Articles Posted in FINRA Arbitration

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Recently, the Financial Industry Regulatory Authority (“FINRA”) has devoted significant regulatory oversight to one financial product that is rife with potential for abuse: the variable annuity (“VA”).
As a general rule, annuities are treated as insurance products.  Accordingly, annuities are subject to regulation at the State level.  Specifically, each State maintains a guarantee fund that will act as a backstop to annuity policies, up to a certain dollar amount, in the event that an insurance carrier experiences insolvency or similar inability to honor its financial obligations.  Additionally, each State has its own insurance commissioner, an individual responsible for overseeing all annuity business within that State.  Fixed annuities, fixed indexed annuities, single premium immediate annuities, and longevity annuities (a/k/a deferred income annuities) are all regulated at the State level.

VAs are also monitored at the State level.  However, because VAs are considered a hybrid insurance / security product, they receive additional scrutiny and regulatory oversight at the federal level.  As investment products, VAs are subject to monitoring by both the Securities and Exchange Commission (“SEC”), as well as the Financial Industry Regulatory Authority (“FINRA”).

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Investors in VGTel, Inc. (“VGTel”) (OTC PINK: VGTL) may be able to recover their losses through initiating a securities arbitration proceeding with the Financial Industry Regulatory Authority (“FINRA”) if they were sold VGTel shares via misrepresentations or if a stockbroker or financial advisor made an unsuitable recommendation to purchase VGTel shares.
VGTel has been the subject of a recent SEC Complaint in the Southern District of New York (as of January 2016).  Specifically, the SEC has alleged that, from 2012-2014, Mr. Edward Durante defrauded at least fifty unsophisticated investors in New England, Ohio and California of at least $11 million through the sale of VGTel securities.  The Complaint alleges that Durante essentially controlled VGTel (which was little more than a shell company), and in furtherance of a fraudulent scheme, sold approximately six million shares of VGTel stock using several false names, including ‘Efran Eisenberg’ and ‘Ted Wise.’  Further, the SEC Complaint alleges that Mr. Durante bribed certain financial advisors in order to encourage these brokers to steer their clients into purchasing VGTel stock.

FINRA rules mandate that member firms implement and act upon reasonable safeguards and compliance programs designed to ensure proper supervision of a broker’s activities during the time a broker is associated with that particular brokerage firm.  Accordingly, a brokerage firm that fails to properly supervise its registered representatives may well be liable for investment losses sustained due to the malfeasance or misconduct of certain brokers.

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Summit Healthcare REIT Inc. (“Summit”), a publicly registered non-traded real estate investment trust, has recommended to shareholders that they reject a third-party tender offer by MacKenzie Realty Capital to purchase shares for $1.34 a share.  The REIT estimates its net asset value per share as $2.53, and therefore says that the $1.34 a share offer is lower than fair value.  Summit’s most recent estimated net asset value per share is $2.53, as of December 31, 2016.
As a publicly registered non-traded real estate investment trust (“REIT”), Summit was permitted to sell securities to the investing public at large, including numerous unsophisticated investors who bought shares   upon the recommendation of a broker or financial advisor.  Unfortunately for many non-traded REIT investors, they may not have been properly informed by their financial advisor or broker of the complexities and risks associated with investing in non-traded REITs.

One of the more readily-apparent investment risks with non-traded REITs are their high up-front commissions (usually at least 7-10%), in addition to certain due diligence and administrative fees (that can range anywhere from 1-3%).  These fees act as an immediate ‘drag’ on any investment and can compound losses.  Further, another significant and less readily-apparent risk associated with non-traded REITs has to do with liquidity.  Unlike traditional stocks and certain publicly- traded REITs, non-traded REITs do not trade on a national securities exchange, leaving investors with limited options if they wish to sell their shares after the initial purchase- especially if the issuer is not redeeming shares.

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On July 16, 2017, the Wall Street Journal published an article – From $2 Billion to Zero: A Private-Equity Fund Goes Bust in the Oil Patch – discussing the financial distress besetting Houston based EnerVest Ltd. (“EnerVest”), a private equity firm focused on energy investments.  Essentially, the article discussed how falling oil prices (to a then current price of $45 per barrel of crude) had worked against the fund managers at EnerVest, who had borrowed heavily to invest in oil and gas wells before the recent collapse in energy prices.
According to recent reports, several of EverVest’s energy funds employed leverage to purchase oil and gas wells when crude process were much higher.  As a result, investors in those funds will undoubtedly suffer significant losses on their investments.  Further, recent reports have suggested that EnerVest fund managers have engaged in discussions to recapitalize or otherwise sell assets (presumably at firesale prices) from the $1.5 billion EnerVest Energy Institutional Fund XII, which closed in 2010, as well as the $2 billion EnerVest Institutional Fund XIII, which closed in 2013.

In the way of brief background, EnerVest is a private-equity firm that focuses on energy investments, claiming to operate more U.S. oil and gas wells than any other company operating in that space.  EnerVest began raising investor capital in 2013 when oil and gas was trading at an average price of $90 per barrel; since that time, energy prices have collapsed, with crude currently trading around $50 per barrel (as of October 2017).

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Oil and gas private placements use some of investors’ money to drill and operate oil and gas wells. Oil and gas DPPs are sponsored and managed either by investment companies or oil and gas exploration companies, each of which may suffer from its own conflicts of interests in structuring the investments due to the very high fees and commissions associated with such investments.
Brokerage firms that sell private placements must conduct due diligence on the investment before recommending it to their clients.  The due diligence rule stems from FINRA Rule 2310 the so-called suitability rule, which requires that a brokerage firm must have reasonable grounds to believe that a recommendation to purchase a security is suitable for the customer.   This principle is further explained in National Association of Securities Dealers Notice to Members 03-71, which elaborates that a brokerage firm must perform significant due diligence before recommending a private placement investment to any customer(s).  By  recommending a security to customers, the brokerage firm effectively represents that a reasonable investigation of the merits of the investment has been made.

The following private placements could give rise to an arbitration claim against a stockbroker or financial advisor if the recommendation to purchase them lacked a reasonable basis, or if the investments were sold based on misrepresentations or omissions of material fact:

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The Financial Industry Regulatory Authority (FINRA) has filed two recent enforcement actions that may signal a crackdown on variable annuity (VA) misconduct this year, continuing a 2016 trend of high fines related to VA sales in 2016.
In the first disciplinary proceeding, FINRA reportedly suspended broker Cecil E. Nivens for two years and ordered the broker disgorge nearly $186,000 in commissions for causing “considerable monetary harm” to customers related to VA exchanges.  According to FINRA filings, while working for New York Life, Mr. Nivens allegedly made unsuitable recommendations that several of his clients purchase variable universal life insurance policies, also known as VULs, using use the proceeds of annuities that they already owned.   According to the allegations, Mr. Nivens also failed to follow certain technical requirements of Section 1035 of the Internal Revenue Code (IRC) that allows people to transfer funds from one life insurance policy or annuity to a new policy without incurring a tax penalty, resulting in substantial negative tax implications for his customers.

In the second disciplinary proceeding, filed Oct. 6, FINRA charged former Legend Equities broker Walter Joseph Marino with recommending unsuitable variable annuity replacements that benefitted him to the tune of $60,000 in commissions while his customers—including a 78-year-old retired widow—suffered financial harm, including incurring surrender charges and tax liabilities, due to the unsuitable recommendations.  The FINRA complaint alleges that Marino recommended that two customers replace their non-qualified variable annuities (VAs) issued by Jackson National Life and The Variable Annuity Life Insurance Company, resulting in unnecessary surrender charges and commissions.   FINRA alleges that Marino also failed to utilize a 1035 exchange that would have saved his clients substantial taxes, and pocketed $60,000 in commissions while causing substantial financial harm to his customers.

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Recently, the North American Securities Administrators Association (“NASAA”) released a timely survey entitled ‘Seniors & Financial Exploitation’ (the “Survey”).  The Survey, which was conducted among NASAA’s membership of 67 state, provincial and territorial securities administrators in all 50 States, as well as the District of Columbia and Puerto Rico, in addition to the U.S. Virgin Islands, Canada and Mexico, asked a number of pertinent questions surrounding the issue of elder financial abuse and senior investor exploitation.

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With respect to the Survey, 36 regulators from member organizations provided formal responses.  Among the Survey data gathered from the Respondents were the following questions and answers:

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Business Development Corporation of America (“BDCA”) is a non-traded business development company headquartered in New York, New York.  As a business development company (“BDC”), BDCA focuses on providing flexible financing solutions to various middle market companies (e.g., BDCA extended a second lien term loan in August 2016 to the well-known “fast casual” restaurant chain, Boston Market).

BDCs are not a new investment product, having been around since the early 1980’s (in 1980, the U.S. Congress enacted legislation making certain amendments to federal securities laws allowing for BDC’s — types of closed end funds — to make investments in developing companies and firms).  Many brokers and financial advisors have recommended BDCs as investment vehicles to their clientele, touting the opportunity for retail investors to participate in private-equity-type investing through BDCs, as well as their typically outsized dividend yield.

Non-traded BDCs, as their name implies, do not trade on a national securities exchange, and are therefore illiquid products that are hard to sell (investors can typically only sell their shares through redemption with the issuer, or through a fragmented and illiquid secondary market).  In addition, non-traded BDCs such as BDCA have high up-front fees (typically as high as 10%), which are apportioned to the broker, his or her broker-dealer, and the wholesale broker or manager.

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Recently, the Securities and Exchange Commission (“SEC”) initiated an action against 40-year old Leon Vaccarelli by filing a sixteen-page complaint (“SEC Complaint”) in federal court in New Haven, CT.  The SEC is alleging that Mr. Vaccarelli, based in Waterbury, CT, engaged in operating a Ponzi Scheme for more than four years, during which time he allegedly misappropriated client funds.  The SEC Complaint alleges that Vaccarelli diverted client money from investment accounts, as promised, and instead used the funds for such personal expenses as mortgage payments.  Moreover, the SEC Complaint alleges that Mr. Vaccarelli used client funds in order to make payments to earlier investors, a hallmark sign of a Ponzi scheme.


A review of FINRA’s BrokerCheck indicates that Leon (or Lee) William Vaccarelli (CRD# 3227636) entered the securities industry in 1999.  Since that time, Mr. Vaccarelli has been affiliated with the following firms: Ameriprise Financial Services, Inc. (CRD# 6363) (1999-2007), QA3 Financial Corp. (CRD# 14754) (2007-2011), and most recently — The Investment Center (CRD# 17839) (2011-2017).

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Investors who have suffered losses due to the recommendation of a stockbroker or financial advisor to invest in the hedge fund Astenbeck Master Commodities Fund II (“Astenbeck II”) may be able to recover losses through FINRA arbitration if the investment recommendation was unsuitable, or the nature of the investment was misrepresented by the advisor.
According to reports by Bloomberg, Astenbeck II posted large losses through the first half of 2017.  In fact, in June 2017 alone, the hedge fund plummeted nearly 30% as reported by Bloomberg.  Consequently, Astenbeck Capital Management decided to pull the plug and shut down Astenbeck II, the main hedge fund vehicle under the Astenbeck Capital Management umbrella.

Astenbeck II appears to have suffered losses part due to a heavy “long” position in crude oil.  Unfortunately for investors, crude oil has not recovered from the prices of over $100 per barrel of crude as seen in 2014.  In fact, as of early October 2017, the price of a barrel of West Texas Intermediate (“WTI”) crude oil continues to hover around $50.

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