Red Flags of Trade Churning in Investor Accounts
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As reported in InvestmentNews, three Raymond James entities have agreed to pay over $15 million to resolve an investigation by the SEC. The settlement and SEC order focused on Raymond James’s actions in improperly charging certain clients advisory fees when the...read more
Trade churning occurs when brokers trade excessively within client accounts for the purpose of generating commission. To determine whether trading frequency was excessive, it must be shown that a broker or firm had the power and authority to exercise control over financial decisions in an investor’s account. This can be indicated through proof of a formal written discretionary agreement or by showing that a broker had de facto control or made unauthorized trades in a non-discretionary brokerage account. Brokers have a duty to honestly disclose all material information regarding potential investment opportunities to their clients. They also have a duty to make suitable recommendations based on their clients’ investment profiles. The practice of breaching these duties is unethical, and investors could incur great financial loss as a result. If you believe that you have been a victim of excessive trading, contact a trade churning attorney at Epperson & Greenidge and discuss what your legal options are going forward.
Be Wary of Frequent Trading
There is no definitive rule that draws the line where trading becomes “excessive” enough to warrant a Securities Exchange Commission violation. A client will succeed on a trade churning claim in FINRA arbitration if he or she proves:
- The broker or firm was in control of the transactions;
- The trading within an investor’s account was excessive; and
- The broker acted with reckless disregard of the client’s interests or had the intent to defraud the client.
If you notice frequent in-and-out purchases in your investment account, this could be a sign that your broker has engaged in excessive trading. Similarly, if you notice that your broker has engaged in transactions that are not conducive to your investment profile and overall risk tolerance, this could also be a red flag.
Unauthorized Trading of Securities
Every broker-investor relationship is different, and the liberality you provide an investor for making trades on your behalf without permission is based on personal preference. Brokers are authorized to make trades within investors’ accounts without permission when they are provided with “trading authorization” forms. Typically, investors may choose between full authorization and limited authorization. Limited authorization restricts brokers from withdrawing funds from investors’ accounts. Brokers can be held liable for financial losses that clients incur due to unauthorized or unsuitable trades. Examples of unauthorized trades are:
- Trade was made outside the scope of the trading authorization provision
- Trade was unsuitable based upon investor’s risk tolerance and investor profile
- Trade was not executed within the time period or in the manner that was authorized by the investor
- Trade was made without the investor’s approval and it was not consistent with his or her incentives and objectives
It is important for investors to check their accounts frequently to ensure that unauthorized trades are not being made. If you find that there are trades in your account which are beyond your scope of authorization, this could be evidence of trade churning and you should contact a securities fraud attorney right away.
Excessive Fees in Your Portfolio and High Turning Ratios
If you check your account and notice fees that appear higher than normal, or you are facing significant tax liabilities associated with your investments, this could be a sign that your broker has engaged in trade churning. Furthermore, if the market is in a growth period but your account value is declining, this is also a warning sign of excessive trading that may have taken place.
The turnover ratio can be indicative of trade churning in investor accounts. The turnover ratio is the total amount of purchases made in the account divided by the average monthly net assets in the account. That number is then divided by the number of months spent trading and then multiplied by twelve to annualize the data. Courts have found that for a conservative investor an annualized turnover rate of two suggests that churning may have taken place. A turnover rate of four is presumably churning, and if the turnover rate is 6 or more then it is almost indisputable that churning took place.
Trade Churning and FINRA Arbitration
To determine if trade churning took place in an investor account, a FINRA arbitration panel will first determine if a broker in fact had control over the transactions that took place in the account. Some of the factors that the panel will consider include:
- Investment experience
- Time investor devoted to independent research
- Percentage of solicited vs. unsolicited transactions
- Investor’s knowledge of strategy
- Level of investor sophistication
- Level of confidence and trust in broker
- Simultaneous positions with multiple brokerage firms
If a FINRA arbitration panel determines that the broker had control of an investor’s account, there are two standards that the panel will use to measure whether the transactions were excessive. The first standard consists of the following statistical measurements:
- Turnover ratio
- Cost ratio
The cost ratio is the measurement of costs incurred each year for the management of the brokerage account. This is calculated as a percentage of the account. The second standard that a panel will use is an analysis of the investor’s ability to appreciate the risks associated with the investment strategy as well as the investor’s overall level of sophistication.
Securities Trade Churning Lawyer
If you believe you have been a victim of trade churning, do not wait any longer to contact an attorney. Even if you made money through unethical trading practices, you may still be entitled to excessive commissions generated by your broker through unlawful trading practices. Call Dietrich P. Epperson, Esq. today at (877) 445-9261 and schedule a confidential consultation with a securities fraud attorney you can trust.