InvestmentNews Editorials

'Selling away' doesn't mean the B-D is not ultimately responsible

Quest Capital was held responsible for non-client losses

Feb 2, 2019 @ 6:00 am

It looked like a routine arbitration award and in many ways it was. A small broker-dealer was found liable for the actions of one of its brokers for selling away. It was ordered to pay the client $276,226.

The problem is that the broker, who was allowed to resign over the incident, has six other investor complaints pending against him, all for selling the same securities: promissory notes issued by Woodbridge Group of Companies.

The same day the news of the arbitration award broke, the Securities and Exchange Commission announced that a federal judge had approved judgments against Woodbridge for $1 billion in penalties and disgorgement for selling those promissory notes. The SEC charged that the notes were part of a Ponzi scheme that defrauded 8,400 investors, many of them senior citizens.

Over a five-year period, Woodbridge, which is now in bankruptcy, relied on a network of brokers, former brokers and others on the fringes of the financial services industry to sell its investments. Now that the dust has started to settle on the case, investors are scrambling to be made whole again. Many of them are not even waiting to see how much they are going to get back from the SEC and bankruptcy court; they are going after everyone and anyone who has a connection to Woodbridge, no matter how far removed.

(More: SEC charges business journalist, 12 others who sold Woodbridge Ponzi)

Although Woodbridge was not mentioned by name in the annual examination priorities letter issued by the Financial Industry Regulatory Authority Inc. two weeks ago, several of the priorities listed are relevant to this case. For example, under a section on sales risks, Finra talks about the need for suitability, protection of senior investors and controls related to outside business activities, i.e, selling away.

Monitoring broker activities when it comes to selling away is especially important. Although it can be difficult to keep tabs on everything every broker is doing all the time, broker-dealers would do well to establish and maintain a supervisory system to monitor their workforce, including all internal communications, correspondence, transactions and customer complaints.

Paying the price

Quest Capital Strategies Inc., the broker-dealer that lost the arbitration case mentioned earlier, could very well be on the hook for the other pending investor complaints. According to Finra, the ex-broker sold $10.8 million worth of Woodbridge notes to 58 investors and earned $260,864 in commissions. The ex-broker was barred by Finra last November for not notifying Quest Capital that he was selling the Woodbridge investments.

Some of the notes the broker sold were to Quest Capital customers, but not all of the victims had accounts with Quest Capital. The law firm that represented the client in the case said the arbitration panel rejected part of Quest's defense that it should not be held liable because in this case the claimant was not a Quest customer.

The bottom line is that broker-dealers need to be vigilant when it comes to selling away. Not knowing that an unreported activity was taking place is not always a valid excuse.

Firms should have a reasonable plan in place to monitor what their brokers are doing and be able to prove that they have followed that plan.


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