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BD Fined $2 Million for Under-Resourcing Compliance Monitoring

FINRA fined a large broker-dealer $2 Million for under-resourcing its compliance function, thereby allowing unlawful short-selling.  As the firm’s trading activity increased, the firm continued to rely on a primarily manual system to monitor compliance with Regulation SHO’s requirements.  The handful of employees tasked with monitoring trading requested more resources as their 12-hour workdays could not adequately surveil the activity of 700 registered representatives.  FINRA alleges that the firm routinely violated Regulation SHO by failing to timely close-out positions, illegally routing orders, and failing to issue required notices.  As part of the settlement, the broker-dealer also agreed to hire an independent compliance consultant.

OUR TAKE: Firms need to track business activity to ensure that compliance and operations infrastructure keep up with the business.  A good metric is whether the firm spends at least 5% of revenues on compliance infrastructure including people and technology. 

SEC Alleges Short Seller Disseminated False Negative Information

 

The SEC has commenced enforcement proceedings against a hedge fund manager for taking short positions in a public company and then engaging in a negative and public relations campaign to drive down the company’s stock price.  The hedge fund manager used interviews, social media and published research reports to make false claims about the company’s product and financial situation.  According to the SEC, the false negative information had the intended effect of lowering the company’s stock price, which fell 34% during his negative campaign.  The SEC charges violations of the anti-fraud rules.

OUR TAKE:  We suspect that many public companies are cheering this action because the SEC seeks to chill a short seller from disseminating negative information for financial gain.  In this case, the SEC maintains that the hedge fund made false factual statements.  This type of case will not help prevent negative opinions based on accurate facts.

Online Broker Fined $5.5 Million for Ignoring Short Sale Red Flags

FINRA fined a global online broker $5.5 Million for allowing naked short selling in violation of Regulation SHO despite red flags raised by FINRA as well as its own compliance and internal audit departments.  FINRA maintains that, over a three-year period, the BD did not timely close out fail-to-deliver positions, unlawfully routed short sale orders, and did not issue required client pre-borrow notices.  The firm’s Compliance Technology Department had advised senior management to fix systems that failed to account for segregation deficits.  The firm’s Internal Audit Department also highlighted deficiencies.  FINRA noted red flags in three consecutive examinations.

OUR TAKE: The regulators will react swiftly and harshly to a registrant that knows about compliance problems but appears to flout the requirements by failing to take remedial action.  When assessing compliance programs, senior executives should first ask whether the firm has addressed previously-identified deficiencies.