Securities Industry Commentator by Bill Singer Esq

August 27, 2019
In an Indictment filed in the United States District Court for the Eastern District of New York, Kamal Zafar, Jamal Zafar and Armughanul Asar were charged with conspiracy to commit wire fraud and conspiracy to launder money. As set forth in part in the DOJ Release:                    

[B]etween January 2018 and September 2018, the defendants, together with co-conspirators operating from call centers in India, targeted victims in the United States, and falsely claimed to be employees of the IRS, the Social Security Administration or the Drug Enforcement Administration.  The victims were informed that they owed a sum of money to the United States government or one of its agencies and that they would be arrested if the debts were not promptly paid.  After victims wired payments to bank accounts that the defendants had opened in the names of inactive and shell corporations to receive the fraud proceeds, the funds were withdrawn and laundered through additional bank accounts.  The scheme is estimated to have netted over $2 million from victims across the United States.

Indictment Issued Against Investment Adviser Named in SEC Action (SEC Release)
A seven-count Indictment filed in the United States District Court for the Central District of California, charged investment adviser Motty Mizrahi with wire fraud. Previously, Mizrahi and his sole proprietorship MBIG Company were charged in an SEC Complaint with violations of the antifraud provisions of Section 10(b) of the Securities and Exchange Act and Rule 10b-5 thereunder and Sections 206(1) and (2) of the Investment Advisors Act of 1940. As set forth in part in the SEC Release:

According to the indictment, Mizrahi and another individual engaged in a scheme to defraud more than forty investors, as well as Mizrahi's employer, a private high school. Holding himself out as a licensed professional money manager, broker and certified public accountant, Mizrahi claimed that he employed sophisticated "risk-free" trading strategies with "guaranteed returns"; that investors' principal could be redeemed "on demand"; and that Mizrahi would be compensated only by sharing 25% of investors' profits. Instead, according to the indictment, Mizrahi transferred millions of investor monies to his personal trading accounts, where he accumulated persistent, extensive losses; he converted investor monies to personal use; and he converted certain of the monies deployed in his investment scheme from his employer. Further according to the indictment, Mizrahi lulled investors by providing them false account statements that showed illusory gains; by showing them fraudulently-altered fictitious brokerage statements purporting to show millions in reserves; and by falsely assuring them that their funds were safely invested.
In a recent federal court case, a former Morgan Stanley employee alleged that he had been wrongfully terminated when Morgan Stanley learned that the Navy had called him for at least six months of active duty. In response to his lawsuit, Morgan Stanley asserted that the former employee had failed to opt-out of a mandatory arbitration program, and, as such, was bound to arbitrate his claims. At first, the employee claimed to have never received the email notice of the program or his right to opt out. That seemed like a winning position. Then Morgan Stanley snatched victory from the jaws of defeat.

In the Matter of Saving2Retire, LLC and Marian P. Young (Initial Decision, Init. Dec. Rel. No. 1384, Admin. Proc. File No. 3-17352)
As set forth in the Syllabus to the SEC Initial Decision by SEC Chief Administrative Law Judge Brenda P. Murray:

Marian P. Young, the sole owner and employee of Saving2Retire, LLC, an investment adviser with few clients, tried to start an internet investment advisory business. 

In 2011, Saving2Retire registered with the Securities and Exchange Commission under the internet investment adviser exemption and maintained its registration for four years despite never having any internet clients, which violated the Investment Advisers Act of 1940. Additionally, Saving2Retire failed to follow recordkeeping requirements that became obligatory once it registered with the Commission, violating the Advisers Act's rules. Finally, when Young was confronted by the Commission with these deficiencies, she failed to provide Saving2Retire's records for examination, which amounts to a third violation. I find that Young caused the first of Saving2Retire's violations and aided, abetted, and caused the latter two. 

Although these violations are serious, the evidence does not show that any client was defrauded or harmed. I order Respondents to cease and desist from further violations of the Advisers Act and its rules, bar Young from the securities industry with a right to reapply after two years, and impose a $13,000 civil penalty on Young.

Bill Singer's Comment: Young represented herself and the LLC pro se. The SEC Division of Enforcement alleged in its Order Instituting Proceedings that Young willfully aided, abetted, and caused Saving2Retire's willful violations of Advisers Act Sections 203A and 204 and Rule 204-2. As set forth in part in the SEC Initial Decision:

Young registered Saving2Retire with the Commission as an investment adviser on April 8, 2011. Saving2Retire Answer at 2. She understood that typically an adviser could not register with the Commission unless it met a specified threshold in assets under management, but that there was an exemption for internet investment advisers, and she registered under that exemption. Div. Ex. 9 at 34; Tr. 70. She knew that to qualify for the exemption, an internet adviser needed an interactive website and could not advise 15 or more clients outside of the site. See Div. Ex. 9 at 35-36. 

Young wanted to create an internet advisory business "so the smaller guy could have good investment advice, because people were always trying to take advantage of him, charge him high fees." Tr. 91; see also Div. Ex. 12 at 134; Resp. Ex. 8 ("The business was formed to help the African American community have access to good low cost investment advice."). Young "never had a lot of capital" so she decided to set up the adviser herself. Tr. 89-91. She did not consult an attorney or hire any professionals to help determine whether Saving2Retire was eligible to register. Tr. 70. Instead, she did research online, communicated with the Commission staff, and read through the Commission's rules. Tr. 90; Resp. Ex. 12 (emails between Young and Commission staff from early 2011); Resp. Ex. 20 (telephone communications between Young and Commission staff). She believed she was eligible to register with the Commission, so she set out to register and then build a website afterwards. Tr. 91; Div. Ex. 9 at 123. 

The website was not completed until September 2013, more than two years after Saving2Retire registered. Tr. 70-71. Young testified that it took her so long because she laid out the site herself and then had to find a coder who would not charge her a lot to build it. Tr. 92; Div. Ex. 9 at 36. She saw no problem with the time that elapsed because she "never saw anything that said I had to have this website at a certain date." Tr. 71. And she stated at her deposition that "there was nothing to make me want to believe that the website had to be up and going at the time of registration." Div. Ex. 9 at 125. 

Although Saving2Retire's website eventually went live as described, see Resp. Ex. 18 (screenshots of Saving2Retire's website), the firm never advised a single internet client. Tr. 74, 85. On January 2, 2015, Saving2Retire filed an amended Form ADV stating that the firm was no longer eligible for Commission registration. Tr. 86. Young took down Saving2Retire's website in August 2015. Tr. 85. On November 17, 2017, Saving2Retire filed a Form ADV-W, and it is no longer registered with the Commission. Saving2Retire, LLC, Form ADV-W (Nov. 17, 2017); Decl. of Javier Villarreal, at 1 (June 17, 2019).

Pages 4 - 5 of the SEC Initial Decision

 In the face of the SEC's examination and finding of deficiencies, Young:

responded to the deficiency letter by saying that Saving2Retire was "too small of a firm without the resources necessary to be under the requirements of the SEC" and that she would be closing her internet business and transferring to state regulation. Resp. Ex. 6. She said she would withdraw Saving2Retire's Commission registration once state registration was approved. Id.  

Page 10 of the SEC Initial Decision

In pursuing its case, the Division argued that Savings2Retire had, in fact, advised 20 non-internet clients for the 12-months ended November 2014 -- accordingly, that number demonstrated a violation of the 15-client threshold. In response to a subpoena for her testimony, Young first replied that "she could not travel to Dallas 'due to medical and financial constraints,'" and after further requests for her testimony, she then stated that "Saving2Retire was her 'sole source of livelihood,' and that she was 'overwhelmed with trying to figure out how I will survive, keep a roof over my head for the immediate future, and battle my health issues.'"

It seems clear to me that Chief ALJ Murray made a sincere effort to handle this case with compassion and more than a generous dose of appropriate discretion. For example:

There was no fraud here, none of Saving2Retire's clients were harmed, Young was not unjustly enriched, and the record does not establish that she engaged in other misconduct. 8 Respondents did, however, recklessly violate the Advisers Act and its rules, and there is a need to deter them and other persons from such conduct.

Page 24 of the SEC Initial Decision

I find, however, that no civil penalty is warranted for the improper registration of Saving2Retire. Young intended to comply with the internet adviser exemption, and she wanted to run a legitimate business. As noted above, at the time she registered, the guidance available on how long one could remain registered while waiting for business to pick up was ambiguous. Her position-that she could take as long as she wanted-may have been unreasonable, but there is no evidence of harm to anyone. And although there is some question about whether Respondents also advised too many non-internet clients to rely on the exemption-a matter which I have refrained from deciding-I do not think a civil penalty is appropriate regardless. . .

Page 25 of the SEC Initial Decision

FINRA Imposes Fines and Suspension Over Precious Metals Outside Business Activity. FINRA Department of Enforcement, Complainant, v Charles Edwin Taylor, Jodi Oyler Padgett, and John Lodge Farmer, Respondent (FINRA Office of Hearing Officers Hearing Panel Decision, Disc. Proc. No. 2017053382401)
As set forth in the Syllabus to the OHO Decision: 

Respondents Charles Taylor, Jodi Padgett and John Farmer engaged in undisclosed outside business activities. Respondents were compensated for referring customers to a company marketing investments in precious metals without advance disclosure to their member firm. Taylor also failed to adequately supervise Padgett and Farmer to ensure that they disclosed their outside business activities. In light of the misconduct, Taylor is suspended for six months in all capacities, six months in a principal capacity, and fined $25,000 for his misconduct. Padgett is fined $15,000 and ordered to requalify as a principal. Farmer is fined $6,000. Respondents are also assessed costs. 

By way of background, the OHO Decision asserts in part that:

[A]ccording to the first cause of the Department of Enforcement's Complaint, Respondents Charles Taylor, Jodi Padgett, and John Farmer engaged in an undisclosed and unapproved outside business activity involving sales of precious metal coins. Over several years, Taylor, Padgett, and Farmer allegedly received compensation from International Collector's Association ("ICA"), a third-party gold and silver dealer, in exchange for referring customers to ICA to facilitate investments in gold and silver coins. Yet Respondents never disclosed their outside business activity to their FINRA member firm employer, Royal Alliance Associates, Inc. ("Royal Alliance" or the "Firm") in the form required by Royal Alliance or otherwise, as required by FINRA rules. And since at least 1999, the Firm's written policies prohibited offering or selling precious metals. 

In explaining why Taylor was found to have failed to reasonably supervised Padgett and Farmer, and, further, why a relatively severe sanction of a $10,000 fine and a six-month supervisory-only-capacity suspension was imposed to run consecutively with Taylor''s six-month all-capacities sanction and in addition to a separate $15,000 fine, the OHO Decisions explains, in part, that:

We agree with Enforcement that the nature, extent, size, and character of the underlying misconduct is significant. The conduct spanned over 16 years and involved customer investments of over $1.1 million. And not only did Taylor ignore red flags, he facilitated the misconduct by introducing his subordinates to an outside business activity involving a prohibited product while failing to either require disclosure of the activity or enforce Firm policy by not permitting the precious metal referral activity. 

In light of these aggravating circumstances surrounding Taylor's supervisory failures, and considering the prior sanctions imposed against him discussed above, we find Enforcement's recommended sanction of a $10,000 fine and six-month suspension in a supervisory capacity to be appropriately remedial. Because his supervisory violation is distinct from his underlying violation, the supervisory suspension we impose will be consecutive to the all-capacities suspension imposed for Taylor's undisclosed outside business. . . 

Bill Singer's Comment: The OHO Decision is well written and proceeds through the underlying facts in an orderly and ultimately convincing fashion. The rationale for the findings of violation and the imposition of sanctions is similarly compelling. 

FINRA Fines and Suspends Stockbroker for Improper Trading Practices. In the Matter of Arlyn Roy Stokesbary Respondent (FINRA AWC 2018059898701)
For the purpose of proposing a settlement of rule violations alleged by the Financial Industry Regulatory Authority ("FINRA"), without admitting or denying the findings, prior to a regulatory hearing, and without an adjudication of any issue, Arlyn Roy Stokesbary submitted a Letter of Acceptance, Waiver and Consent ("AWC"), which FINRA accepted. In accordance with the terms of the AWC, FINRA imposed upon Arlyn Roy Stokesbary a $5,000 fine and a 15-business-day suspension from associating with any FINRA member in any capacity. As set forth in part in the AWC, FINRA deemed Stokesbury to have violated NASD Rule 2510(b) and FINRA Rule 2010 based upon the following conduct during his registration with FINRA Member firm Thrivent Investment Management, Inc.

During August 2017, the Firm identified that Stokesbary had effected trades for two unrelated customers on the same day within a period of several minutes. After the Firm inquired with Stokesbary about the trades, he stated that he did not speak to either customer on the day he effected the trades, and that he was effecting the trades based on the customers' previous verbal authorization. The Firm reminded Stokebary that its written procedures prohibited representatives from exercising discretionary authority over a customer's account, and instructed Stokesbary not to place trades in customer accounts without confirming the trade instructions with the customer on the same day as the trade. 

Subsequently however, during the Relevant Period, Stokesbary effected approximately 109 trades in the accounts of 20 customers without contacting the customers on the same day as the trade. Stokesbary did not have written authorization from the customers to use his discretion in their accounts, and he never requested, and his Firm never gave, permission to exercise discretion in the accounts.