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Regulatory Sanctions

‘De Facto Control’ – A New Trend in FINRA Disciplinary Actions

June 8, 2018

by Howard Haykin


It used to be that, when FINRA charged a broker with excessive and unsuitable trading in customer accounts, it would be alleged that the broker exercised ”Unauthorized Discretion.” More recently, however, FINRA has attributed the violative conduct to “De Facto Control” in its Letters of Acceptance, Waiver and Consent (“AWC’s”) – as we note in the following recent cases.



AWC #2016049316301 (December 2017).   A broker with NEXT Financial Group allegedly exercised de facto control when he engaged in excessive, unsuitable trading in a customer’s accounts. De facto control existed because the broker solicited all the transactions in the accounts, the customer routinely accepted his recommendations, and she was an unsophisticated investor. Given the customer’s age (in her 60’s) and her conservative risk tolerance, the broker’s recommendations were unsuitable for these accounts. All told, the broker netted over $100,000 in commissions and the customer incurred losses of $392,000.

[SANCTIONS: $15K fine, 9-month suspension, $100K disgorgement.]


AWC #2015045984001 (May 2018).   A broker with Vanderbilt Securities allegedly exercised de facto control when he churned and engaged in unsuitable trading in the brokerage accounts of a senior customer. The broker exercised de facto control over the customer’s accounts inasmuch as that the customer relied on the broker to direct investment decisions in his accounts, even while the customer had frequent contact with the broker. Furthermore, the customer was diagnosed with dementia. That said, the broker effected more than 3,500 transactions in the customer’s accounts, leading to $723,000 in trading losses and $735,000 in gross commissions and markups. The level of trading was excessive and unsuitable for the customer given his investment profile, including his age, risk tolerance, and income needs.

[SANCTIONS: Barred from the industry.]


AWC #2016047619001 (May 2018).   A broker with Blackbook Capital allegedly exercised de facto control when he engaged in quantitatively unsuitable trading in 2 accounts of a customer who had limited investment experience and conservative investment objectives. De facto control existed because the broker recommended the trading for the customer’s accounts, and the customer followed such recommendations and did not propose any trades of his own. The accounts sustained a collective loss of $14,000.

 [SANCTIONS: $5K fine, 4-month suspension, $14K in restitution to customer.]



APPLICABLE FINRA RULES AND REGULATIONS.    In each case, FINRA staffers referred to the following FINRA rules and regulations when explaining the basis of the registered reps’ violative conduct:


FINRA Rule 2111(a) provides in pertinent part that a registered representative "must have a reasonable basis to believe that a recommended transaction or investment strategy involving a security or securities is suitable for the customer, based on the information obtained through the reasonable diligence of the member or associated person to ascertain the customer's investment profile."


Supplementary Material 2111.05(c) states: “Quantitative suitability requires a member or associated person who has actual or de facto control over a customer account to have a reasonable basis for believing that a series of recommended transactions, even if suitable when viewed in isolation, are not excessive and unsuitable for the customer when taken together in light of the customer's investment profile, as delineated in Rule 2111(a). No single test defines excessive activity, but factors such as the turnover rate, the cost-to-equity ratio, and the use of in-and-out trading in a customer's account may provide a basis for a finding that a member or associated person has violated the quantitative suitability obligation.”


For details on of these cases, go to ...  FINRA Disciplinary Actions Online, and refer to the Respective AWC Number.