Saturday, January 29, 2011

Ponzi Scheme Victims - All May Not Be Lost


Common wisdom says that victims of Ponzi schemes will never see their investment monies again. In most cases, that is likely true. But not always, and victims should be aware that sometimes they may have viable remedies to recover some or all of their losses.

The problem is enormous. Ever since the $50 billion Ponzi scheme masterminded by Bernard Madoff exploded two years ago, securities regulators have become more vigilant in pursuing these illegal investment scams. All of a sudden, we seem to be inundated with the disclosure of new Ponzi schemes nearly every week. According to a recent analysis conducted by the Associated Press, 150 Ponzi schemes collapsed in 2009, nearly four times the number that fell apart the year before, resulting in losses to victims of more than $16.5 billion. The Securities and Exchange Commission ("SEC") issues 82 percent more restraining orders against Ponzi schemes and similar securities fraud cases in 2009 as compared to 2008, and the FBI has opened more securities fraud investigations than ever before. Once the final statistics for 2010 are available, there is no reason to believe they will show any improvement.

Any victim of securities fraud faces potentially devastating losses. For investors who lose money due to the misconduct at brokerage firms, the opportunity to recover their losses through arbitration exists. Because most Ponzi schemes are run by fraudsters unaffiliated with brokerage firms, the collapse of these schemes often leaves victims with no recourse.

Recovery of losses, however, is not always out of the question. In 2010, the investment fraud lawyers at Block & Landsman were hired by a couple who were victimized by a woman who is now imprisoned in a federal penitentiary for operating a massive Ponzi scheme. The fraudster represented to our clients that her firm was selling interests in a bond yielding 8% interest and that they could pull their money out any time they wanted. The investors believed these promises and wire transferred their investment to a bank where the schemer said the money needed to be deposited. As soon as the transfer was complete, however, the fraudster withdrew the funds and used them for personal expenses. Although the investors soon discovered the fraud, their money was already gone, and they felt all was lost.

Fortunately for our clients, they may find relief. The bank they transferred their money to has an affiliated brokerage firm. The woman now in prison used to be registered as a broker with that brokerage firm, until she lost her securities broker license for stealing money from a customer's account. Despite this background, the affiliated bank allowed her to open numerous accounts on behalf of others in her capacity as a financial adviser, ignoring the many red flags that she was continuing her criminal enterprise.

Thursday, January 27, 2011

FINRA Arbitration Statistics - Closing the Book on 2010


The Financial Industry Regulatory Authority ("FINRA"), which provides the arbitration mechanism for resolving securities disputes involving investment fraud, has published its 2010 arbitration statistics. The results show a gradual, very gradual, trend that may be favoring investors.

Investors filed 5,680 arbitration cases in 2010. Although this number is twenty percent less than the number of arbitration cases filed in 2009, it is the second largest annual figure in the past five years, representing a general increase in the number of investors who are claiming losses due to broker misconduct. The majority of cases filed in 2010 involved claims for breach of fiduciary duty and misrepresentations involving common stock and mutual funds, although a significant number of cases involved annuities and bonds as well.

2010 did not just usher in an increased number of new arbitrations. A large number of cases (6,241) were closed during that year as well, which is a result of the increased filings in 2009 following the near collapse of the financial markets in the Fall of 2008. These statistics follow a general pattern regarding an uptick of arbitration activity following major market downswings, although these figures did not quite reach the record number of cases filed on the heels of the tech bubble burst early in the decade.

Of the cases closed in 2010, 22% were resolved by hearing or decided just on the submission of documents, and 62% were settled through mediation or through direct discussions between the parties. This is fairly consistent with method of case resolution seen in prior years.
Notably, 47% of all customer cases decided by arbitration resulted in an award of damages in favor of the investor. This statistic requires a significant asterisk: it includes the award of any dollar amount in favor of the customer, regardless of how little it is compared to the amount of the claimed losses. Even with that qualification, the 2010 results confirm that the percentage of victories for investors is gradually trending upward; in 2007, only 37% of customer claims received an award in favor of the investor. Indications remain, however, that arbitration presents significant undue challenges to investors by failing to provide a level playing field.

Arbitration statistics over the next two years will shed light on the impact of important changes that FINRA is implementing to its arbitration procedures. Among the most significant changes is the elimination of the industry arbitrator for claims involving more than $100,000. Additional improvements, such as making arbitration voluntary rather than mandatory, are likely in the wake of SEC action pursuant to the requirements of the recently enacted Dodd-Frank Act. Whether such changes impact the results of arbitration hearing is a question that investors and industry members will closely watch.

If you believe your investment losses may have been caused by fraud or broker misconduct, call the investment fraud lawyers at Block & Landsman for a confidential consultation. Please visit our website for more information.

Sunday, January 23, 2011

Federal Task Force Diagnosis Financial Fraud Epidemic in U.S.


Last month, Attorney General Eric Holder announced the results of Operation Broken Trust, a nationwide operation organized by the Financial Fraud Enforcement Task Force to target investment fraud. According to these results, investment fraud is a virus that has infected our system of finance so thoroughly that no investor is immune from its opportunistic attacks.

The task force is a coordinated effort by the U.S. Department of Justice, the Securities and Exchange Commission, the Internal Revenue Service, the U.S. Postal Inspection Service and the U.S Commodity Futures Trading Commission, to lead an aggressive and proactive effort to investigate and prosecute financial crimes. During its initial three-and-a-half month effort, beginning on August 16, 2010, the task force initiated 211 criminal cases and 60 enforcement actions involving fraud schemes that defrauded more than 120,000 victims. The calculated losses of these victims: $10.5 billion.

The vast scope of financial fraud revealed by the task force's preliminary efforts is shocking, but should not be surprising. Such schemes have flourished for generations in the absence of meaningful efforts to curb their growth. It has been reported, for example, that the FBI slashed its financial fraud work force in the wake of the September 11, 2001 attacks in order to concentrate on terrorism investigations, a necessary focus that had the consequence of leaving victims of fraudsters to fend for themselves. The resulting wild west atmosphere allowed investment schemes to mushroom. Time and again, the task force broke up multi-million dollar scams that had been successfully operating for years without the threat of meaningful criminal or civil liability.

The schemes themselves are wide-ranging, but pursue a singular goal. According to one task force member, "the operators of these schemes often promise high returns to investors, but engage in little to no legitimate investment activity. Such schemes include Ponzi schemes, affinity fraud, prime bank/high-yield investment scams, foreign exchange frauds, business opportunity fraud, and other similar schemes."

Victims of investment fraud should not merely rely on efforts of governmental agencies to seek retribution. Investors who have lost money due to investment fraud can, and should, pursue their own rights. The investment fraud lawyers at Block & Landsman can help evaluate investors' claims of investment fraud and pursue lawsuits or arbitration proceedings that seek to recover their losses. If you would like to consult with the investment fraud lawyers at Block & Landsman, please visit our website for more information.

Saturday, January 22, 2011

Leveraged Inverse ETFs Still Pose Risks to Conservative Investors


In 2009, warnings regarding leveraged inverse Exchange Traded Funds ("ETFs") exploded. Both the Financial Industry Regulatory Authority ("FINRA") and the Securities Exchange Commission ("SEC") issued alerts against the use of these "potentially dangerous" investment vehicles. In July 2009, both UBS and Edward Jones & Co. ended the sale of leveraged inverse ETFs, which are intended only for the most sophisticated daily investors, not for long-term holders.

Despite this concerted effort, conservative investors still find that leveraged inverse ETFs have devastated their investment portfolios. In fact, in December 2010, the investment fraud lawyers at Block & Landsman filed a new arbitration claim on behalf of two investors who lost significant amounts of money from leveraged inverse ETFs that were held in their accounts for more than one year. As a result, a new focus on these destructive investments is necessary.

Exchange Traded Funds ("ETFs") are registered investment companies which contain a portfolio of securities that track a particular index (like the S&P 500) or an underlying benchmark. Leveraged ETFs are designed to deliver multiples of the performance of the index they track. Inverse ETFs (also known as "short" funds) are designed to deliver the opposite of the performance of the index they track. Leveraged inverse ETFs (often called "ultra short" funds) are intended to return a multiple of the inverse performance of the underlying index. As an example, with a 2x (two times) leveraged inverse ETF that tracks the S&P 500, if the index increases 2% in a day, the ETF will decrease in value by 4%.

One of the greatest risks to investors is that most leveraged inverse ETFs "reset" daily, meaning that they are designed to achieve their stated objectives on a daily basis. As a result, they are not intended for long-term hold investors because the performance of these ETFs over longer periods of times (weeks or months) can differ significantly from the index they track over the same time period. The effect is potentially devastating to a conservative investor because, as a result of the compounding factor created by the daily reset, the leveraged inverse ETF can experience substantial losses over time even if the underlying index experiences an overall gain. One example given by the SEC involves an index that opens at 100 and closes at 110, and the next day closes at 100. A 2x leveraged inverse ETF will decrease the first day by 20% and will increase the second day by 18%. Thus, over 2 days the index will be flat but the 2x leveraged inverse ETF would have lost nearly 2% of its value. The effects of this type of mathematical compounding can grow significantly over time, resulting in large losses for the 2x leveraged inverse ETF investor. According to the SEC, in a four month period of time, a particular index gained 2%, but the 2x leveraged inverse ETF tracking that index fell by 25%.

If you have lost money through leveraged inverse ETFs, or any other unsuitable investment, the investment fraud lawyers at Block & Landsman can help.

Tuesday, January 18, 2011

Securities Arbitration Update: Securities America Liable for Medical Capital Ponzi Scheme


The brokerage firm Securities America has been held liable in the first of what is expected to be dozens of securities arbitrations filed by investors who bought fraudulent securities representing interests in medical receivables offered by Medical Capital and other companies. A FINRA arbitration award was recently issued against Securities America for nearly $1.2 million in damages and legal fees in an arbitration case brought by an elderly investor who believed he was investing in safe securities.

Published reports point to dozens of brokerage firms that have sold Medical Capital securities. While Medical Capital is not the only firm alleged to have sold medical receivables under fraudulent circumstances, it was one of the largest, raising $2.2 billion between 2003 and 2008.
Medical Capital is now in bankruptcy. But, as the recent FINRA award shows, investors who purchased fraudulent medical receivable securities have the option to pursue brokers who sold these inappropriate investments. The investment fraud lawyers of Block & Landsman are currently pursuing claims involving fraudulent medical receivable securities. If you would like to consult with an investment fraud lawyer, please visit Block & Landsman's website.

Saturday, January 15, 2011

The SEC Is Poised To Add Necessary Investor Protections


In an article recently published, Larry Landsman, partner of Block & Landsman, discusses major reform that is coming to the rules governing the broker-investor relationship. On July 21, 2010, Congress passed the Dodd-Frank Wall Street Reform and Consumer Protection Act in response to the 2008 financial meltdown in the U.S. economy. Among the many challenges the statute is intended to address are long-simmering battles concerning the relationship between brokers, broker-dealers and their customers. After protracted clashes between investor advocates and industry representatives, the Dodd-Frank Act has authorized the SEC to engage in rule-making that will overhaul the securities laws in ways long sought by investors. 

Soon brokers will be held to higher standards of care toward their clients, and investors will have access to greater protections where brokers have breached their standards of care.
This post will address the revised standard of care they brokers may be held to. In a later post, I will explore the changes expected in the arbitration proceedings used when an investor has a claim of wrongdoing against a broker. In both instances, the changes will offer greater protections to the investor against historical abuses that have been hotly disputed for years.

1. Brokers' Owe Limited Standard of Care to Investors

Under current law, brokers are required to adhere to relatively lax standards of care as compared to investment advisors whose conduct is governed by the Investment Advisors Act of 1940. Brokers, who are regulated by the Financial Industry Regulatory Authority ("FINRA") are required only to recommend investments that are "suitable," meaning that a broker need only have a reasonable basis to recommend the security in light of the client's investment objectives and financial circumstances. Investment advisers, on the other hand, must abide by a more stringent fiduciary standard of care which mandates a duty of loyalty and obligates them to act only in the best interests of their clients. The principal distinction is that brokers need not put the clients' interests ahead of their own, while an investment adviser must. The Dodd-Frank Act is poised to eliminate this difference.

From the investor's perspective, it is difficult to discern that the "advice" given by brokers is held to a lesser standard than that given by investment advisers. In a 2008 study commissioned by the SEC, the Rand Corporation found that the roles of brokers and investment advisers are confusing to investors, who are not clear about their respective legal duties. Indeed, a majority of participants erroneously believed that both brokers and investment advisers were required by law to act in the client's best interest and to disclose any conflicts of interest. The study found that investors were confused on key distinctions between investment advisers and brokers -- their duties, the titles they use (brokers often designate themselves as "financial consultants" or "financial advisors") or the services they offer.

2. The SEC Is Poised To Add Necessary Investor Protections

The difference in these standards of care has a significant impact on investors. The obvious effect is in the propriety of the securities in an investor's portfolio -- whether or not thy were selected in the bests interests of the client. Fortunately for the investor, the confusion regarding the scope of a broker's duties may soon be eliminated. The Dodd-Frank Act empowered the SEC to determine the existence of, and correct, any deficiencies in the broker's standard of care as compared to the fiduciary duty governing investment advisers' conduct. Indicates are that the SEC will do just that. The Rand report mentioned above found that current securities laws and regulations are based on distinctions between brokers and investment advisers that date back to the early 20th century, "and that these distinctions appear to be eroding today." 

Additionally, the Chairperson of the SEC, Mary Schapiro, recently recognized that "investors who turn to a financial professional often do not realize there's a difference between a broker and an adviser -- and that the investor can be treated differently based on who they're getting their investment advise from." Ms. Schapiro further advocated that the only duty owed to investors flow "from the perspective of the investor we are seeking to protect" rather than "from the perspective and legal regimes of the adviser or broker." Given this background, Ms. Schapiro has advocated a uniform fiduciary standard and is "pleased" that the new legislation gives the SEC the authority to implement it.

While the SEC Chairperson's position does not constitute an official decision by the Commission, it is apparent that there is clear support to equalize the standards of care of brokers and investment advisers, and rules achieving that goal can be expected to be implemented. Such a result will provide significant protections to investors by making their interests the controlling concern for any financial adviser.

In my next post, I'll discuss the changes we can expect in the arbitration process when investors believe their brokers engage in misconduct.

The investment fraud lawyers at Block & Landsman concentrate their practice in the area of securities arbitration and securities litigation. Please visit their website for additional information.

New Investor Protections Are On The Horizon, Part II


The Dodd-Frank Wall Street Reform and Consumer Protections Act ("Dodd-Frank Act") is intended to spawn regulations that will significant alter the arbitration landscape for investors who are victims of securities fraud. Currently, securities firms uniformly require investors to sign mandatory arbitration agreements when opening a brokerage account, a result of the U.S. Supreme Court's 1987 decision in Shearson/American Express v. McMahon that firms were entitled to mandate that all investor disputes be resolved through arbitration. The vast majority of securities disputes between investors and brokers are arbitrated through the dispute resolution forum maintained by the Financial Industry Regulatory Authority ("FINRA").

1. Securities Arbitrations Involve $1 Billion Per Year in Investment Losses

Securities arbitrations involve, collectively, enormous sums of money. Between 2001 and 2009, aggrieved investors filed, on average, nearly 6,500 arbitration claims per year against brokerage firms. According to an in-depth analysis of investor arbitration proceedings sponsored by the Securities Industry Conference on Arbitration, more than 65 percent of the investor arbitration claims that were studied sought damages in excess of $100,000. Thus, at any given time, FINRA is responsible for ensuring the fair adjudication of claims for alleged investment fraud responsible for losses exceeding one billion dollars. It is, accordingly, no surprise that investors as well as industry participants have a vested interest in the significant changes to the rules governing these disputes that will be ushered in by the Dodd-Frank Act.

2. The Rules Governing Securities Arbitrations Disadvantage Investors

The stated goals of the existing securities arbitration framework are to streamline and make more accessible the dispute resolution process. To be sure, the arbitral forum in its present state offers concrete benefits to investors and industry participants alike. For example, statements of claim need not satisfy the pleading requirements applied to complaints filed in court, and respondents are precluded, with limited exception, from filing motions to dismiss.  Additionally, the rules of evidence which govern courtroom trials do not apply to FINRA arbitrations, thereby allowing the parties greater flexibility to present information they believe relevant to their case. Moreover, arbitration awards constitute a final resolution of the dispute, as the bases to appeal the arbitrators' decision are severely restricted by federal and state statutes.

The benefits, however, come at significant monetary and strategic costs which are disproportionately borne by members of the investing public. For example, the cost of bringing a FINRA arbitration proceeding can be prohibitively expensive to an investor compared to the relatively well-funded brokerage firm. In a claim seeking more than $100,000 in damages, an investor faces fees of thousands of dollars regardless of the outcome -- significantly more than the cost of filing a lawsuit. Investors also face substantial costs of retaining expert witnesses to testify on issues of liability and/or damages, whereas respondent brokerage firms often rely on the testimony of employees rather than outside experts to provide such evidence.

Investors face extremely limited ability to obtain discovery in arbitration, which poses a great disadvantage against brokerage firms that have far superior understanding of their inner workings and have unilateral access to all employees who can explain to respondents' attorneys how and why certain actions were taken.

Perhaps the most controversial aspect of FINRA arbitration procedures is the existence of the "industry" member on the three-arbitrator panels for all cases seeking damages in excess of $25,000. The vast majority of FINRA investor disputes are decided by a panel that includes one arbitrator who has significant ties to the securities industry in addition to two "public" arbitrators. Investor advocates strenuously object to the perceived unfairness of the "industry" arbitrator deciding these claims while securities organizations dispute the presence of any resulting pro-industry bias.

3. The Inequities of the Current Arbitration System Have Advsersely Impacted Investors

The impact of such disparate burdens on investors in arbitration is subject to much debate. It is indisputable, however, that as arbitrations have become more expensive, time consuming and dependent on courtroom-style litigation tactics, the success rate for investors has declined. Between 1997 and 1999, investors won between 56 percent and 59 percent of arbitration claims that proceeded to a hearing. Ten years later, investors are faring far worse; between 2007 and 2009, claimants won between 37 percent and 45 percent of hearings. Even these figures inflate the true success rate for claimants because FINRA records any award in an investors favor, regardless of amount, as a "win." For example, as reflected in the SICA report on securities arbitration, 5.3 percent of the investor "wins" it studied returned an award to the claimant of less than 1 percent of the amount claimed to have been lost.

4. Dodd-Frank Should Level The Playing Field for Investors in Arbitration

The Dodd-Frank Act is poised to level the playing field to litigate disputes with brokers. It gives the SEC broad authority to prohibit or limit the use of mandatory arbitration agreements, and to design a dispute resolution mechanism that satisfies the demands of investors for more fairness as well as the desire of industry participants to arbitrate rather than litigate in court.
The SEC should not prohibit arbitrations. The procedure does provide benefits to all parties that are not available in a court of law. Investors, however, should be given a meaningful and voluntary opportunity to choose arbitration. The arbitration option cannot exist without revisions to the rules in order to assuage investors' legitimate concerns regarding fairness. If substantive reforms addressing such inequities are enacted, investors should be more willing to exercise their choice to arbitrate disputes rather than go to court. Indeed, even though the SEC has yet to act, Dodd-Frank has already ushered in a significant benefit to investors in arbitration. On October 26, 2010, FINRA filed with the SEC a proposed rule change to permit investors with claims of more than $100,000 to select three member arbitration panels that do not include the contentious "industry" arbitrator.

While the elimination of the "industry" arbitrator is a substantive step toward fairness, the SEC will have to consider additional measures to reverse the existing bias against investors to make arbitration a viable alternative. Such changes should allow investors greater access before an arbitration hearing to evidence in the exclusive possession of respondent, should prevent well-documented discovery abuses by brokerage firms in arbitration, and should establish burdens of proof to end the need for expensive expert witnesses who are more appropriate to a courtroom trial than an arbitration hearing.

The investment fraud lawyers at Block & Landsman concentrate their practice in the area of securities arbitration and securities litigation.