FINRA fines broker dealer $750,000
FINRA Hearing Panel Fines C.L. King & Associates $750,000 for Negligent Misrepresentations and Omissions in Connection with Death Put Investments and AML-Related Violations
The Financial Industry Regulatory Authority (FINRA) announced that a FINRA extended hearing panel censured Albany, NY-based broker-dealer C.L. King & Associates, Inc. and fined the firm $750,000 for negligently making material misrepresentations and omissions to issuers in connection with the firm’s redemptions of debt securities on behalf of a hedge fund customer. The hearing panel also found that C.L. King and its AML Compliance Officer, Respondent Gregg Alan Miller, who was suspended in a principal capacity for six months and fined $20,000, failed to establish and implement a reasonable AML program and failed to adequately respond to red flags related to the liquidation of billions of shares of penny stocks indicative of potentially suspicious activity by two customers. The decision resolves charges brought by FINRA’s Department of Enforcement in April 2016.
According to the hearing panel decision, the manager of the hedge fund opened joint accounts at C.L. King with terminally ill persons as joint tenants with rights of survivorship. The hedge fund’s strategy involved using the accounts to purchase discounted corporate bonds that contained a survivor option, or “death put.” The death put feature allowed the manager of the hedge fund, as the joint account’s survivor, to redeem the investments from issuers – through C.L. King –for the full principal amount before maturity upon the death of a joint tenant. The hedge fund paid terminally ill persons $10,000 to agree to open a joint account with the manager of the fund. The manager and fund obtained referrals to open joint accounts from a hospice in New Jersey. The hearing panel found that C.L. King had an obligation to disclose to issuers during the redemption process that terminally ill joint tenants were not in fact beneficial owners of the investments because the hedge fund required them to sign side agreements in which they agreed to give up their ownership rights to the assets in the joint accounts.
In addition, separate from C.L. King’s debt securities business, from 2009 to 2014, the firm sold billions of shares in penny stocks on behalf of two customers. One of the customers, a bank based in Liechtenstein, sold 41 million of shares of 40 penny stocks generating more than $4.8 million in proceeds and the other customer sold more than 11 billion shares in 138 stocks for proceeds of more than $14 million. The hearing panel found that C.L. King and Miller failed to tailor its AML program to the risks presented by its penny stock business and did not monitor the customers’ trading activity for red flags indicative of potential money laundering. Respondents ignored red flags that included, for example, the issuers whose stock the customers sold generated little or no revenue and they had little history of doing business. The stocks were often the subject of promotional activity on the Internet around the time the customers sold their shares. In some cases, promoters were paid for touting the stocks. The promotional activity was a red flag suggesting the possible existence of a pump-and-dump scheme. The two customers sometimes sold a large percentage of an issuer’s outstanding shares.
The hearing panel also found that the firm and Miller failed to conduct adequate due diligence into the trading activities of the Liechtenstein bank, a foreign financial institution as defined by the Bank Secrecy Act, which obligates firms to engage in a heightened assessment of the money laundering risks presented by such a customer.
Unless the hearing panel’s decision is appealed to FINRA’s National Adjudicatory Council (NAC), or is called for review by the NAC, the hearing panel’s decision becomes final after 45 days.