The Panel finds that the Claimant has continued to fail to comply with discovery orders and guidelines, therefore in addition to previous sanctions assesses a monetary penalty payable by Claimant to Respondent of $23,000. 

2- The Panel denies Respondent's request to dismiss the claims - the hearing scheduled for July 23, 24 and 25th is still on [c]alendar. 

Claimant Hu: $1,425 Initial Claim Filing fee; $160 Discovery-related motion fee;$200 contested motion for issuance of subpoena fee; and $7,537.50 hearing session fees

Respondent Regal Securities: $2,125 Counterclaim Filing Fee; $1,900 Member Surcharge; $3,750 Member Process Fee; $40 Discovery-related motion fee; $50 contested motion for issuance of subpoena fee; and $787.50 hearing session fees.

(1) where the award was procured by corruption, fraud, or undue means; 

(2) where there was evident partiality or corruption in the arbitrators, or either of them; 

(3) where the arbitrators were guilty of misconduct in refusing to postpone the hearing, upon sufficient cause shown, or in refusing to hear evidence pertinent and material to the controversy; or of any other misbehavior by which the rights of any party have been prejudiced; or 

(4) where the arbitrators exceeded their powers, or so imperfectly executed them that a mutual, final, and definite award upon the subject matter submitted was not made.

The Court construes Petitioner's pro se pleadings liberally. It appears that Hu argues that the arbitration award should be vacated for each of the four circumstances noted above. However, an extensive review of the record demonstrates that Hu merely disagrees with rulings that went against him and has not met the limited circumstances in which the Court can vacate the arbitration award.

Based on the Court's extensive and detailed review of the record in this case, it concludes that the arbitrator's decision can easily be inferred from the facts of this case: Hu, as an experienced trader, took a position that could move against him if the price of SVXY went down. As a result of the volatile market, Hu's position moved against him. Hu did not have sufficient capital to cover his position and, even after Regal's actions to stem his losses, Hu owed Regal $265,338.43. Hu then violated the margin agreement by failing to repay that amount. Thus, the arbitrator's $265,338.43 principal award is easily inferred from the facts before the arbitrators. 

Further, the arbitrators found that Hu intentionally violated their discovery orders and, as a result, assessed against him a monetary sanction, which is within the purview of FINRA arbitrators. While the Court is always initially alerted to potential injustice when pro se parties are sanctioned, the record is clear that the arbitrator's gave Hu ample opportunity to comply with their well-explained discovery orders. Hu's disagreement with them does not give him the right to violate them. Nor does an adverse ruling demonstrate bias on the part of the arbitrators. The mere fact that the arbitrators find in favor of the opposing party does not establish partiality. See Polin v. Kellwood Co., 103 F. Supp. 2d 238, 259-60 (S.D.N.Y. 2000). 

Further, the FINRA panel assessed attorney fees against Hu, as provided by his contract. Thus, because the entirety of the FINRA arbitration award can be inferred from the record, the Court rejects Hu's argument regarding the sufficiency of the rationale behind the arbitration award.

In August 2017, Hu, a long-time statistician¹ and owner of a statistical analysis company, opened an individual trading account at eOption, an online discount trading division of Regal. As such, the account was self-directed by Hu, and all trades were unsolicited-which means that Hu made all of his investment decisions entirely of his own accord with no recommendations from eOption. There was no broker or investment advisor associated with his account, and Hu entered all orders himself through eOption's online web-based platform. 

In Hu's new account paperwork, he marked "10+ years" for Stocks, and "10+ years" for Options. Additionally, Hu indicated that his annual income is "$100,000 -$249,999," that his net worth (exclusive of his residence) is $1,000,000 - $3,000,000 and that his liquid net worth is $500,000 - $999,999. Hu also indicated that "the investments in this account will be 1/3 of [his] financial portfolio," which indicated to Regal that his investments did not represent his "life savings," as he now claims in his motion. Hu also indicated "[m]arket speculation" was his investment objective and that his risk tolerance was "[h]igh," both of which are the highest and most aggressive categories on the application.

Hu's option account application also supports his years of investment experience and

desire for speculation. In doing so, Hu again requested the highest level of options trading available at eOption, and further indicated his high income, net worth, years of investment experience, and desire for speculation. Indeed, Hu again marked the most speculative and aggressive trading boxes. Under Investment Objective, Hu marked the most aggressive objective, "[s]peculation," and when indicating what his "[p]rior [o]ption [a]ctivity [h]as [b]een," he marked "[u]ncovered (sales)," again, the most speculative category, and for "[p]rior [o]ption [t]rading [f]requency," Hu indicated he was "[a]ctive," the highest category. Under "[p]rior [o]ption [t]rading [o]ccurred in [w]hat [a]ccount [t]ype," Hu indicated he had traded options using "[b]oth" cash and margin. Out of eight possible boxes he could mark for the category "I plan to use this account for the following (Check all that apply)," Hu marked only one box, again

for the most aggressive category, "[m]arket speculation." Additionally, under [c)ustomer [f]inancial [i]nformation," Hu indicated he had "10+ years" of investment experience with stocks and "10+ years" with options. Finally, not only did Hu mark the most speculative category on every entry on his option application, he also applied for "Level 4" options trading permission, which is the highest, most speculative level of option trading available at eOption.²

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Footnote 1: Hu complains that he provided three years of tax returns which show dwindling income to Respondent when he opened his account. His dwindling income is blamed on outsourcing of his type of job. He argues that Respondent should have treated him with kid gloves because of this.

Footnote 2: Hu also utilized this strategy at other brokerages, including Charles Schwab, that also resulted in Hu incurring massive debts to those brokerages.

experienced, high-net-worth trader, Hu engaged in a very speculative strategy of selling uncovered puts. This strategy involves selling put options for cash premiums with limited reserved cash on hand to purchase the underlying stock if it became necessary. Importantly, Hu's strategy also relies on a steady or rising stock price-as opposed to a declining stock price-that causes the option to expire worthless. This is considered a highly speculative strategy, and an unfavorable market move downward could cause the investor to have to post additional margin or liquidate their position at a substantial loss. Hu utilized this strategy, apparently successfully for a period of time, until the market went significantly against him in early February 2018. 

Hu engaged in a high risk, speculative pattern of option trading that took advantage of a low volatility market environment that worked successfully for him from 2017 through early February 2018. He was most likely utilizing the same strategy at several other discount brokerage firms, including, among others, Charles Schwab. 

Specifically, as to Hu's strategy, he was engaging in a "Level 4" speculative options strategy, which involved selling uncovered puts on the underlying security, SVXY, to collect premium, but which also obligates him to buy SVXY shares at the strike price he sold the options at (if the market price of SVXY falls below the strike price). SVXY is an exchange  traded fund (ETF) that seeks daily investment results, before fees and expenses, that correspond to one times the inverse (-lx) of the daily performance of the S&P 500 VIX Short-Term Futures Index. Hu's maximum gain was the premium earned when he initially sold the option, and his maximum loss would occur if SVXY shares fell to zero. 

During market hours on February 5, Hu continued to sell more uncovered puts on SVXY to collect even more premium. In the afterhours market on February 5, the market experienced a tremendous volatility spike that resulted in the underlying security, SVXY, substantially falling in value. When SVXY closed on February 5 at a price of $71.82, Hu was not in a margin call situation at the market close. A margin call would have been triggered in Hu's account when SVXY reached a price of approximately $47.05. However, in after-hours trading that day, due to extreme market volatility, the stock plunged to as low as $11.00, which placed Hu in a substantial margin call that required additional funds to be deposited. eOption's risk manager phoned Hu after the close on Monday, February 5 to inform him of the after-hours drop in price.

Hu was short a total of 102 uncovered puts on SVXY, and unfortunately, options do not trade in the after-hours market, and thus there was no opportunity for Hu to cover (i.e. buy back) his option positions on SVXY. When the price of SVXY fell below $47.05 in the after-hours market, Hu was in a margin call.

When the market opened on February 6, 2018, trading of SVXY was temporarily halted and opened hours after most stocks that day, at a price of $11.70 (which was down more than 80%, or $60.12 from the previous close of $71.82/share). eOption's Risk Management Department bought to cover 64 short puts on SVXY and covered a small position on VXX6 at a total cost of $457,605.96-which was the amount of cash that Hu had in his account. In accordance with the Margin Agreement, the firm's Risk Management Department used this balance to cover a portion of the amount he owed, but there was still a remaining amount due. 

Also, 5 puts were assigned to Hu that evening on February 6 that were "deep in the money." A "deep in the money" option has an exercise, or strike price, significantly above (for a put option) the market price of the underlying security, SVXY. Thus, since Hu was assigned 5 "deep in the money" puts that day, he had to purchase 500 shares of SVXY at $70/share, for a total cost of $35,009.00. On the evening of Wednesday, February 7, Hu was assigned another 26 puts (where he had to buy 2600 shares of SVXY) at an expenditure of $228,027.00 (for the breakdown, he bought 1,300 shares at $85, 1200 shares at $90, and 100 shares at $95). This still left Hu's account with a long position of 3,100 shares of SVXY and short 7 SVXY naked puts. 

On Thursday, February 15, eOption's Risk Management Department ultimately liquidated the remaining positions. At that time, eOption sold 3,100 shares of SVXY for approximately $39,990.00 and bought to cover the remaining 7 short puts for approximately $40,044.00. However, there was not enough to cover his entire balance, resulting in a shortfall in Hu's account of -$264,603.77. Hu did not and has not paid this amount.

• FINRA
• Arbitration
• SVXY
• VIX
• Options
• Unsecured Debit
• Self Directed
• Put Sales
• Discovery
• DNEV
• FAA
• BrokeAndBroker
• Bill Singer