Tuesday, March 19, 2013
The lack of civil recovery options for harmed investors is weakening the confidence of investors in financial products and markets, Heath Abshure, the president of the North American Securities Administrators Association (NASAA) said in a keynote speech delivered today at the Securities Industry and Financial Markets Association (SIFMA) Compliance and Legal Society Annual Meeting in Scottsdale, Arizona.
The virtual elimination of litigation as a dispute resolution option through mandatory arbitration clauses, coupled with increasing procedural and evidentiary burdens, will have profound effects on investors and their confidence in investment products and markets. Most troubling is that these remedies are decreasing just as the era of crowdfunding and general solicitation in Regulation D, Rule 506 offerings is about to launch. This presents particular risks to small investors.
Monday, December 17, 2012
The Massachusetts Securities Division sued LPL Financial on Dec. 12, 2012, charging it with improper sales of non-traded REITs. According to its complaint, the state received complaints from Massachusetts investors who invested in non-traded REITs, and upon investigation, found numerous violations of Massachusetts securities law, including (1) slales made in violation of specific state requirements, (2) sales made in violation of prospectus requirements, and (3) sales made in violation of LPL compliance practices. The state alleges that representatives sold over 4 million dollars of non-traded REITs in violation of the law and prospectus requirements.
Friday, December 7, 2012
Thursday, July 5, 2012
Sixth Circuit: Lawyers Performing Ordinary Legal Work are not Statutory Sellers under Kentucky Statute
The Sixth Circuit recently held that an attorney who performs traditional legal services for a company offering its securities to the public cannot be held liable as an offeror or seller of the securities or as an agent of the seller who materially aids the sale of securities, under the Kentucky securities statute. Bennett v. Durham (6th Cir. June 28, 2012). (Download BennettvDurham)
Durham was an attorney who represented two oil and gas exploration companies in connection with their sales of securities, including drafting the documents for the deals. He also made himself available to answer prospective investors' questions, all the while, according to plaintiffs, knowing that the documents contained material misstatements and that the securities were neither registered nor exempt from registration. The court relied on Pinter v. Dahl, 486 U.S. 622 (1988) and determined that there was no reason to think that Kentucky courts would construe the words differently. The court emphasized that plaintiffs did not allege any facts that would show that Durham performed any services other than "ordinary legal work securities lawyers do every day." Plaintiffs "cite no case holding an attorney liable under the Uniform Securities Act merely for drafting documents, providing advice and answering client questions."
Thursday, October 27, 2011
An investor in a Madoff-feeder fund managed by J. Ezra Merkin recently won a $7 million arbitration award in a AAA proceeding (Straus v. Merkin, 13-148-Y-001800-10 Oct. 12, 2011DownloadARBITRAL AWARD V EZRA MERKIN) and seeks to confirm the award in New York Supreme Court. In a reasoned award, the majority of the panel found that Merkin was liable for material misstatements and omissions under the New Jersey Securities Act. Specifically, Merkin did not disclose to this investor (although he did to many others) that the fund was nothing more than a feeder fund for Madoff. Instead, the documentation at the time of the investment represented that Merkin determined the investment strategy. In addition, the panel found that, over their nine-year association, Straus and Merkin had no discussions about the true nature of the investment and that Straus did not learn of other information that should have alerted him to the extent of Madoff's involvement.
What is particularly interesting about the award is that the majority addresses a Sept. 23, 2011 decision from the S.D.N.Y. (In Re Merkin and BDO Seidman Securities Litig.) that found no violation of Rule 10b-5 on similar allegations. Judge Batts determined that there had been insufficient allegations of a material misstatement or omission in the context of the broad discretion in the agreement to use other fund managers. "The answer to Respondent's assertion that Judge Batts' determination warrants a dismissal of the claim before this Panel is that the majority disagrees with Judge Batts' conclusions." While the arbitration award was based on state securities law, "where [the issues] coincide, the majority respectfully disagrees with her conclusion."
Another good example where arbitration can result in a decision that is more pro-investor than would be achieved in court.
Tuesday, October 25, 2011
NASAA announced the formation of a committee to examine and propose steps that state securities regulators can take to help small and new businesses raise investment capital and went on record as opposed to a "crowdfunding" bill that has been introduced in Congress that would preempt state regulation. NASAA President Herstein said the committee is expected to report specific recommendations to NASAA’s Board by early next year regarding crowdfunding and other small business capital formation initiatives.
The announcement of the new NASAA committee comes as the House Financial Services Committee is considering measures to stimulate the economy and promote job creation. On October 26, the Committee is scheduled to vote on one proposal, the Entrepreneur Access to Capital Act, H.R. 2930. This bill would deregulate crowdfunding by removing basic federal and state registration filing requirements and would allow businesses to raise up to $5 million from an unlimited number of investors through a crowdfunded offering.
“By prohibiting state securities regulators from being notified and reviewing investment opportunities before they are offered to the public, this bill will weaken investor protection,” Herstein said of H.R. 2930. “Con artists will undoubtedly flock to crowdfunding websites, lured both by the increased dollar amount of investments and the fact that a tough cop has been taken off the beat.”
In an October 21 letter, Herstein urged the Financial Services Committee’s leadership not to take a “rash and premature action” by enacting a blanket federal preemption of the authority of the states to protect their constituents by regulating crowdfunding.
“State securities administrators share the Committee’s goal of promoting small business capital formation and job-growth, including exploring the establishment of a framework that might facilitate the harnessing of investment capital online through techniques like crowdfunding,” Herstein wrote. “At the same time, NASAA believes it is vital that any such framework be crafted carefully and deliberately, as the potential for fraud in this area is real and potentially enormous.”
“Preempting state authority is a very serious step and not something that should ever be undertaken lightly or without careful consideration, including a thorough examination of all available alternatives,” Herstein said. “In the case of crowdfunding, state securities regulators are not only capable of acting, but indeed, are acting, and Congress should allow them the opportunity to continue to protect retail investors from the risks associated with smaller, speculative investments.”
Monday, October 24, 2011
The New York Attorney General and the SEC both announced that they had settled investigations into Banco Espírito Santo S.A. (BES), a Portuguese bank, for the same alleged conduct. According to the New York AG, BES and its affiliates solicited the sale of securities to BES’s U.S. customers between 2004-2009 without registering itself or any of its affiliates as a securities broker-dealers or investment advisers, or any of their employees as salesmen, as required under New York’s Martin Act. Similarly, the SEC's proceeding found that BES offered brokerage services and investment advice to U.S.-resident customers and clients who were primarily Portuguese immigrants. However, during this time, BES was not registered with the SEC as a broker-dealer or investment adviser, and it offered and sold securities to its U.S. customers and clients without the intermediation of a registered broker-dealer. None of these securities transactions was registered and many of the securities offerings did not qualify for an exemption from registration.
Under the agreement with the AG, BES will cease and desist from any further violations of the Martin Act and Executive Law § 63(12), offer to make its customers whole for all securities it unlawfully sold them, disgorge all profits derived from its unlawful conduct, and pay $975,000 to the State of New York in penalties, fees and costs.
Under the SEC order, BES agreed to cease and desist from committing or causing any violations of Sections 5(a) and 5(c) of the Securities Act, Section 15(a) of the Exchange Act, and Section 203(a) of the Advisers Act, and to pay nearly $7 million in disgorgement, prejudgment interest and penalties. BES also has agreed to an undertaking that requires it to pay a certain minimum rate of interest to its U.S. customers and clients on securities purchased through BES, and to make whole each of its U.S. customers and clients for any realized or unrealized losses with respect to any securities purchased through BES.
Both regulators credited BES for self-reporting the findings of an internal investigation performed by its outside counsel and cooperating with the investigations.
New York's Highest Court Will Address Investors' Claims for Breach of Fiduciary Duty and Gross Neligence
An important, unresolved question in New York state investor protection law is whether common-law causes of action for breach of fiduciary duty and gross negligence are preempted by the state's Martin Act, which authorizes the Attorney General to investigate and enjoin fraudulent practices in the marketing of stocks, bonds and other securities within or from New York State. The New York Court of Appeals will hear oral argument on this question on November 15 in Assured Guaranty (UK) Ltd. v. J.P. Morgan Investment Management Inc., 915 N.Y.S.2d 7 (App. Div. 1st Dept. 2010). This post provides background on the issue.
A majority of the federal courts in the Southern District of New York have, in recent years, held that, except for fraud, the Martin Act forecloses any private common-law causes of action. In 2010, however, Judge Victor Marrero, in a scholarly analysis of the history of the Martin Act and the preemption doctrine, held that the Martin Act did not preclude any private common law causes of action, in Anwar v. Fairfield Greenwich Limited, 728 F. Supp.2d 354 (S.D.N.Y. 2010). Although the judge acknowledged that a significant body of case law (much of it from the S.D.N.Y.) found a preemptive reading of the Martin Act, in his opinion, better reasoned and more persuasive authority, including the New York Attorney General, rejected that view.
Since then, New York's Supreme Court, Appellate Division, First Dept. addressed the issue in Assured Guaranty (UK) Ltd. v. J.P. Morgan Investment Management Inc. and also concluded that common-law causes of action for breach of fiduciary duty and gross negligence are not preempted by the Martin Act, In reaching this conclusion, the First Department quoted Judge Marrero's "cogent and forceful" argument that to find Martin Act preemption would "leave [ ] the marketplace arguably less protected than it was before the Martin Act's passage, which can hardly have been the goal of its drafters." The court also relied on the New York Attorney General's amicus brief that argued that "the purpose or design of the Martin Act is in no way impaired by private common-law claims that exist independently of the statute, since statutory actions by the Attorney General and private common-law actions both further the same goal, namely, combating fraud and deception in securities transactions."
The First Department now joins the Second Department and the Fourth Department in rejecting the argument that the Martin Act preempts properly pleaded common-law causes of action.
We will report further on the case after the November 15 oral argument.
Sunday, October 23, 2011
On November 1, the Ohio Supreme Court will hear oral argument in an important case that deals with the power of the Ohio Division of Securities to recover ill-gotten gains on behalf of defrauded investors. The lower court's opinion is Zurz v. Mayhew (2d Dist. Ct. App. Oct. 29, 2010).
Roy Dillabaugh ran a Ponzi scheme that bilked about 150 investors in Ohio and Indiana out of over $12 million. He purchased at least 34 life insurance policies that named his wife, son and secretary as beneficiaries. Before committing suicide, he left instructions to the beneficiaries telling them to use the insurance proceeds to repay his victims. They chose not to do so, however, and his wife was recipient of over $6.5 million. The Securities Division sued the beneficiaries in order to freeze the funds until a receiver could be appointed. The trial court ultimately held that the Division could compel the beneficiaries to return only the amount of the premiums and not the proceeds of the policies.
Upon appeal, the appellate court dealt a harder blow to the Division and held that it could not sue the beneficiaries at all, ruling that the state statute RC 1707.26 allows the Division only to sue those enumerated in the statute, i.e., the alleged violators of the statute and their "agents, employees, partners, officers, directors and shareholders." The court rejected the Division's reliance on the last clause in the statute, which allows it to seek "such other equitable relief as the facts warrant," stating that the clause did not expand the range of defendants.
On appeal, the Division makes two arguments. First, the appellate court erroneously reached an issue that was not before the court, since the defendants had not challenged the grant of temporary injunctive relief. Second, and most important, the appellate court's restrictive reading of the statute, if allowed to stand, creates a significant obstacle in the Division's power to act quickly to protect investors.
Thursday, May 19, 2011
According to Investment News, a federal district court judge in Atlanta dismissed investors' claims against the brokerage firm J.P. Turner involving its sales of interests in Provident Royalties LLC (which offered oil and gas deals and which has been the subject of numerous regulatory and investors' actions). The article quotes the firm's attorney as stating that J.P. Turner is the only broker-dealer to have a class action against it dismissed. I have not seen the opinion myself, but if the article accurately summarizes it, it is a blockbuster. Judge Carnes finds that there is no Georgia authority to support investors' allegations that the firm had a duty to confirm the accuracy of the issuer's statements in the private placement memoranda because it was not an underwriter.
Hello? What about a "know your security" obligation? What about a duty to have a reasonable basis when recommending a security to a customer?
I have written extensively about the need for a federal cause of action that would allow investors to recover against brokers that provide negligent or incompetent investment advice -- to no avail. This opinion sounds like the poster child in support of my position.
See InvNews, Rare sighting: Indie B-D wins private placement case
Monday, August 17, 2009
Attorney General Andrew M. Cuomo today filed a lawsuit against Charles Schwab & Co. (“Schwab”) charging the discount brokerage firm for falsely representing auction rate securities as liquid, short-term investments without discussing the risks. According to the Attorney General, Schwab brokers repeatedly and persistently misrepresented the liquidity risks in auction rate securities, comparing them to money market funds or certificates of deposit, selling auction rates as suitable for cash management purposes, or otherwise telling customers they would always be able to retrieve their cash.
The Attorney General referred to audio recordings obtained during the investigation that allegedly confirm that Schwab brokers repeatedly misled investors about the risks of investing in auction rate securities. One Schwab broker “guaranteed” that his customer would be able to “get out of [his auction rate security] on the auction date.” Another assured a customer that she just needed to “call me … and then the next month I’ll stop the auction and all the cash [invested in auction rate securities] will come back to your account.” Another Schwab broker described preferred auction rate securities as a “short-term institutional holding instrument” that was particularly suitable for managing the customer’s cash balances:
If you need to have that access to them at any time, that’s a good place for those to be. You know if you think you might need to get into that money, that’s probably as good a place if not better than anywhere to leave them.
Another broker represented that the hardest part of investing in an auction rate security “is getting into it. That would be the tough part. I mean, getting out is something as easy as just selling it.”
According to the Attorney General, while Schwab publicly touted its “extensive fixed-income research,” “expertise” and “seasoned bond traders, who have an average of 15 years of industry experience,” Schwab’s persistent fraud was possible because Schwab failed to train or otherwise ensure that its brokers had even a basic understanding of auction rate securities. Brokers interviewed during the investigation all confirmed that they received no formal training from Schwab relating to auction rate securities. As a result, many Schwab brokers misunderstood or knew little about the auction rate securities they were selling to Schwab’s customers. While Schwab sold customers on its fixed income “expertise,” one broker stated: “I don’t know what measuring scale you would want to use to assess my knowledge about auction rate securities … but on whatever measuring scale my knowledge was pretty low.” The lack of training and understanding at Schwab proved devastating to Schwab’s customers. When one broker was asked if his customers adequately understood the risks of auction rate securities, the broker replied: “No. . . . They probably didn’t know that here is a product you might not be able to sell. It wasn’t conveyed by myself or the financial consultant because we didn’t know either.” Just one week before the auction rate securities market collapsed, during a call with another broker-dealer, one Schwab broker still did not understand the risks that were about to haunt Schwab’s customers, asking “how could an auction fail?”
Today’s action seeks, among other things, to compel Schwab to buy-back auction rate securities from the Schwab investors still holding illiquid securities, penalties, costs, disgorgement, restitution, and other equitable relief.
Here is the complaint.
Tuesday, July 7, 2009
The New York Attorney General announced Assurances of Discontinuance with Credit Suisse Securities LLC and Merrill Lynch, Pierce, Fenner & Smith Incorporated relating to the auction rate securities settlements reached last summer. The Assurances detail how the firms have and will continue to provide liquidity to investors who purchased auction rate securities. Last year the New York AG and other regulators settled allegations with eleven securities firms that theymade misrepresentations in their marketing and sale of auction rate securities. The New York AG's website has posted the eleven Assurances. The settling firms are Banc of America Securities LLC and Banc of America Investment Services, Inc., Citigroup Global Markets, Inc., Credit Suisse Securities (USA) LLC, Deutsche Bank Securities Inc., Goldman, Sachs & Co., JPMorgan Chase & Co., Merrill Lynch, Pierce, Fenner & Smith Incorporated, Morgan Stanley & Co. Inc., RBC Capital Markets Corporation, UBS Securities LLC and UBS Financial Services LLC, and Wachovia Securities LLC and Wachovia Capital Markets LLC.
Wednesday, June 3, 2009
The SEC today announced finalized settlements with Bank of America, RBC Capital Markets, and Deutsche Bank to resolve SEC charges that the firms misled investors regarding the liquidity risks associated with auction rate securities (ARS) that they underwrote, marketed, or sold. These settlements provide nearly $6.7 billion to approximately 9,600 customers who invested in ARS before the market for those securities froze in February 2008.
Previous ARS settlements include Wachovia, Citigroup and UBS and a settlement in principle with Merrill Lynch.
In addition, New York Attorney General Andrew M. Cuomo today announced Assurances of Discontinuance with Banc of America Securities LLC and Banc of America Investment Services, Inc., Deutsche Bank Securities Inc., Goldman, Sachs & Co., JPMorgan Chase & Co., Morgan Stanley & Co. Inc. and RBC Capital Markets Corporation relating to the auction rate securities settlements reached last summer. The Assurances detail how the firms have and will continue to provide liquidity to investors who purchased auction rate securities.
The settlements, which are subject to court approval, will restore approximately $4.5 billion in liquidity to Bank of America customers, $800 million in liquidity to RBC customers, and $1.3 billion in liquidity to Deutsche Bank customers.
Without admitting or denying the SEC's allegations, Bank of America, RBC and Deutsche Bank agreed to be permanently enjoined from violations of the broker-dealer fraud provisions and to comply with a number of undertakings, some of which are set forth below.
- Each firm will offer to purchase ARS at par from individuals, charities, and small or medium businesses that purchased those ARS from the firm, even if those customers moved their accounts.
- Each firm will use its best efforts to provide liquidity solutions for institutional and other customers and will not take advantage of liquidity solutions for its own inventory before making those solutions available to these customers.
- Each firm will pay eligible customers who sold their ARS below par the difference between par and the sale price of the ARS.
Investors should review the full text of the consents executed by Bank of America, RBC and Deutsche Bank. Customers with questions about these settlements may contact Bank of America, RBC, or Deutsche Bank through the firms' Web sites or at the following toll-free telephone numbers:
- Bank of America: 1-866-638-4183
- RBC: 1-866-876-5469 or Web site
- Deutsche Bank: 1-866-926-1437
Bank of America, RBC and Deutsche Bank also will be permanently enjoined from violating the provisions of Section 15(c) of the Exchange Act of 1934, which prohibit the use of manipulative or deceptive devices by broker-dealers. The Commission reserves the right to seek a financial penalty
Saturday, May 30, 2009
Tired of waiting for the federal government to regulate hedge funds, Connecticut, home to many hedge funds, may enact legislation requiring fund managers that have not registered with the SEC as investment advisers to disclose material conflicts of interest. The legislation, which would apply to funds located or doing business in the state, has passed the Senate and is pending in the House. WSJ, Can Connecticut Stay Hedge-Fund Haven?
Tuesday, May 19, 2009
STATEMENT FROM ATTORNEY GENERAL ANDREW CUOMO ON COMPTROLLER THOMPSON'S DECISION TO URGE NYC PENSION FUNDS TO ADOPT REFORM CODE OF CONDUCT
"I commend Comptroller Bill Thompson for his quick and decisive action in asking that the City pension funds adopt the principles in the Code of Conduct we have developed in our pension fund investigation. The public pension fund industry is badly in need of reform and it is high time we ended pay to play. I appreciate Comptroller Thompson's commitment to doing his part to promote needed reforms like banning the use of placement agents and eliminating campaign contributions to those who make or influence pension fund investment decisions. My hope is that our Code of Conduct will become a model for reform and Comptroller Thompson's action is yet another step in that direction."
Friday, May 1, 2009
New York Attorney General Andrew Cuomo announced the creation of a multi-state task force to explore pension fund abuse so that states can share information to prosecute wrongdoing and facilitate nationwide reform.
His office also announced that it has issued subpoenas to over 100 investment firms and their agents in its expanding investigation into corruption and kickback schemes involving the New York State and City pension funds. Today’s announcement stems from the Attorney General’s broadening investigation into individuals and companies who make or receive improper payments in connection with lucrative business opportunities with state and city pension funds. Under state and federal law, securities brokers are generally required to be licensed and registered with a broker-dealer in order to protect the investing public from unscrupulous and unqualified brokers. In occasional cases, a registered broker is not required. But, after Cuomo’s investigation found that 40 to 50 percent of agents obtaining investments from New York pension funds were unregistered, his Office issued subpoenas.
Wednesday, April 29, 2009
State securities regulators continue to see problems of fraud and abuse in the growing life settlement industry and outlined for Congress the need for strong regulation of these financial products by appropriate regulatory authorities, NASAA President and Colorado Securities Commissioner Fred Joseph told the U.S. Senate Special Committee on Aging in a hearing exploring the life settlement industry and its impact on seniors. “Thousands of investors, many of them senior citizens, have been victimized through fraud and abuse in the sale of viaticals and life settlements,” Joseph testified. “Notwithstanding substantial successes by securities regulators in their enforcement actions, and higher standards among some industry participants, abuses continue and diligent oversight of these products remains necessary.”
Joseph told the panel that effective regulation of life settlements requires a joint effort by securities and insurance regulators. “Life settlements are complex financial arrangements, involving both securities and insurance transactions,” he said. “Consequently, regulating them effectively requires a joint effort by securities and insurance regulators, each applying their laws and expertise to different aspects of the product.”
Monday, April 6, 2009
New York Attorney General Andrew M. Cuomo today announced charges against J. Ezra Merkin and the funds he controlled for violating New York’s Martin Act by concealing from his clients the investment of more than $2.4 billion with Bernard L. Madoff. In a 54-page complaint filed in New York State Supreme Court, Cuomo alleges that investors, including several prominent charities and non-profits, entrusted their investments to Merkin, who then steered the money to Madoff without their permission, in exchange for $470 million in management and incentive fees.
The complaint also charges that Merkin ignored irregularities and other glaring red flags related to Madoff’s investments. As a result, hundreds of investors lost millions in investments, tragically including important charity organizations that were specifically targeted by Merkin. Attorney General Cuomo’s lawsuit seeks payment of damages and disgorgement of all fees by Merkin. The complaint also charges Merkin’s management company, Gabriel Capital Corporation (“GCC”). Merkin managed several funds, including Ascot Fund Limited, Gabriel Capital L.P., and Ariel Fund.
In a pattern of fraudulent concealment and misrepresentation spanning nearly two decades, according to the complaint, Merkin held himself out as a skilled money manager and used his social and charitable connections to raise over $4 billion from hundreds of individuals, charities, and other investors. Merkin turned virtually all of this money over to third-party money managers, including Madoff.
During individual conversations with investors, and through fraudulent quarterly reports, investor presentation materials, and offering documents, Merkin concealed the role Madoff played and misrepresented the role he played in managing the funds, according to the complaint. Though acting primarily as a marketer and a middleman, Merkin pocketed hundreds of millions of dollars in management and incentive fees from his investors.
Charities and non-profit organizations were particularly susceptible to and victimized by Merkin’s deceptive tactics. Over 10 percent of the assets managed by Merkin belonged to non-profit organizations. Merkin collected his customary fees from nonprofits that invested with him, but typically did not disclose, or actively obscured, that Madoff was actually managing some or all of the funds they invested.
Merkin kept a total of $2.4 billion of investors’ funds in Madoff – funds that Merkin had fiduciary obligations to protect – even though he knew of irregularities and other glaring red-flags related to Madoff’s investments. Indeed, at least two of Merkin’s most trusted colleagues repeatedly told Merkin that Madoff’s returns were too good to be true— one warning that it could be a Ponzi scheme. Merkin knew that investment professionals were suspicious of Madoff because, beyond Madoff’s uncommonly steady returns, there were fundamental questions about Madoff’s money management business that suggested fraud. Merkin read, and kept in his files, two press articles questioning Madoff’s practices and returns, and several of Merkin’s own investors told Merkin that due to these questions, they would not invest with Madoff.
Merkin commingled his personal funds, including his management fees from Ascot and Gabriel, with the funds of his management company, GCC. Merkin used GCC funds to make purchases for his personal benefit, including purchases of over $91 million of artwork for his apartment.
The Complaint charges Merkin with violations of the Martin Act, General Business Law § 352 et seq., for fraudulent conduct in connection with the sale of securities, Executive Law § 63(12) for persistent fraud in the conduct of business, and New York’s Not-For-Profit Corporation Law §§ 112, 717, and 720 for breaches of fiduciary duty in connection with Merkin’s service on the boards of certain non-profit organizations. Attorney General Cuomo’s lawsuit seeks payment of damages and disgorgement of all fees by Merkin, restitution and other equitable relief.