SEC, FINRA Enforcement Roundup

Recent enforcement actions taken by FINRA and the SEC include an alleged $60 million investment fund run like a Ponzi scheme by a California advisor; a fine and crackdown on VA sales by Cadaret, Grant; a fine on suitability requirements for Morgan Stanley; and charges against two south Florida individuals who fed a Ponzi scheme to the tune of over $157 million.

The Securities and Exchange Commission charged an investment advisor in Scotts Valley, Calif., on May 24 with running a $60 million investment fund like a Ponzi scheme and defrauding investors by touting imaginary trading profits instead of reporting the actual trading losses he incurred.

The SEC alleges that John A. Geringer, who managed the GLR Growth Fund, used false and misleading marketing materials to lure investors into believing that the fund was earning double-digit annual returns by investing 75% of its assets in investments tied to major stock indices. In reality, Geringer’s trading generated consistent losses and he eventually stopped trading entirely. To mask his fraud, Geringer paid millions of dollars in “returns” to investors largely by using money received from newer investors. He also sent investors periodic account statements showing fictitious growth in their investments.

“Geringer painted the picture of a successful fund weathering America’s financial crisis through a diversified, conservative investment strategy,” said Marc Fagel, director of the SEC’s San Francisco Regional Office, in a statement. “The reality, however, was the complete opposite. Geringer lost millions of dollars in the market, tied up remaining investor funds in a pair of illiquid private companies, and lied about it in phony account statements.”

According to the SEC’s complaint filed in federal court in San Jose, Calif., Geringer raised more than $60 million since 2005, mostly from investors in the Santa Cruz area. Geringer used fraudulent marketing materials claiming that the fund had between 17% and 25% annual returns in every year of the fund’s operation through investments tied to well-known stock indices like the S&P 500, NASDAQ and Dow Jones. Although the fund was started in 2003, marketing materials claimed 25% returns in 2001 and 2002 — before the fund even existed.

The marketing materials also falsely indicated a nearly 24% return in 2008 from investing mainly in publicly traded securities, options and commodities, while the S&P 500 Index lost 38.5%.

Unsuitable VA Sales

Broker-dealer Cadaret, Grant was fined $200,000 and censured by FINRA, and will be required to rebate living customers for sales of variable annuities (VAs) that were identified as unsuitable.

At the heart of the matter were elderly customers who were sold VAs recommended to them with enhanced death benefit riders that were of limited value because of their age. The recommendations, said FINRA, indicated that the representative “did not understand or appreciate the significance of an age restriction or the reduced benefit of the rider when sold to a person close in age to the cutoff.”

The registered representative who recommended them already had several complaints on her U4 prior to joining Cadaret, Grant—some of which related to VA sales—and she was the subject of additional customer complaints after joining; this was reflected in amended U4s filed by the company.

Despite this, however, according to FINRA, she was neither subjected to heightened supervision nor her VA transactions reviewed by supervisors. She had been the subject of a FINRA Wells Notice for unsuitable VA sales at her prior firm, and Cadaret, Grant was advised of this; however, the notification did not result in additional supervisory measures. Some of the unsuitable recommendations occurred after the firm received the Wells Notice.

While the sales were subjected to review by the rep’s supervisor and also to a second level by the firm’s VA department, FINRA found that procedures and systems were inadequate to prevent inappropriate sales.

In addition, FINRA found that the rep, her supervisor and another colleague were using personal e-mails for business-related correspondence, and the firm knew or should have known about them but failed to retain those e-mails.

The firm submitted a Letter of Acceptance, Waiver and Consent in which it agreed to the fine and censure, as well as the rebate to customers, without admitting or denying findings. It also agreed to undertake a comprehensive review of its policies and procedures concerning suitability of VAs, and provide the results to FINRA within 90 days of its notice of acceptance.