InvestmentNews Editorials

Weeding out rogue brokers

If the industry was really serious about getting rid of rogue brokers, it would do more both individually and through Finra

Mar 13, 2016 @ 12:01 am

A recent academic paper revived the issue of rogue brokers, a problem the industry has been struggling with for some time but has yet to solve.

The working paper comes from professors at the University of Minnesota and the University of Chicago, who found that 7% of brokers have been disciplined for misconduct that ranges from putting clients in unsuitable investments to trading on client accounts without permission.

While many observers might not be surprised by that percentage, they may be surprised by the names of the firms that have the highest misconduct rates in the industry, according to the study. They include well-regarded companies such as Wells Fargo Advisors (15.30%), UBS Financial Services (15.14%) and Raymond James Financial (13.74%).


“It's everywhere, not just small firms; it's pervasive,” said Amit Seru, a finance professor at the University of Chicago's Booth School of Business and a co-author of the study.

Even more troubling than the incidence of misconduct is the fact that 44% of the brokers fired for their transgressions are able to find new jobs in the industry within a year of their termination. That is important because the study found that prior offenders are five times more likely to repeat their misconduct than the average broker.

A few days after the study was publicized, Sen. Elizabeth Warren, D-Mass., questioned Richard Ketchum, chairman and chief executive of the Financial Industry Regulatory Authority Inc., about the study's findings during a Senate subcommittee hearing. When he told her Finra was addressing recidivism, she countered, “You're looking at it, but you're not taking them off the street.”


To be fair, Finra has not been standing idly by when it comes to reducing broker misconduct. Last year, it permanently barred from the industry nearly 500 brokers and 25 firms, according to a spokesman. In May, it revised its sanction guidelines, which included raising suggested suspensions from one year to two for brokers making unsuitable investment recommendations. And just this year, it declared that its top priority in exams will be reviewing each firm's compliance culture to make sure advisers are being encouraged at every turn to put client interests first. While Ms. Warren has a right to question Finra's results, the fact of the matter is, the agency is trying.

Unfortunately, one of Finra's most important proposals to cut down on rogue brokers was roundly rejected by the industry. Two years ago, the regulator had proposed an early intervention system in which it would set up surveillance of brokers rather than respond to complaints after investors had lost their money. The proposal to implement the Comprehensive Automated Risk Data System, or CARDS, was shelved after the industry complained it would be too costly for firms and represented an invasion of their clients' privacy.


If the industry was really serious about getting rid of rogue brokers, it would do more both individually and through Finra. Firms could establish best-practices hiring guidelines that would preclude one of them from giving a job to someone who had been booted from a competitor for egregious conduct that had put investors at risk. More importantly, the industry could drop its opposition to CARDS and give Finra the tools it needs to do its job. Weeding out brokers before they can hurt investors is always preferable to cleaning up their mess afterward.


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