One of the most common claims from unhappy investors is against stockbrokers who churn or excessively trade their account to generate commissions for themselves.
Every dollar spent on fees, costs, or commissions is money that needs to be recovered through profit just for the investor to break even. The higher the commissions an investor pays, the less likely they are to make a profit.
Stockbroker’s Personal Gain May Drive Churning
As Wall Street commissions on traditional stocks have gone to zero at online or discount firms, we have seen a large number of cases involving bond churning or high internal costs on products which can also form the basis for a churning case.
FINRA Rule 2111(a) states that “[a] member or an associated person 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.”
As explained in the Supplementary Material found at Rule 2111.05(c): “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).”
Identifying Excessive Activity
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.
Turnover rate represents the number of times that a portfolio of securities is exchanged for another portfolio of securities. The cost-to-equity ratio measures the amount an account has to appreciate just to cover commissions and other expenses. In other words, it is the break-even point where a customer may begin to see a return. A turnover rate of six or a cost-to-equity ratio above 20 percent generally indicates that excessive trading has occurred.
NASD Rule 2310(a), which was superseded by FINRA Rule 2111, provided that “[i]n recommending to a customer the purchase, sale or exchange of any security, a member shall have reasonable grounds for believing that the recommendation is suitable for such customer upon the basis of the facts, if any, disclosed by such customer as to his other security holdings and as to his financial situation and needs.”
NASD IM-2310-2(b)(2) specifically prohibited registered representatives from engaging in excessive trading, i.e., quantitatively unsuitable trading. I NASD Rule 2310 was superseded by FINRA Rule 2111 on July 9, 2012.
Churning is not limited to Long Island boiler rooms and Wall Street has many bad actors who charge investors excessive fees, costs or commissions. As commissions on individual stocks have declined to nothing, Wall Street has creatively made alternative investments with high internal fees and costs.
Did Your Broker Churn Your Account?
Silver Law Group is a nationally-recognized law firm with extensive experience recovering losses for investors in cases of stockbroker misconduct, including churning. Our securities arbitration lawyers are licensed to practice in New York and Florida and represent investors nationwide in securities and investment fraud cases. Our managing partner, Scott Silver, is a former wall street defense attorney turned investor advocate with significant experience representing investors in claims for elder financial abuse, churning and breach of fiduciary duty.
If you have losses related to churning or other causes, contact Silver Law Group or call Scott Silver at (800)-975-4345 for a no-cost consultation. Most cases are taken on a contingent fee basis, so nothing is owed unless money is recovered for you.