Lombard Securities Incorporated was charged by Financial Industry Regulatory Authority (FINRA) in a Complaint alleging that the firm failed to meet a myriad of supervisory responsibilities including written supervisory procedures designed to supervise the sale of leveraged, inverse, and inverse-leveraged exchange traded funds, prevent unsuitable mutual fund switching, and apply sales charge discounts to customers’ eligible purchases of unit investment trusts. Department of Enforcement v. Lombard Securities Incorporated, No. 2014038911101 (Sept. 22, 2015).
According to the Complaint, Lombard had policies in place in 2012 requiring the firm’s compliance department to be notified if there were mutual fund switching transactions along with a requirement that a switch letter to be sent by the firm’s Compliance Department to the customer. However, there were reportedly ninety-two mutual fund switches in eighty-six customer accounts during the 2012 examination period where no switch letter was sent and no written notice was provided to the firm’s compliance personnel.
The Complaint alleged that the firm’s supervisory failures should have detected red flags for unsuitable switching, including switches which involved going from Class A shares of one mutual fund to Class A shares to another, buy/sell transactions occurring on the same day, the fact that eighty percent of switching was marked as unsolicited, and where the majority of the switching activity took place with a small group of registered representatives.
The Complaint alleged that there was no electronic system to detect the mutual fund switching within the firm during the 2012 examination period, and alternative manual systems did not work properly. FINRA alleged that as a result of the firm’s failure to establish and maintain an adequate supervisory system (which included written supervisory procedures) that would be designed to prevent and detect unsuitable mutual fund switching, the firm had violated FINRA Rule 2010 and NASD Rule 3010.
NASD Conduct Rule 3010 specifically provides that each member shall establish and maintain a system to supervise the activities of each registered representative and associated person that is reasonably designed to achieve compliance with applicable securities laws and regulations, and with the Rules of this Association. Final responsibility for proper supervision shall rest with the member.
FINRA, via Notice to Members 95-80, requires firms to ensure that any recommendation to switch mutual funds is evaluated with regard to the net investment advantage to the investor and that their supervisory and compliance procedure are adequate to monitor switching of customers switching funds.
The Complaint further alleged that the firm failed to abide by Notice 09-31, which required that the firm employ an appropriate supervisory system for non-traditional exchange traded funds (including written supervisory procedures) designed to provide a reasonable basis and customer specific suitability analysis.
Leveraged, inverse, and inverse-leveraged exchange traded funds are designed to return a multiple of an underlying index or benchmark, inverse of that benchmark, or both, over only the course of one trading session. Consequently, the performance of these non-traditional exchange traded funds can differ significantly from the performance of their underlying index, particularly when held longer than single trading sessions. According to FINRA, inverse and leveraged ETFs that reset daily are typically not suitable for retail investors planning to hold them for longer than one trading session, especially in volatile markets.
Lombard allegedly had no written supervisory procedures governing non-traditional ETFs. Lombard allegedly did not employ any exception reports or other automated surveillance to monitor the holding periods for the non-traditional exchange traded funds. The Complaint stated that during the 2012 examination period, at least eighteen transactions involving non-traditional ETFs involved extended holding periods, excessive concentration levels, and/or resulted in customer losses – all without any detection of the firm. FINRA found Lombard’s conduct in this regard to be violative of FINRA Rule 2010 and NASD Conduct Rule 3010.
Additionally, Lombard allegedly failed to implement adequate procedures to ensure that customers received appropriate sales charge discounts for unit investment trusts. The Complaint noted that Lombard failed to apply sales charge discounts to eligible unit investment trust transactions. Specifically, during the 2012 examination period – 2014 examination period, Lombard allegedly failed to provide the applicable discounts for seventy-four UIT trades in roughly fifty customer accounts, which deprived customers of $25,037.23 in discounts in the aggregate. FINRA found Lombard’s conduct to have violated FINRA Rule 2010 in this regard.
Guiliano Law Group
If you have been the victim of securities fraud and you have a complaint, you should consult with an attorney. The practice of Nicholas J. Guiliano, Esquire, and The Guiliano Law Group, P.C., is limited to the representation of investors in claims for fraud in connection with the sale of securities, the sale or recommendation of excessively risky or unsuitable securities, breach of fiduciary duty, and the failure to supervise. We accept representation on a contingent fee basis, meaning there is no cost unless we make a recovery for you, and there is never any charge for a consultation or an evaluation of your claim. For more information contact us at (877) SEC-ATTY.
