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Yearly Archives: 2013

SEC Halts Ex-Marine’s Hedge Fund Fraud Targeting Fellow Military

Posted byDavid Weintraub

On August 6, 2013, the SEC obtained an emergency court order to halt a hedge fund investment scheme by a former Marine living in the Chicago area.  The former Marine masqueraded as a successful trader to defraud fellow veterans, current military, and others.

The SEC alleged that Clayton A. Cohn and his hedge fund management firm Market Action Advisors raised nearly $1.8 million from investors through a hedge fund he managed.  Cohn lied to investors about his success as a trader, the performance of the hedge fund, his use of investor proceeds, and his personal stake in the hedge fund.  Cohn invested less than half of the money raised from investors and instead used more than $400,000 for such personal expenses as a Hollywood mansion, luxury automobile, and high-end nightclubs. In order to cover up his fraud and continue raising money from investors, Cohn generated phony hedge fund account statements showing annual returns exceeding 200 percent.

According to the SEC’s complaint filed in Chicago, Cohn targeted mostly unsophisticated investors and solicited friends, family members, and fellow veterans.  Cohn controlled a so-called charity called the Veterans Financial Education Network (VFEN) that purported to teach veterans how to understand and manage their money.

The SEC alleged that Cohn managed his hedge fund Market Action Capital Management through his investment advisory firm Market Action Advisors, which is registered with the state of Illinois.  Cohn solicited investments by falsely claiming that he had major success as a personal trader and invested $1.5 million of his own money in the hedge fund.  He also misrepresented that an accounting firm would audit the hedge fund’s financial statements.

According to the SEC, Cohn had a record of trading losses, invested no more than $4,000 of his own money, and absconded with money for his personal expenses.  The audit firm named by Cohn never agreed to audit the fund’s financial statements.  Cohn continued to deceive investors after their initial investment by issuing account statements that showed annual returns of more than 200 percent for 2012 when the hedge fund actually lost money.

The SEC’s complaint charged Cohn and Market Action Advisors with violating the antifraud provisions of the federal securities laws.  The court granted the SEC’s request for emergency relief including a temporary restraining order and asset freeze.  The SEC further seeks permanent injunctions, disgorgement of ill-gotten gains, and financial penalties from Cohn and Market Action Advisors.  It was unclear whether the customers initiated any type of securities arbitration proceeding.

FINRA Fines Oppenheimer & Co., Inc. $1.4 Million for the Sale of Unregistered Penny Stocks and Anti-Money Laundering Violations

Posted byDavid Weintraub

On August 5, 2013, FINRA announced that it had fined Oppenheimer and Co., Inc. $1,425,000 for the sale of unregistered penny stock shares and for failing to have an adequate anti-money laundering (AML) compliance program to detect and report suspicious penny stock transactions. Oppenheimer is also required to retain an independent consultant to conduct a comprehensive review of the adequacy of Oppenheimer’s penny stock and AML policies, systems and procedures. Oppenheimer agreed to the sanctions to resolve charges first brought against the firm in a FINRA complaint in May 2013.

FINRA’s findings stated that from Aug. 19, 2008, to Sept. 20, 2010, Oppenheimer, through branch offices located across the country, sold more than a billion shares of twenty low-priced, highly speculative securities (penny stocks) without registration or an applicable exemption. The customers deposited large blocks of penny stocks shortly after opening the accounts, and then liquidated the stock and transferred proceeds out of the accounts. Each of the sales presented additional “red flags” that should have prompted further review to determine whether the securities were registered. FINRA also found that the firm’s systems and procedures governing penny stock transactions were inadequate, and were unable to determine whether stocks were restricted or freely tradable. Oppenheimer also failed to conduct adequate supervisory reviews to determine whether the securities were registered.

FINRA also found that Oppenheimer’s AML program did not focus on securities transactions and therefore failed to monitor patterns of suspicious activity associated with the penny stock trades. In addition, Oppenheimer failed to conduct adequate due diligence on a correspondent account for a customer that was a broker-dealer in the Bahamas, and therefore a Foreign Financial Institution under the Bank Secrecy Act; the firm’s failure contributed to Oppenheimer’s failure to understand the nature of the customer’s business and the anticipated use of the account, which was to sell securities on behalf of parties not subject to Oppenheimer’s AML review. This is the second time Oppenheimer has been found to have violated its AML obligations.

In concluding this settlement, the firm neither admitted nor denied the charges, but consented to the entry of FINRA’s findings.

SEC Charges Former Green Mountain Coffee Employee And Friend In $7 Million Insider Trading Scheme

Posted byDavid Weintraub

On August 2, 2013, the SEC announced insider trading charges against a former systems administrator at Vermont-based Green Mountain Coffee Roasters who repeatedly obtained quarterly earnings data and traded in advance of its public release.  The SEC also charged his friend who illegally traded along with him.

In a complaint unsealed July 31, 2013 in U.S. District Court for the District of Connecticut, the SEC alleged that Chad McGinnis purchased Green Mountain Coffee securities – typically out-of-the-money options – shortly before earnings announcements were made.  McGinnis also tipped his longtime friend and business associate Sergey Pugach, who illegally traded in his own account and his mother’s trading account.  Together, McGinnis and Pugach garnered $7 million in illegal profits by using inside information to correctly predict the reaction of Green Mountain Coffee’s stock price to 12 of the past 13 quarterly earnings announcements since 2010.

The SEC alleged that as an information technology employee, McGinnis had access to shared folders on Green Mountain Coffee’s computer server where drafts of pending press releases and earnings announcements were stored.  He also had access to other employees’ e-mail accounts.  Both sources provided McGinnis with details about upcoming Green Mountain Coffee earnings announcements before they became public.

According to the SEC’s complaint, McGinnis lives in Morrisville, VT, and Pugach lives in Hamden, CT.  Despite living in different states, much of the insider trading in their online brokerage accounts occurred through McGinnis’ home Internet service.  They communicated frequently around earnings announcements, but infrequently otherwise.  Around trading times, they exchanged numerous phone calls and text messages not only on their own phones, but also using cell phones belonging to their spouses.

The SEC’s complaint alleged that McGinnis and Pugach violated Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5.  Pugach’s mother Bella Pugach is named as a relief defendant in the SEC’s complaint for the purpose of recovering ill-gotten gains in her trading account.

FINRA Disciplinary Action Against Allan Jay Davidofsky

Posted byDavid Weintraub

In July 2013, FINRA reported that Florida Registered Representative Alan Jay Davidofsky was fined $11,741.78, plus interest, which represents disgorgement, and barred from association with any FINRA member in any capacity. The sanctions were based on findings that Davidofsky effected unauthorized trades in a customer’s traditional Individual Retirement Account (IRA) at his member firm, had de facto control over the account, and excessively traded in the account, which was inconsistent with the customer’s financial circumstances and investment objectives.

The findings stated that Davidofsky excessively traded the accounts with scienter, and consequently, churned the customer’s account. The findings also stated that the firm had warned Davidofsky to get his numbers up, and he undertook the excessive trading in the customer’s account to solidify his tenuous employment position at the firm and generate additional commissions for himself.  It is unclear whether the customer initiated a FINRA arbitration proceeding, or any other type of securities arbitration.

SEC Charges Texas Man With Running Bitcoin-Denominated Ponzi Scheme

Posted byDavid Weintraub

On July, 23, 2013, the SEC charged a Texas man and his company with defrauding investors in a Ponzi scheme involving Bitcoin, a virtual currency traded on online exchanges for conventional currencies like the U.S. dollar or used to purchase goods or services online. 

The SEC alleged that Trendon T. Shavers, who is the founder and operator of Bitcoin Savings and Trust (BTCST), offered and sold Bitcoin-denominated investments through the Internet using the monikers “Pirate” and “pirateat40.”  Shavers raised at least 700,000 Bitcoin in BTCST investments, which amounted to more than $4.5 million based on the average price of Bitcoin in 2011 and 2012 when the investments were offered and sold.  Today the value of 700,000 Bitcoin exceeds $60 million.

According to the SEC’s complaint, Shavers promised investors up to 7 percent weekly interest based on BTCST’s Bitcoin market arbitrage activity, which supposedly included selling to individuals who wished to buy Bitcoin “off the radar” in quick fashion or large quantities.  In reality, BTCST was a sham and a Ponzi scheme in which Shavers used Bitcoin from new investors to make purported interest payments and cover investor withdrawals on outstanding BTCST investments.  Shavers also diverted investors’ Bitcoin for day trading in his account on a Bitcoin currency exchange, and exchanged investors’ Bitcoin for U.S. dollars to pay his personal expenses.

The SEC alleged that Shavers sold BTCST investments over the Internet to investors in such states as Connecticut, Hawaii, Illinois, Louisiana, Massachusetts, North Carolina, and Pennsylvania.  Shavers posted general solicitations on a website dedicated to Bitcoin discussions, and he misled investors with such false assurances about his investment opportunity as “It’s growing, it’s growing!” and “I have yet to come close to taking a loss on any deal,” and “risk is almost 0.”  Contrary to the representations made to investors, BTCST was not in the business of buying and selling Bitcoin at all.

The SEC’s complaint charged Shavers and BTCST with offering and selling investments in violation of the anti-fraud and registration provisions of the securities laws, specifically Sections 5(a), 5(c) and 17(a) of the Securities Act of 1933, Section 10(b) of the Securities Exchange Act of 1934 and Exchange Act Rule 10b-5.  The SEC is seeking a court order to freeze the assets of Shavers and BTCST in addition to other relief, including permanent injunctions, disgorgement of ill-gotten gains with prejudgment interest, and financial penalties.

FINRA Disciplinary Action Against LPL Financial LLC

Posted byDavid Weintraub

In July 2013, LPL Financial LLC submitted a Letter of Acceptance, Waiver and Consent in which the firm agreed to be censured and fined $60,000. Without admitting or denying the findings, the firm consented to the described sanctions and to the entry of findings that it purchased municipal securities for its own account from customers and/or sold municipal securities for its own account to customers at an aggregate price (including any commission or service charge) that was not fair and reasonable, taking into consideration all relevant factors, including the best judgment of the broker, dealer or municipal securities dealer as to the fair market value of the securities at the time of the transaction and of any securities exchanged or traded in connection with the transaction; the expense involved in effecting the transaction; the fact that the broker, dealer, or municipal securities dealer is entitled to a profit; and the total dollar amount of the transaction.

According to FINRA, the firm failed to use reasonable diligence to ascertain the best inter-dealer market, and failed to buy or sell in such market so that the resultant price to its customer was as favorable as possible under prevailing market conditions. The findings also stated that the firm submitted evidence that it made restitution to each of the affected customers.  Because of the evidence submitted by LPL, it is unlikely that the customers initiated FINRA arbitrations, or any other type of securities arbitration.

SEC Obtains $13.9 Million Penalty Against Rajat Gupta

Posted byDavid Weintraub

On July 17, 2013, the SEC obtained a $13.9 million penalty against former Goldman Sachs board member Rajat K. Gupta for illegally tipping corporate secrets to former hedge fund manager Raj Rajaratnam.  Gupta also is permanently barred from serving as an officer or director of a public company.

The SEC previously obtained a record $92.8 million penalty against Rajaratnam for prior insider trading charges.

In the complaint filed in late 2011, the SEC alleged that Gupta disclosed confidential information to Rajaratnam about Berkshire Hathaway Inc.’s $5 billion investment in Goldman Sachs as well as nonpublic details about Goldman Sachs’ financial results for the second and fourth quarters of 2008.

In addition to imposing the financial penalty, the order issued by the Honorable Jed S. Rakoff of the U.S. District Court for the Southern District of New York enjoins Gupta from future violations of the securities laws, and permanently bars him from acting as an officer or director of a public company and from associating with any broker, dealer, or investment adviser.

In a parallel criminal case arising out of the same facts, the SEC provided significant assistance to the U.S. Attorney’s Office for the Southern District of New York in its successful criminal prosecution of Gupta, who was found guilty on June 15, 2012, of one count of conspiracy to commit securities fraud and three counts of securities fraud.  Following the jury verdict, Gupta was sentenced on Oct. 24, 2012, to a term of imprisonment of two years followed by one year of supervised release, and ordered to pay a $5 million criminal fine.

FINRA Disciplinary Action Against StockCross Financial Services, Inc.

Posted byDavid Weintraub

In July 2013, FINRA announced that StockCross Financial Services, Inc.  submitted a Letter of Acceptance, Waiver and Consent in which the firm agreed to be censured, fined $20,000 and required to pay $6,781.40, plus interest, in restitution to customers. Without admitting or denying the findings, the firm  consented to the described sanctions and to the entry of findings that it sold (bought) corporate bonds to (from) customers and failed to sell (buy) such bonds at a price that was fair, taking into consideration all relevant circumstances, including market conditions with respect to each bond at the time of the transaction, the expense involved and that the firm was entitled to a profit.  The markdowns at issue were below 4%, and the mark-ups at issue were between 2.26% and 5.26%.  It was unclear whether the customers initiated FINRA arbitrations, or any other type of securities arbitration.

SEC Halts Texas-Based Forex Trading Scheme

Posted byDavid Weintraub

On July 12, 2013, the SEC announced an emergency asset freeze against an unregistered money manager and his companies in Plano, Texas, who are charged with defrauding investors in a foreign currency exchange trading scheme.

The forex market is a large and generally liquid financial market in which the risk of loss for individual investors can be substantial. The SEC has previously warned individual investors about the risks involved with forex trading.

The SEC alleged that Kevin G. White raised more than $7.1 million from investors by touting a sophisticated low-risk forex trading strategy yielding astronomical returns. He advertised his purported “25-year Wall Street career.” In reality, the forex trading has incurred losses of investor funds, and White actually spent only six years as a licensed securities professional in Houston before being barred by the New York Stock Exchange two decades ago. White also lied about his education. Meanwhile, White has siphoned away more than $1.7 million of investor money to pay personal expenses, finance expensive trips, and fund other unrelated and undisclosed businesses and investments.

The Commodity Futures Trading Commission (CFTC) also announced on July 12th parallel charges against White and his companies.

According to the SEC’s complaint that was unsealed in the U.S. District Court of the Eastern District of Texas, White raised investor money through two entities that he owns and controls: KGW Capital Management and Revelation Forex Fund. KGW Capital purports to be “one of the world’s leading private investment firms.”

The SEC alleged that White and his companies used websites, press releases, and presentations to prospective investors to solicit funds. White and his companies told investors that Revelation Forex was a $1 billion hedge fund that had achieved total returns of more than 393 percent since its January 2009 inception, and earned a compound annual rate of return of more than 36 percent. Marketing materials provided to prospective investors boasted that an initial investment of $250,000 in Revelation Forex in January 2009 would have grown to $983,111 by May 2013.

According to the SEC’s complaint, all of the claims were false. While White and KGW Capital tout a track record for the fund that began in January 2009, Revelation Forex did not actually receive investor funds or begin forex trading until September 2011. The fund has since incurred realized trading losses of more than $550,000 plus approximately $1,419,600 in unrealized losses through May 31, 2013. Meanwhile, bank records reveal that White has taken more than $1.7 million for himself, KGW Capital, and two of his other businesses, including approximately $248,600 in investor funds from Revelation Forex to fund an unrelated and undisclosed propane business and $97,000 on another business entitled KGW Real Estate. The SEC’s complaint named both of these companies as relief defendants for the purpose of seeking disgorgement of investor funds in their possession.

The court has granted the SEC’s request for an asset freeze and temporary restraining order against White, KGW Capital, Revelation Forex, and RFF GP LLC, which is the general partner of Revelation Forex. A hearing has been scheduled for July 18, 2013, on the SEC’s motion for a preliminary injunction.

The SEC’s complaint alleged that White, KGW Capital, Revelation Forex, and RFF violated Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5. The SEC is seeking disgorgement of ill-gotten gains with prejudgment interest and financial penalties as well as preliminary and permanent injunctions.

FINRA Disciplinary Action Against VSR Financial Services, Inc. and Donald Joseph Beary

Posted byDavid Weintraub

In July 2013, FINRA reported that VSR Financial Services, Inc. and Donald Joseph Beary submitted a Letter of Acceptance,Waiver and Consent in which the firm agreed to be censured and fined $550,000. Beary was fined $10,000 and suspended from association with any FINRA member in any principal capacity for 45 days. Without admitting or denying the findings, the firm and Beary consented to the described sanctions and to the entry of findings that the firm failed to establish, maintain and enforce a reasonable supervisory system regarding the sale of non-conventional investments. The findings stated that the firm’s WSPs provided that no more than 40 percent to 50 percent of a client’s exclusive net worth could be invested cumulatively in alternative investments unless there was a substantial reason to exceed the guidelines and that justification was well documented. Supplemental to these procedures, the firm, through Beary, created additional procedures that applied a discount to certain non-conventional instruments, reducing the percentage of a customer’s liquid net worth invested. The findings also stated that as the direct participation principal, Beary had responsibility for the implementation and supervision of the discount program. The Securities and Exchange Commission (SEC) identified as a deficiency, in a letter to the firm, that it did not have adequate written procedures relating to the discount program.  The SEC made the same finding two years later regarding the lack of WSPs relating to the discount program. Despite these warnings from the SEC, Beary did not take reasonable steps to implement WSPs or to otherwise discontinue the use of the discount program.

The findings also included that in addition to the 40 percent to 50 percent concentration limit stated in the firm’s WSPs, the firm’s new account form asked each client to specify the percentage of liquid net worth that the client would be comfortable investing in various risk categories. Most alternative investment program sponsors identified their products involving, at a minimum, a high degree of risk. The firm also assigned a risk category to each alternative investment it sold. Rather than assign a risk category based upon the risk level identified by the sponsor in the alternative investment offering documents, the firm routinely assigned lower risk categories. In several instances, the firm lowered its internal risk rating subsequent to the firm’s acceptance of the product. In spite of the firm’s efforts to increase sales of alternative investments through the use of discounts and risk rating reductions, customer investments still exceeded the 40 percent concentration guideline, but the firm did not document the existence of a substantial reason to exceed the concentration guidelines as required by its WSPs.

FINRA found that the firm failed to establish, maintain and enforce a reasonable supervisory system regarding the use of consolidated reports. The firm’s WSPs regarding consolidated statements were limited to a few memoranda issued to registered representatives prior to the issuance of FINRA Regulatory Notice 10-19. In practice, for six years, the firm’s registered representatives used a number of consolidated reporting systems. The firm did not require pre-approval of the consolidated reports to determine whether accurate pricing and disclosures were being used. The firm did not have a system for prompt review of the consolidated reports after the reports were sent to Disciplinary and Other FINRA Actions 3 customers. Given the fact that the firm allowed its registered representatives to enter valuations manually, the firm’s lack of supervision of the consolidated reports was unreasonable. FINRA also found that the firm, acting through a registered representative, recommended and effected the sale of high-risk private placements to customers. While these products may have been suitable for certain customers, they were not suitable for these customers given their financial circumstances and condition. The firm earned approximately $35,950 in commissions on the transactions. The firm, through another registered representative, made recommendations to customers that were not suitable given their moderate risk tolerance and specifications, and the firm earned commissions on the transactions of approximately $483,077.38. In addition, FINRA determined that the firm failed to reasonably supervise its representatives with respect to the unsuitable transactions. One of several firm principals reviewed and approved the transactions of one of these representatives, and each of the principals failed to detect or investigate “red flags” regarding the transactions. This representative falsified the account documentation for customers, but the firm did not detect or investigate any of the representatives’ falsification of documents or other red flags. Detection and investigation of any of these red flags might have prevented the representative’s unsuitable recommendations and the resulting loss of the customers’ funds. Moreover, FINRA found that the firm allowed its registered representatives to send consolidated statements to their customers but never reviewed the consolidated statements a representative sent to some customers to determine whether he was following the firm’s procedures regarding pricing. Because of the inaccurate pricing the representative used, and the firm’s lack of supervision, these customers received statements with erroneous pricing information. It was unclear whether the customers initiated FINRA arbitrations, or any other type of securities arbitration.