Summit Brokerage Services of Boca Raton, Florida, was censured and fined $250,000 by the Financial Industry Regulatory Authority (FINRA) after consenting to findings that the firm, via its registered representatives, made unsuitable recommendations for customers to purchase leveraged and inverse exchange-traded funds. Letter of Acceptance, Waiver, and Consent, No. 2011029635101 (Dec. 2, 2015).
According to the AWC, from June 2009 through December 2010, Summit allowed its registered representatives to recommend nontraditional ETFs to Summit customers without conducting adequate due diligence on the products. The firm reportedly did not provide adequate formal training to their representatives regarding non-traditional ETFs prior to permitting them to recommend the products to customers. FINRA found that Summit’s registered representatives were insufficiently informed concerning unique features and specific risks with nontraditional ETFs.
According to FINRA, non-traditional ETFS are products which seek to return a multiple of the performance of an underlying benchmark or index, the inverse of performance, or both, and use swaps, futures contracts and other derivative instruments to achieve these objectives. Because most of the non-traditional ETFS are designed to achieve their stated objectives only on a daily basis, FINRA believes that the products are typically not appropriate for intermediate or long-term investing in a brokerage account. Further, given the effects of compounding, performance of non-traditional ETFs can substantially differ from performance of the index or benchmark the investment is tied to which can cause magnified effects during volatile markets.
The AWC indicated that Summit’s registered representatives bought and sold roughly $250,000,000 worth of nontraditional ETFs. The AWC reported that several customers with conservative investment objectives who bought one or more nontraditional ETFs based on recommendations made by Summit registered representatives, and who held those investments for longer periods of time, experienced net losses.
In one case, a customer purchased a nontraditional ETF for $11,000, held it for seven months and then sold it for $6,500, representing a loss of $4,600. In another case, a customer purchased two nontraditional ETFs for $21,800, held them for seven months and then sold the positions for $17,100, representing a loss of $4,700. FINRA found that Summit, via its registered representatives, violated NASD Conduct Rule 2310 and FINRA Rule 2010 as a result of the aforementioned conduct.
The AWC further stated that during the relevant period, Summit had failed to provide their registered representatives with adequate training specifically tailored to nontraditional ETFS prior to permitting them to recommend the products to customers. FINRA found that the firm failed to have specific procedures addressing nontraditional ETFS, including certain procedures designed to address risks associated with longer-term holding periods in nontraditional ETFs, and procedures designed to monitor the holding periods. FINRA found Summit’s conduct to be in violation of NASD Conduct Rule 3010 and FINRA Rule 2010 in this regard.
Securities brokerage firms have a duty to supervise their brokers and the sales practices of their brokers, and to review customer statements for, among other things, evidence of suitability, unauthorized trading, or excessive activity.
FINRA 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.
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