Just as the Securities and Exchange Commission announced an enforcement action on Thursday against subsidiaries of E*Trade for engaging in unregistered sales of micro-cap stocks, the agency released a Risk Alert reminding broker-dealers of their obligations when they engage in unregistered transactions on behalf of their customers.
The SEC enforcement action was against current and former brokerage subsidiaries of E*TRADE Financial Corp., which the agency said failed in their gatekeeper roles and improperly engaged in unregistered sales of microcap stocks on behalf of their customers.
An SEC investigation found that E*Trade Securities and E*Trade Capital Markets sold billions of penny stock shares for customers during a four-year period while ignoring red flags that the offerings were being conducted without an applicable exemption from the registration provisions of the federal securities laws.
E*Trade Securities remains an E*TRADE subsidiary while E*Trade Capital Markets was sold earlier this year and is now called G1 Execution Services.
E*Trade Securities and G1 Execution Services agreed to settle the SEC’s charges by paying back more than $1.5 million in disgorgement and prejudgment interest from commissions they earned on the improper sales. They also must pay a combined penalty of $1 million.
“Broker-dealers serve an important gatekeeping function that helps prevent microcap fraud by taking measures to ensure that unregistered shares don’t reach the market if the registration rules aren’t being followed,” said Andrew Ceresney, director of the SEC’s Division of Enforcement, in a statement. “Many billions of unregistered shares passed through gates that E*Trade should have closed, and we will hold firms accountable when improper trading occurs on their watch.”
The Risk Alert summarizes deficiencies that the SEC’s Office of Compliance Inspections and Examinations observed in the controls that certain broker-dealers put in place to comply with obligations related to sales of the securities of microcap companies, including to perform a “reasonable inquiry” in connection with unregistered sales of securities in reliance on Section 4(a)(4) of the Securities Act, and respond to suspicious activity in connection with such sales.