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September 27, 2012 at 10:34 AM
Among actions taken by FINRA recently were censure and $500,000 in fines against Merrill Lynch for failing to file required reports, and a joint action with the SEC and the exchanges against Hold Brothers. Also, the SEC brought charges against Tyco International over more than $10.5 million in illicit profits connected to fake commissions and other payments to foreign officials, as well as acting on a number of other cases, including one of insider trading that reached Brazil.
Merrill Lynch Fined $500,000 Over Failure to File Reports
FINRA announced that it has censured and fined Merrill Lynch, Pierce, Fenner & Smith Inc. $500,000 for supervisory failures that allowed widespread deficiencies in filing hundreds of required reports, including customer complaints, arbitration claims, and related U4 and U5 filings, and for its failure to file the required reports. In concluding the settlement, Merrill neither admitted nor denied the charges, but consented to the entry of FINRA’s findings.
The violations, undetected for several years, may have hampered investors’ ability to assess some brokers’ backgrounds via BrokerCheck. They also may have compromised firms’ hiring background checks, reduced the ability of securities regulators to review brokers’ transfer applications and hindered FINRA from promptly investigating certain disclosure items.
FINRA’s rules specify that when a securities firm hires a broker, it must ensure that broker’s U4 is updated and kept current. The firm must also record updates involving that broker, such as regulatory actions, customer complaints, settlements and felony charges, and convictions. Firms must also notify FINRA within 30 days of termination of a registered person’s association with them by filing a U5, and must notify FINRA within 30 days if a U5 is found to be incomplete or inaccurate.
However, according to FINRA’s findings, that was not the case at Merrill. Instead, from 2007 to 2011, Merrill Lynch failed to file or timely file more than 650 required reports, including customer complaints and customer settlements. From 2005 to 2011, Merrill Lynch failed to report or timely report customer complaints, and related Forms U4 and Forms U5 between 23% and 63% of the time.
Findings also state that Merrill Lynch failed to adequately train and supervise personnel responsible for customer complaint tracking and reporting, and did not have systems in place to identify the high volume of customer complaints that were not being acknowledged or reported as required. That meant Merrill Lynch failed to acknowledge nearly 300 customer complaints in a timely manner.
Merrill Lynch failed to file or timely file approximately 300 non-NASD/FINRA arbitrations and criminal and civil complaints that it received for approximately three years. From July 2007 to June 2009, and again from October 2009 to February 2010, Merrill Lynch failed to make these filings 100% of the time. From 2007 through 2010, Merrill Lynch failed to file related Forms U4 and U5 between 28% and 79% of the time.
Hold Brothers Fined Over $5.9 Million on Multiple Charges
FINRA, along with NYSE Arca Inc., The NASDAQ Stock Market LLC, NASDAQ OMX BX, Inc., and BATS Exchange Inc., announced that they have censured and fined Hold Brothers On-Line Investment Services, LLC $3.4 million for manipulative trading activities, anti-money laundering (AML), and other violations. Hold Brothers neither admitted nor denied the charges, but consented to the entry of FINRA’s findings to conclude the settlement.
In a related case, the SEC also announced a settlement with Hold Brothers, fining the firm more than $2.5 million and including bars for three senior managers associated with the firm.
Hold Brothers, headquartered in New York, is a self-clearing broker-dealer that primarily operates as a day-trading firm by facilitating direct market access to customers and to its proprietary traders. From Jan. 1, 2009 through Dec. 31, 2011, Hold Brothers’ largest account, Demostrate LLC, and an affiliate, Trade Alpha, were day-trading firms wholly owned and funded by Hold Brothers’ principals.
Demostrate and Trade Alpha engaged traders and trading groups in various foreign countries, primarily China, to trade its capital. FINRA found that Demostrate and Trade Alpha were controlled by, or under common control with, Hold Brothers.
Demostrate and Trade Alpha used sponsored access relationships with Hold Brothers to connect to U.S. securities exchanges to manipulate the prices of multiple securities. FINRA uncovered hundreds of instances where the foreign day traders used spoofing and layering activities to make the trading algorithms of unwitting market participants provide the traders with favorable execution pricing not otherwise available to them without the day traders’ illicit activities.
Spoofing manipulates markets by placing one or more non-bona fide orders, usually inside the existing National Best Bid or Offer (NBBO), to trigger one or more market participants to join or improve the NBBO. Once that occurs, the non-bona fide order is canceled and an order is entered instead on the opposite side of the market.
Layering is the placement of multiple non-bona fide limit orders on one side of the market at various price levels at or away from the NBBO to create the appearance of a change in supply and demand levels to artificially move the price of the security. An order is then executed on the opposite side of the market at the artificially created price, and the non-bona fide orders are immediately canceled.
FINRA also found thousands of instances where Demostrate or Trade Alpha traders engaged in prearranged trades and wash sales.
Hold Brothers also failed to establish and maintain a supervisory system and written procedures reasonably designed to supervise the firm’s trading activities. FINRA found that numerous “red flags” indicating suspicious trading were neither detected nor investigated, including broad categories of significant suspicious trading that involving patterns of spoofing, layering, prearranged trading and wash trading.
FINRA also found Hold Brothers’ AML policies, procedures and internal controls inadequate; they failed to detect suspicious transactions and did not trigger reporting of the suspicious transactions as required by the Bank Secrecy Act.
Hold Brothers also failed to tailor its AML program to its business, as required. Between 2009 and 2011, the firm averaged about 400,000 trades per day, approximately 90% of which was placed through the Demostrate account. Despite this high volume, Hold Brothers’ AML procedures only provided for manual monitoring to detect suspicious trading activity in the accounts.
FINRA also found numerous instances when Hold Brothers’ compliance department determined that Trade Alpha or Demostrate traders had engaged in suspicious or manipulative trading. These instances were not escalated to the firm’s AML compliance officer and the firm never considered filing a suspicious activity report relating to the activity.
As part of the disciplinary action, FINRA and the exchanges also ordered Hold Brothers to retain an independent consultant to conduct a comprehensive review of the adequacy of the firm’s policies, systems and procedures, and training related to AML, trading, day trading, compliance with SEC Rule 15c3-5, and the use of foreign traders.
Tyco Charged on Illicit Payments, Settles for over $26 Million
The SEC has charged Tyco International Ltd. with violating the Foreign Corrupt Practices Act (FCPA) when subsidiaries arranged illicit payments to foreign officials in more than a dozen countries.
Tyco agreed to pay a total of more than $26 million to settle the SEC’s charges and to resolve criminal proceedings announced by the U.S. Department of Justice. In the parallel criminal proceedings, the Justice Department entered into a non-prosecution agreement with Tyco in which the company will pay a penalty of approximately $13.68 million.
According to SEC allegations, subsidiaries of the Swiss-based global manufacturer used payments of fake “commissions” or third-party agents to funnel money improperly to obtain lucrative contracts. Overall, Tyco illicitly brought in more than $10.5 million as a result.
The SEC alleges that Tyco subsidiaries operated 12 illicit payment schemes globally, beginning before 2006 and continuing until 2009. The most profitable scheme was in Germany, where agents of a Tyco subsidiary paid third parties to secure contracts or avoid penalties or fines in several countries. These payments were falsely recorded as “commissions” in Tyco’s books and records when they were in fact bribes to pay off government customers. Tyco’s resulting benefit was more than $4.6 million.
According to the SEC’s complaint, Tyco’s China subsidiary signed a contract with the Chinese Ministry of Public Security for $770,000, but reportedly paid approximately $3,700, which it recorded as a “commission,” to the “site project team” of a state-owned corporation to get the contract.
Tyco’s French subsidiary recorded payments to individuals from 2005 to 2009 for “business introduction services.” However, one of those individuals was a security officer at a government-owned mining company in Mauritania, and many of the earlier payments were deposited in the official’s personal bank account in France. In Thailand, Tyco’s subsidiary had a contract to install a CCTV system in the Thai Parliament House in 2006, and paid more than $50,000 to a Thai entity that acted as a consultant. The invoice for the payment refers to “renovation work,” but Tyco is unable to ascertain what, if any, work was actually done.
