For brokers, investment advisors, firm managers, and corporate insiders, the risk of being targeted in a securities fraud lawsuit is one that needs to be taken very seriously. Most investment professionals and company executives put their client’s and company’s best interests first. However, a rash of high-profile fraud cases has led to investors and shareholders pursuing fraud claims with increasing frequency. Even if you may have done nothing wrong, and even though the plaintiff has the burden of proof facing allegations of securities fraud can be damaging in itself. Avoiding long-term reputational harm requires a strategic defense.
Understanding Securities Fraud
“Securities fraud” is a broad term that encompasses a wide range of criminal offenses and civil claims. The securities market is supposed to be transparent, and federal authorities and regulators have established strong protections for individual investors who are susceptible to overreaching and the exercise of undue influence. As a result, while investment professionals and corporate insiders can face criminal prosecution, civil enforcement action by federal agencies such as the SEC and CFTC, and administrative penalties from bodies such as the Financial Industry Regulatory Authority (FINRA) they can also face private civil litigation (or FINRA arbitration) initiated by individual investors.
10 Common Securities Fraud Allegations
In civil securities fraud litigation, investors will typically assert a laundry list of claims. While the specific claims in any particular case will depend upon the defendant’s relationship with the investor (or lack thereof) and the specific type of security involved, common allegations include:
1. Breach of Fiduciary Duty
Corporate insiders and investment advisors owe certain fiduciary duties to their shareholders and clients. This means, in broad terms, that they must act with these individuals’ best interests in mind. Engaging in transactions that provide a personal benefit while causing financial harm to investors (conflict-of-interest transactions) are among the most common examples of a fiduciary violation. This is a standard allegation in civil securities fraud complaints.
Churning refers to the practice of engaging in an excessive number of trades on an investor’s account in order to rack up commissions. In churning litigation, investors will argue that their advisors are making investment decisions not based on the investor’s risk tolerances and portfolio strategies, but instead based on a desire to profit personally. Of course, there are various other explanations for higher-than-normal trading volume on an investor’s account, and advisors will often have a litany of defenses available.
3. Excessive Risk
Excessive risk is another common allegation against brokers and advisors. If an investment product inherently carries above-normal risk, or if a particular investment falls outside of an investor’s risk profile, buying the security (and then losing money) can trigger a claim for excessive risk.
4. Insider Trading
Insider trading became a household phrase in the early 2000s. Since then, we have continued to see a large number of civil cases accusing corporate executives, board members, and advisors of profiting off of their access to material and non-public information. Insider trading allegations can often create significant exposure, and they may trigger federal enforcement action as well.
Lack of diversification, or overconcentration, can lead to securities fraud claims against brokers, advisors, and advisory firms where the concentration of an investor’s portfolio leads to substantial losses. This includes overconcentration in a particular security, in a particular class of securities, or even in a particular market sector. Recently, many overconcentration claims have involved investment losses in oil and gas securities, and Puerto Rico municipal bonds and bond funds.
6. Ponzi Schemes
The Ponzi schemes that make for good movie plots only partially reflect the realities of what brokers and advisors need to know. While there have been some indications of “boiler rooms” making a comeback, it takes far less to face Ponzi scheme allegations; and allegations involving multi-billion-dollar schemes such as those proven against Bernie Madoff are the exception rather than the norm.
7. Sales Practice Violations
FINRA defines a sales practice violation as, “any conduct directed at or involving a customer which would constitute a violation of any rules for which a person could be disciplined by any self-regulatory organization; any provision of the Securities Exchange Act of 1934; or any state statute prohibiting fraudulent conduct in connection with the offer, sale, or purchase of a security or in connection with the rendering of investment advice.” In other words, any violation of any rule or regulation governing professional investment advisors can lead to civil action in FINRA arbitration.
8. Unauthorized Trading
In many cases, investors will claim that they were not aware of trades being made on their behalf and that they never would have approved the trades had they been made aware. While this can be a legitimate allegation in some circumstances, (i) with 24/7 access to online accounts, it is difficult for attuned investors to claim that they had no reason to know about trades in their portfolios; and, (ii) many investors do understand the concepts of “discretion” and “trading authorization.”
Generally speaking, brokers and investment advisors must always make investment recommendations that are “suitable” to their client’s risk profiles and investment portfolios. Unsuitable investment advice claims will often include allegations of excessive risk, overconcentration, unauthorized trading, and other forms of securities fraud.
10. Withholding Material Information
Corporate insiders are not the only ones who can face civil litigation for allegedly monopolizing information about a security. Brokers, advisors, and advisory firms regularly face litigation based on allegations that they have withheld material information from investors.
This list is not exhaustive, and there are obviously far more details that must be considered when evaluating shareholder’s and investor’s allegations of securities fraud. If you have been sued or are concerned about potential securities fraud litigation, we encourage you to contact us for a complimentary consultation.
Speak with a Securities Fraud Litigation Attorney at The Criminal Defense Firm
To discuss your securities fraud case in confidence, please call (888) 452-2503 or contact us online. With 11 office locations around the country, we represent individuals and corporate entities in civil and criminal matters nationwide.
Brian Kuester offers his extensive experience to counsel companies and individuals under civil or criminal government investigation. When resolution requires litigation, clients choose Mr. Kuester’s proven court and litigation experience.