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NEWSLETTERS & ALERTS
SEC Capitulates to Wedbush Securities Over Supervisory Failures
by Howard Haykin
On Wednesday, the SEC issued a triumphant press release announcing that Wedbush Securities will pay $250,000 to settle SEC charges that it failed to supervise one of its registered reps who participated in a long-running pump-and-dump scheme. In determining its sanctions, the SEC acknowledged remedial measures taken by Wedbush since March 2018, including changes made to senior leadership, revised policies and procedures, improved electronic surveillance, and the allocation of additional resources to internal and audit controls groups.
The accompanying SEC Order - In the Matter of Wedbush Securities laid out a tremendous case against Wedbush Securities and its associated persons – from its president, to its director supervisors, to its staffers in Compliance and Legal – illustrating how they collectively failed to act or respond to significant red flags that alerted them to penny stock manipulation, if not unsuitable penny stock trading in customers’ accounts by a registered rep.
WHAT’S WRONG WITH THIS PICTURE? That last one-sentence explanation encapsulates the SEC's position on how and why Wedbush failed to supervise the registered rep in this case. Section F of the SEC Order went further [bold emphasis inserted by Financialish]:
22. Wedbush’s policies and supervisory systems lacked any reasonable coherent structure to provide guidance to supervisors and other staff for investigating possible facilitation of market manipulation by registered representatives, including Delorme. This lack of reasonable policies and procedures resulted in Wedbush failing to supervise Delorme.
23. Wedbush lacked reasonable procedures regarding the investigation and handling of red flags. There was substantial confusion as to whose responsibility it is to conduct investigations related to red flags of potential market manipulation by Delorme. …
So, why after reading the SEC Order, did I have the impression – if not the suspicion - that purposeful intent was involved in Wedbush’s failure to act or respond to what seemed like obvious violative or criminal activities by the registered rep? The 5 "What Went Wrong" Issues (noted below) collectively and individually illustrate negligence, if not gross negligence, on the part of broker-dealer supervisory and management. Yet, those are the facts, as presented by the SEC, which opted not to go that far.
And, why did the SEC not make full reference to Wedbush’s prior history of supervisory failures. In January 2019, NYSE Arca settled its case with Wedbush Securities and its president, director and co-founder, Edward Wedbush, over charges that Mr. Wedbush had long disregarded exchange rules and Securities Act of 1934 regulations, and that the firm had repeatedly looked the other way to Mr. Wedbush’s violative conduct? Fact is, the above-mentioned remedial measures taken by Wedbush, to which the SEC prominently alluded, were part of this NYSE Arca settlement. [Click to read Financialish’s account of the NYSE Arca settlement: NYSE Arca Clips Edward Wedbush’s Wings.]
THE REGISTERED REP IN THE ‘PUMP AND DUMP’ SCHEME. The SEC case involves Timary Delorme, a registered rep with Wedbush from 1981 until 2018, and who was a business partner with a partial owner of the firm. Beginning in or around 2008 and continuing into 2014, Ms. Delorme was involved in the scheme with Izak Zirk Engelbrecht a/k/a Zirk De Maison (“Engelbrecht”), who was charged by the SEC in September 2014 with, among other things, engaging in “pump and dumps” using stocks of several penny stock issuers that he and his associates controlled.
Delorme’s role in Engelbrecht’s scheme was to buy certain stocks in her customers’ accounts, or to encourage her customers to buy the stocks, in exchange for undisclosed compensation in the form of shares and cash. In addition, Delorme engaged in manipulative trading designed to create a false appearance of volume and increase or stabilize the price of securities.
WHAT WENT WRONG WITH SUPERVISION AT WEDBUSH? Wedbush was aware of certain aspects of Ms. Delorme’s activity – particularly in 2012 and 2013 – but (here we have it again) its supervisory policies and implementation systems failed reasonably to guide staff on how to investigate the activity. And “despite learning of these red flags, Wedbush [senior executives, supervisory personnel, and staffers in compliance and legal] continued to allow Delorme to process orders and communicate with customers, including making investment recommendations.” And, in fact, “during this time period, Delorme continued to act as an accomplice with Engelbrecht’s scheme.”
ISSUE 1: Delorme’s Hesitant Direct Supervisor. Delorme’s front-line supervisor (“Supervisor 1”), began working at Wedbush in April 2009 and early on he had general concerns about the quantity of penny stocks in Delorme’s customers’ accounts. He took measures to restrict her trading activity by limiting her trading in the last hour of the day and restricting all customer trading in certain penny stock securities.
Yet, because Delorme had been at the firm for 30 years and her business partner was a partial owner of the firm, Supervisor 1 felt he had to “be gentle” in terms of restricting Delorme’s activities and could not take more “draconian action.”
ISSUE 2: The “Customer A” Email. During an email review in November 2012, Supervisor 1 came across an email sent by Delorme to Customer A (someone who was substantively involved in Engelbrecht’s penny stock scheme). The Customer A Email outlined deals between Customer A, on one side, and Engelbrecht and his associate, on the other “confirmed by [Delorme] as she knows them.” The email outlined Customer A’s efforts to assist in inflating the price of penny stocks, many of which were held in Wedbush accounts by Delorme and her customers. The email further noted that one of the deals had to be handled through a different broker-dealer because Delorme was restricted from any purchases through Wedbush during the last hour of trading – a reference to the restrictions the supervisor had placed on Delorme’s activity.
“The Customer A Email was escalated internally up to the president of Wedbush, who reviewed and initialed the email on December 17, 2012. Legal and compliance personnel also were aware of the email.
ISSUE 3: The FINRA Arbitrations. On or about October 17, 2012, around the same time as the Customer A Email, Delorme and Wedbush were named as respondents in 2 FINRA arbitration claims. Arbitration Claim #1, submitted by 4 customers, alleged that Delorme solicited their investments in certain penny stock issuers, guaranteed no losses, gifted securities, and set up a deal between her customers and an associate of Engelbrecht’s. The customers further alleged, through text message evidence, that Delorme was involved in manipulating the securities in their accounts in order to guarantee them profits.
This arbitration claim was passed along to a number of people, including the president of Wedbush and members of the firm’s legal and compliance staff.
On or about November 15, 2012, Arbitration Claim #2 was received. While Delorme was not personally named as a respondent, the underlying allegations were similar to those in Claim #1 in that they described similar transactions involving Delorme in similar securities. Both arbitrations were settled in the fall of 2013. Delorme was responsible for paying Wedbush half the settlement amounts in both arbitrations because Wedbush deemed her culpable for her behavior.
ISSUE 4: The FINRA Inquiries Into Delorme's Personal Brokerage Accounts. In November 2012, Wedbush received inquiries from FINRA’s Office of Fraud Detection and Market Intelligence into trading in a specific penny stock by 3 accounts held at Wedbush by Delorme and her husband.
Delorme’s supervisors were aware of the inquiry, as were members of Wedbush’s legal and compliance teams.
ISSUE 5: The FINRA Inquiry Into Customers' Arbitration Claims. In December 2012, FINRA submitted a second inquiry to Wedbush regarding the allegations in the customer’s arbitrations claims. During the course of responding to FINRA, Delorme drafted her own responses and sent them to compliance for review. And, during the course of this inquiry, in April 2013, FINRA interviewed Delorme.
Compliance personnel at Wedbush did not take any steps to investigate or confirm the veracity of Delorme’s responses.
The Supervisor and Wedbush compliance personnel attended the April 2013 interview.