Former CIBC registered reps Andrew Paul Gonchar and Polyvios Polyviou, as a team, were charged with fraudulently interpositioning a third-party account between their member firm and retail customers in convertible bond trades.  Between August 2000 and January 2002, they interpositioned the customer account of Avalon Asset Management, Inc. between CIBC and 71 retail clients in 142 convertible bond transactions and charged the customers fraudulently excessive mark-ups that Gonchar and Polyviou did not disclose to their customers.

They each were fined $114,022 and barred from association with any FINRA member in any capacity.  In the last of a series of appeals, the U.S. Court of Appeals for the Second Circuit affirmed the sanctions. 

    Origin of the Scheme.  All of the trades at issue, like the majority of Gonchar's and Polyviou's business, involved sales of convertible bonds to retail clients.  During the relevant period, CIBC's convertible bond trading desk engaged in proprietary trading of convertible bonds and bought convertible bonds from and sold them to institutional and retail clients.  At the time, the market for these bonds was not transparent.  Convertible bonds were not listed on any exchange and transactions involving these bonds were not reported.  CIBC's convertible bond traders used computerized models to determine the theoretical prices of various bonds.  However, the pair came to believe that CIBC's convertible bond traders were more responsive to CIBC's institutional salespeople. 

In early 2000, CIBC created a retail liaison position on the convertible bond trading desk.  The first person to fill that position (and the person in that position during the relevant time) was a former CIBC sales assistant, Debora Frank ("Frank").  As part of Frank's role as retail liaison on CIBC's convertible bond trading desk, she provided Gonchar, Polyviou, and other retail salespeople with convertible bond prices daily.  Generally, Gonchar and Polyviou contacted Frank at the start of the trading day to obtain price levels on specific convertible bonds.  Frank provided them with price levels that she obtained from traders on the convertible bond desk.

Interpositioning Begins.   Avalon was one of Gonchar and Polyviou's most active convertible bond customers.  AC, a former colleague of Gonchar and Polyviou at CIBC, used Avalon as his personal trading vehicle - he also maintained numerous accounts with other brokerage firms.  The pair allegedly managed their scheme through Avalon's customer account and CIBC's facilitation account, referred to as the "128 Account." 

Frank administered the 128 Account, which was used to facilitate order flow between the Firm and its retail customers in riskless principal transactions, and to capture compensation in the form of mark-ups and mark-downs.  The head of compliance for CIBC's convertible bond trading desk, reviewed the 128 Account daily to ensure that it was flat at the end of the day, but did not otherwise monitor trading activity in the account during the trading day. 

Here's how the scheme operated: 

• On each trading day at issue, Gonchar and Polyviou bought convertible bonds early in the day purportedly for a customer who they did not identify.  The bonds went into the 128 Account.
• Later in the day, after they located a retail customer to purchase the same bonds, they identified Avalon to Frank as the customer who had purchased the bonds earlier that day.
• They then executed cross sales (based on the high stock price of the day) between Avalon and the purchasing retail customers through the 128 Account. 
• By conducting the retail sale as a cross trade, Gonchar and Polyviou were able to execute the trades away from CIBC's trading desk.
• In each instance, Avalon paid a mark-up on its initial purchase and a mark-down on its sale back to the 128 Account.
• The retail customers paid mark-ups on their purchases from the 128 Account.
• On 16 of the 72 days, Avalon also traded back and forth with itself through the 128 Account before the respondents eventually sold the bonds to retail customers. In each instance in which Avalon bought and sold the same bonds through the 128 Account, Avalon paid a mark-down on each sale and a mark-up on each purchase.

In all 142 transactions, the retail customers paid more for the bonds than Avalon paid on the same day, regardless of market movement in the underlying stock.  Additionally, despite paying mark-ups and mark-downs on each leg of the trades, Avalon suffered a net loss on only one trading day of $125 and profited on 69 of the 72 trading days.  Avalon remained as Gonchar's and Polyviou's client after they left CIBC, but did not place additional convertible bond trades with them.

CIBC discovered the trading activities ...  by listening to recording conversations from Frank's telephone.  The firm noted that a pattern emerged, in which the pair would give Frank the high stock price of the day to obtain price levels for the cross trades and
then ask to execute the cross trade one point above the level.  Polyviou later called with account numbers (for Avalon, as the original purchaser, and for the purchasing retail customers in the cross trade), and Frank executed the cross trades.

This is FINRA Case #CAF20040058.   [Disciplinary Actions for May 2011]   For further details, go to:    [NAC Complaint CAF040058, 8/26/2008]