Articles Posted in Failure to Supervise

The Stifel Nicolaus & Company story about financial advisors’ lack of training and supervision concerning exchange traded funds (ETFs) is not much different than other Wall Street giants, including Morgan Stanley, UBS, Citigroup and Wells Fargo who were fined for similar violations.  On December 17, 2013 Stifel Nicolaus & Company agreed to a Letter of Acceptance, Waiver and Consent (AWC) with the Financial Industry Regulatory Authority (FINRA) and fined $1 million for violation of FINRA rules related to the sale of non-traditional ETFs to retail investors.  FINRA determined in the AWC violations related to a failure to supervise the unsuitable investment advice provided by its financial advisors to retail investors.

Non-traditional exchange traded funds are investments designed to achieve investment returns that are a multiple (leveraged) of an underlying benchmark or the inverse (negative correlation) to an underlying benchmark.  The leveraged or inverse ETFs are designed to track an underlying basket of securities, indexes, currencies or commodities.  In order to achieve these investment results derivatives, swaps and futures contracts must be used which makes non-traditional ETFs complex investments rarely understood by the financial advisors who recommend them.

Non-traditional ETFs use derivatives, swaps and futures contracts to accomplish the intended performance objectives and requires a daily reset of the portfolio holdings which results in a tracking error over time.  In other words, most non-traditional ETFs are only managed to meet the investment objectives on a daily basis.   Due to the tracking errors over time and the effects of leverage, the performance of an ETF can differ greatly from the performance of the underlying basket of securities, indexes, currencies or commodities.  According to a FINRA regulatory notice, “While the customer-specific suitability analysis depends on the investor’s particular circumstances, inverse and leveraged ETFs typically are not suitable for retail investors who plan to hold them for more than one trading session, particularly in volatile markets.”  For buy-and-hold investors, non-traditional exchange traded fund investments have experienced investment results much different from the projections made by their financial advisors.