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NEWSLETTERS & ALERTS
Beverly Hills Broker-Dealer Fined $250K Following Years of Lax Oversight – Part Two
by Howard Haykin
As you recall, City National Securities agreed to a $250K fine to settle FINRA charges that it failed to supervise certain of its registered reps to ensure their compliance with FINRA rules relating to outside business activities, private securities transactions and outside accounts.
CITY NATIONAL’S SUPERVISORY FAILURES RELATED TO REGISTERED REP “DZ.”
During the relevant period, January 2008 through September 2014, Registered Rep DZ who worked in one of the firm's OSJs, was involved in several business activities other than his registration with City National Securities and employment at the affiliated registered investment advisor.
► DZ ran an investment fund for friends, family and himself; at least one B/D associate and several RIA clients were investors in the fund. DZ formed the investment fund before joining City National.
► DZ maintained outside brokerage accounts through his outside businesses, including accounts he used to trade on behalf of the investment fund.
► DZ’s engaged in extensive outside business activities through the investment fund, and he used resources of the affiliated RIA to conduct business on behalf of the investment fund – e.g., making trades, sending wires, and emailing with fund investors.
PROBLEM: DZ never provided City National with adequate written notice for any of the above outside business activities.
► DZ did not provide the firm with adequate written notice of the investment fund, as required by NASD and FINRA rules.
► DZ did not provide the firm with any written notice of the private securities transactions he conducted in connection with the investment fund, much less written notice describing in detail the transactions, his role in the transactions, and whether he received compensation for the transactions.
► DZ did not provide the firm with written notice of certain outside brokerage accounts he held through his outside businesses, including the investment fund.
PROBLEM: Notwithstanding the fact that he never provided any formal notices, City National and personnel at the affiliated RIA were aware of DZ’s outside business activities.
► DZ discussed the investment fund and his involvement with it with various people associated with City National and the affiliated RIA, including his OSJ manager.
► City National knew that DZ had several outside brokerage accounts through outside entities.
PROBLEM: Yet, even though DZ’s outside activities and businesses were common knowledge, City National never conducted any analyses into his investment funds, business activiites or outside brokerage accounts. As a result, neither the firm nor DZ were in compliance with the variance securities rules and regulations.
► The firm had no records evidencing DZ requests to conduct his activities and businesses, and no records of any firm approval.
► The firm never conducted any analysis on the investment fund to determine if it was an outside business activity that DZ needed to disclose on his Form U4 (which he never did).
► The firm never conducted any analysis to determine whether the investment fund, or any of DZ’s other activities, were private securities transactions - in which case the firm would have had to record these transactions on its books or records and supervise them as if they were executed on behalf of the firm - neither of which the firm did.
► The President of City National never approved DZ’s outside brokerage accounts, the firm never received or reviewed duplicate brokerage statements and confirms, and the firm never ascertained that DZ properly disclosed his association with City National to the carrying firm.
POSTSCRIPT. DZ passed away on October 15, 2014, and upon his death several issues with DZ’s investment fund came to light. The matters were elevated to the City National Securities' home office and to the parent company, City National Bank. An internal investigation revealed that DZ had misrepresented the value of the investment fund in an attempt to conceal losses the investment fund had incurred in 2007. As of October 2014, the investment fund was worth a fraction of the value DZ represented to fund investors.
FINANCIALISH TAKE AWAYS. Welcome to the cautionary tale of FINRA Case #2014043089901. While FINRA does not disclose the inflated or actual sizes of DZ's investment fund, we can only surmise that City National Securities and/or its affiliated RIA are on the hook for some large investor losses. One can understand - though not condone - DZ's disregard for securities rules and regulations. What's difficult to understand is City National's blatant disregard for rules and its own firm policies and procedures. Was the broker-dealer pandering to a likeable and successful broker/advisor? Or was this simply the firm's 'MO'?
Regardless of any explanations, this case was a NO WIN SITUATION for everyone, and it highlighted the worst case scenario when a broker is permitted to operate without guidance or oversight.
This case was reported in FINRA Disciplinary Actions for October 2017.
For details on this case, go to ... FINRA Disciplinary Actions Online, and refer to Case #2014043089901.