Florida Securities Fraud Lawyer Blog
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The United States Court of Appeals for the Eleventh Circuit recently held that “clawback actions brought by court-appointed receivers are not categorically exempt from the Federal Arbitration Act.”  Wiand v. Schneiderman, 2015 WL 525694 (C.A. 11 (Fla.)).  The appellate court affirmed the district court’s decision to decline to vacate an arbitration award in a clawback action.

The lower court case was one of approximately 150 clawback actions brought by the court-appointed receiver of six hedge funds involved in a Ponzi scheme orchestrated by Arthur Nadel.  The receiver initiated the clawback suits to recover “profits” received by an investor in Nadel’s Ponzi scheme so they could be redistributed among all the investors who lost money in the scheme.  Nadel, a former Florida fund manager was dubbed a “mini-Madoff” after admitting to defrauding investors out of $168 million in February 2010.  In October 2010 he was sentenced to 14 years in prison.  In 2012, Nadel died in prison at the age of 80.

The clawback action at issue was initiated in January 2010 in the U.S. District Court for the Middle District of Florida against the estate of Herbert Schneiderman.  Schneiderman invested $100,000 with Victory Fund, Ltd., one of the hedge funds connected with Nadel’s scheme.  Schneiderman received total payments from the fund in the amount of $263,660.  The receiver filed suit against Schneiderman’s estate to recover the fake “profits” of $163,660.  The estate moved to compel arbitration based on an arbitration provision contained in the Subscription Agreement and Limited Partnership Agreement between Schneiderman and the Victory Fund.  The district court granted the motion to compel arbitration.  The parties agreed to arbitrate before the American Arbitration Association (“AAA”). Thereafter, the AAA arbitrator granted the summary judgment motion filed by Schneiderman’s estate and entered a Final Order and Award dismissing the receiver’s claims as barred by the Florida probate statutes.  In addition, the arbitrator denied the receiver’s motion declaring the agreement containing the arbitration provision void.   Subsequently, the receiver moved to vacate the Award which was also denied.

In his appeal of the denial of the motion to vacate, the receiver argued that: 1) the receivership statutes creating his position preclude the use of arbitration in clawback actions; 2) the contract containing the arbitration provision is void; 3) the district court erred in sending all of the claims to arbitration, even those with entities with which the investor had no agreement whatsoever; and 4) the arbitrator exceeded his powers.

The Court of Appeals found all of the receiver’s arguments to be flawed and affirmed the judgment of the district court.   The Court of Appeal’s full decision in Wiand may be read here.

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According to the Department of Justice, rating agency Standard & Poor’s Financial Services, LLC (“S&P) and its parent company McGraw Hill Financial, Inc. have agreed to settle multiple lawsuits brought by the federal government, 19 states, and the District of Columbia concerning ratings S&P gave to certain mortgage securities just before the 2008 financial meltdown.  The press release issued by the Justice Department said the ratings at issue were given to residential mortgage-backed securities (“RMBS”) and collateralized debt obligations (“CDOs”) during the period 2004 to 2007.  RMBS are created when a bank or other financial institution pools together mortgage loans. CDOs pool together cash flow-generating assets and repackages this asset pool into discrete tranches that can be sold to investors.

The lawsuit filed by the Justice Department in 2013 alleged that S&P had engaged in a scheme to defraud investors by knowingly inflating the credit ratings it gave to RMBS and CDOs which resulted in substantial losses to investors and ultimately contributed to the worst financial crisis since the Great Depression .  The government claimed that S&P’s rating decisions were based, in part, on its business concerns, rather than independent and objective as they were required to be.   Reportedly, lawsuits filed by Arizona, Arkansas, California, Connecticut, Colorado, Delaware, Idaho, Illinois, Indiana, Iowa, Maine, Mississippi, Missouri, New Jersey, North Carolina, Pennsylvania, South Carolina, Tennessee, Washington, and the District of Columbia contained similar allegations.

As a part of the settlement, S&P agreed to a statement of facts that contained an admission by S&P that its ratings for CDOs were partially made based on the effect they would have on S&P’s business relationship with issuers.  It also admitted that, despite knowledge within the S&P organization in 2007 that many loans in RMBS transactions it was rating were delinquent and losses were probable, it continued to issue and confirm positive ratings.

S&P agreed to pay $1.375 billion to settle the allegations by the federal government, 19 states, and the District of Columbia.  Of that, $687.5 million will be paid to the federal government as a penalty.  The remaining $687.5 million will be shared by the 19 states and the District of Columbia in an allocation agreed to by the states.   It is the largest penalty of its type ever paid by a ratings agency.

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According to Regulatory Notice 14-49 (“RN 14-49”) issued by the Financial Industry Regulatory Authority (“FINRA”), FINRA is increasing the pay for arbitrators assigned to hear FINRA cases and passing the costs of the increase on to the parties.  The new rule applies to all cases filed on or after December 15, 2014, it is not retroactive.

FINRA states that the arbitrator pay increase will be funded through higher surcharges and processing fees assessed to FINRA member firms, as well as, an increase in the claim filing fees paid by investors, FINRA member firms, and associated persons of FINRA member firms who initiate claims seeking more than $500,000 in damages or an unspecified amount of damages.  In addition, the per session cost of hearings with three arbitrators in claims of more than $500,000 will also be raised.

Currently, the honoraria paid to FINRA arbitrators is $200 for each hearing session in which the arbitrator participates, either by telephone or in-person.  One hearing session is any hearing lasting up to 4 hours.  Therefore, a full day of hearings lasting 8 hours is considered by FINRA to be 2 sessions. Under the new rule, the arbitrators will be paid $300 for each hearing session or $600 for a full day consisting of 2 sessions.  In addition, the Chairperson of the arbitration panel will be paid an additional $125 per day, up from the current $75 per day.  The pay for deciding a simplified case in which no hearings are conducted has also been increased from $125 to $350.

In order to fund the honoraria increase, RN 14-49 indicates that the surcharge and process fees assessed against FINRA members only will increase in cases seeking damages over $250,000.  Member firms currently pay a pre-hearing process fee and a hearing process fee.  The amended rule combines both into one processing fee that will be due at the time the parties are sent the arbitrator lists.

All FINRA claimants, regardless of type, will pay an increased claim filing fee for all cases over $500,000 or with an unspecified amount of damages.  Each hearing session fee, which is based on the non-refundable portion of the claim filing fee, will also increase as a result.

The new fees will not apply to cases filed prior to December 15, 2014.

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According to his BrokerCheck Report, Jeffrey Brian Grove of Melbourne, Florida has been permanently barred from the financial services industry by the Financial Industry Regulatory Authority (“FINRA”).   According to FINRA, Grove was employed as a registered representative at the Melbourne, Florida branch office of Charles Schwab & Co., Inc. from 1999 until he was terminated on August 29, 2014.   According to his Central Registration Depository (“CRD”) report maintained by FINRA, at the time he was terminated, Grove held securities licenses 7, 9, 10 and 63.  On September 25, 2014, Schwab reported to FINRA that the firm discharged Grove on August 29, 2014 for allegedly purchasing unauthorized office equipment through Schwab’s corporate procurement system then re-selling the equipment to other third party individuals and pocketing the sale proceeds.   At the time of his termination, Grove handled approximately 250 customer accounts according to Schwab.

On November 17, 2014, a Letter of Acceptance, Waiver and Consent (“AWC”) was entered into by Grove and FINRA.  Grove neither admitted nor denied the findings set forth in the AWC.  According to the AWC, between February and August 2014, Grove submitted orders for office equipment for his branch office through Schwab’s equipment procurement system which were automatically approved by Schwab upon purchase.  The AWC reflects that, in reality, the equipment was taken from Grove’s office and sold to unknown third party individuals for approximately $1 million.  FINRA alleged that Grove then converted the sale proceeds to his own personal use and benefit.  According to FINRA, the conversion of funds was a violation of FINRA Rule 2010 which states “a member, in the conduct of its business, shall observe high standards of commercial honor and just and equitable principles of trade.”

In the AWC, Grove agreed to a permanent bar from associating with any FINRA member firm in any capacity, including clerical or ministerial functions.  In addition to the FINRA allegations, a review of the Orange County court records reflects that a first-degree felony charge of conspiracy to traffic in oxycodone is pending against Grove.  A $50,000 bond was filed on September 30, 2014.  The court docket reflects that trial has been set for the three-week trial period beginning January 5, 2015.  The relation, if any, of the pending criminal allegations to the Schwab allegations is unknown.

To review the BrokerCheck report of any broker, click here.

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The Securities and Exchange Commission has approved the Financial Industry Regulatory Authority’s (“FINRA”) proposed revisions to NASD Rule 2340 regarding per share estimated valuations of unlisted REITs held by customers.  FINRA first submitted the proposed rule changes in January 2014.  This week the SEC announced its approval of the proposed rule changes.   No effective date for implementation of the amended rule has been announced.

A real estate investment trust (“REIT”) is company that owns, and may also manage, income producing real property, such as apartment buildings or shopping centers.  To generate funds to purchase its portfolio of real estate, a REIT will pool the capital of many investors.  This permits smaller investors who may not be able to individually purchase real estate properties to participate in the real estate market.

There are two types of REITs: those that trade on a national securities exchange and those that do not. The amended rule specifically addresses REITs that do not trade on a national securities exchange, commonly referred to as “non-traded REITs.”  Because a non-traded REIT has a very limited secondary market, it is generally illiquid for long periods of time. Early redemption of shares is often very limited, and fees associated with the sale of these products can be high and erode total return.

The lack of an open market for non-traded REITs makes them difficult to value.  Typically, brokerage firms have historically listed a per-share price for non-traded REITs as $10, without regard to their true value.  The newly approved rule amendment does away with this arbitrary valuation pricing.  Amended NASD Rule 2340 requires brokerage firms to develop and reflect on customer account statements a per-share estimated value for an unlisted REIT that is reasonably designed to ensure that it is a reliable value.

Brokerage firms can use either of the two methodologies proposed by FINRA, to wit: the net investment method or the appraised value method.  The net investment method requires that firms state the “net investment” amount revealed in the issuer’s most recent periodic report based on the “amount available for investment” percentage contained in the REIT’s offering prospectus.  If the prospectus does not reflect the “amount available for investment,” the net investment number should be based on another equivalent disclosure showing the estimated percentage deducted from the total amount of shares registered for sale to the public to cover commissions, fees and other expenses.

The appraised value method will depict the appraised value of the assets and liabilities of the REIT’s portfolio shown in the issuer’s most recent report.   The valuations must be performed at least annually in accordance with standard industry practice, and be conducted or verified by a third-party valuation expert.

The newly approved rule also mandates that brokerage firms disclose on customer account statements that non-traded REITs are not listed on a securities exchange, are illiquid, and if sold, the per-share price received may be less than the per-share estimated value reflected on the account statement.

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A Financial Industry Regulatory Authority (“FINRA”) hearing panel has expelled brokerage firm Success Trade Securities and ordered $13.7 million in restitution for alleged securities fraud and for running a Ponzi scheme.  In addition to expelling the Washington, D.C. based firm, the FINRA hearing panel also barred Success’ President and CEO, Fuad Ahmed, from any association with any FINRA member firm in any capacity.  Success and Ahmed were jointly and severally ordered to pay $13.7 million in restitution to 59 investors, the bulk of which are current and former professional athletes.

According to FINRA, it filed a complaint against Success and Ahmed in April 2013 asserting fraud in connection with the sales of $19.4 million worth of promissory notes issued by Success Trade, Inc. (“Success Trade”), Success’ parent company.   According to the hearing panel’s decision, the offering documents omitted material facts that would have shown that Success Trade was in financial trouble, having lost money every year for more than a decade, except for 2007.

FINRA claimed that Success and Ahmed also misrepresented to investors that the proceeds from the sale of the promissory notes would be used to promote Success Trade’s business when, in reality, investors’ funds were used to make unsecured personal loans to Ahmed and to make interest payments to earlier investors, in true Ponzi-scheme fashion. FINRA’s press release also reflects that Ahmed falsely represented to investors that the businesses were thriving and about to be listed on a European exchange and that he was soon going to acquire an Australian company for $15 million.

According to Reuters, some of the harmed investors include Detroit Pistons guard Brandon Knight, Cleveland Browns cornerback Joe Haden, a defensive tackle for the Miami Dolphins, Jared Odrick, and former Redskins running back Clinton Portis.  FINRA claimed that many of the athlete investors were financially inexperienced, just beginning their careers out of college.

The FINRA decision will become final in 45 days if not appealed to or called for review by FINRA’s National Adjudicatory Council.

In November, a former Success Trade broker, Jinesh “Hodge” Brahmbhatt, was barred from FINRA for failing to appear and give testimony.

If you believe you have been harmed by a FINRA brokerage firm, click here to see if you may have a case.

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The Securities and Exchange Commission (“SEC”) has brought its first enforcement action for whistleblower retaliation under the Dodd-Frank Act against hedge fund advisory firm, Paradigm Capital Management (“Paradigm”).  According to Reuters, the SEC’s case stems from Paradigm’s alleged retaliation against its former head trader, James Nordgaard (“Nordgaard”), after Nordgaard made a whistleblower submission to the SEC about Paradigm.

The SEC claims that Paradigm’s owner, Candace King Weir (“Weir”), conducted client transactions between Paradigm and a broker dealer that she owns, C.L. King & Associates (“C.L. King”), without disclosing to the client that she was effectively participating on both sides of the transactions.  Specifically, the SEC claims that Weir’s trading strategy for her client PCM Partners L.P. II (“PCM”) involved Paradigm’s traders, including Nordgaard, selling securities that had unrealized losses from the hedge fund to a proprietary trading account at C.L. King.  According to the SEC, Weir’s intention was for the realized losses to offset PCM’s realized gains in other securities.

The SEC’s Order Instituting Administrative Proceeding states that, because Weir was the advisor to the PCM hedge fund and the owner of both Paradigm and C.L. King, she had a conflicted role in the transactions which was required to be disclosed to PCM.  According to the SEC’s Order, Paradigm established a conflicts committee to review and approve each of the principal transactions on behalf of PCM, purportedly to satisfy the disclosure and consent requirements.  The conflicts committee, however, was itself conflicted, in that, one of its members was the chief financial officer of both Paradigm and C.L. King.

According to Reuters, Nordgaard reported the conflicted principal transactions involving PCM to the SEC in March 2012.  The SEC claims that at least 83 conflicted principal transactions occurred – 47 of PCM’s securities positions were sold to C.L. King and 36 of those were later repurchased for PCM.

After Nordgaard reported the transactions to the SEC as a whistleblower, he was removed from his position as head trader and stripped of his supervisory responsibilities.  Nordgaard ultimately resigned and later sued Paradigm for retaliation.

According to the SEC, Paradigm and Weir have agreed to pay $2.2 million to settle the charges.  Of that amount, $1.7 million will be distributed to former and current investors in the hedge fund, $181,771 represents prejudgment interest, and $300,000 is a penalty.  The whistleblower may be eligible for a monetary reward as well.

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According to InvestmentNews, last month the Financial Industry Regulatory Authority (“FINRA”) announced that it had essentially stopped processing securities arbitration cases involving Puerto Rico municipal bonds.  FINRA claimed it needed to address a number of challenges with the cases such as the fact that the primary language in Puerto Rico is Spanish and FINRA arbitrations are generally conducted in English; and the fact that there were less than a dozen FINRA approved arbitrators in Puerto Rico.

A posting on FINRA’s website states that as of April 7, 2014, 209 cases involving the sales of Puerto Rico municipal bonds, almost all of which involve investors residing in Puerto Rico, had been filed with the regulator. Of those, FINRA says 62 investors are represented by counsel located in Puerto Rico, and 50 cases individually name brokers located in Puerto Rico.

FINRA rules provide that, absent the agreement of all parties to a single arbitrator, a panel of three arbitrators hear cases involving damages over $100,000. The parties in a three-panel case are given a list of 30 potential arbitrators to choose from pursuant to FINRA Rule 12403.  This placed a significant burden on FINRA to find more arbitrators willing to serve on the Puerto Rico cases, either residing in Puerto Rico or willing to travel there.

According to FINRA, it will initially supplement the pool of Puerto Rico arbitrators with approved FINRA arbitrators from other hearing locations within the southeastern United States and Texas. FINRA announced it will pay the travel expenses of the approximately 700 currently eligible arbitrators on the FINRA roster who have agreed to serve in Puerto Rico.

UBS and Merrill Lynch, two of the largest firms named in many of the Puerto Rico municipal bond cases, have agreed to pay the costs of consecutive translation services in the Puerto Rico FINRA arbitration hearings in which either is a named Respondent.

The influx of FINRA arbitration cases involving losses in Puerto Rico municipal bonds follows a February downgrade of Puerto Rico’s credit rating to junk status by Moody’s, Fitch, and Standard & Poor’s.  Puerto Rico has a 14.7% unemployment rate, and an estimated $70 billion in debt.

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According to the Securities and Exchange Commission (“SEC”), a federal judge in Florida has issued a temporary asset freeze against two companies and their owners for allegedly operating a Ponzi scheme that encouraged investors to make purported investments in virtual concierge machines (VCM’s).  According to the government, the companies, JCS Enterprises, Inc. (“JCS”) and T.B.T.I. Inc. (“TBTI”), and the principals, Joseph Signore and Paul L. Schumack, II, located in South Florida touted investments in VCM’s on You Tube, through e-mail solicitations, and investment seminars.  According to the companies’ You Tube video, a VCM is an ATM-like machine that could be placed in businesses such as hotels, restaurants, and stadiums to advertise available products and services via touch screen.  In addition, the machines could provide printable tickets and coupons. 

According to the government, the companies asserted that investors could purchase a VCM for as little as $3,500 and earn income through businesses paying to advertise on the machines. The SEC claims that the investors were promised guaranteed returns on the VCM’s which were to be located, placed and managed by JCS and TBTI.  The SEC’s press release claims the companies raised approximately $40,000,000 since 2011. The government contends that investors were promised that they would be informed as to the location of each VCM they purchased and would be provided online access to monitor the activity of their VCM.   In reality, the SEC alleges that investors’ funds were used to pay earlier investors, were diverted to unrelated business ventures, or used to pay personal expenses of Signore, Schumack and their families.  For example, the SEC claims that Signore diverted $2 million dollars directly to himself and his family members, in addition to $56,000 that was spent at restaurants, stores, and a tanning salon.  Schumack allegedly diverted around $4.8 million, in addition to spending around $23,000 on restaurants, stores, and a nutrition center.

The complaint filed by the SEC alleges violations of the federal securities laws and seeks the return of ill-gotten gains, interest, and penalties.  The order for temporary asset freeze requires the companies and principals to provide accountings and also appointed a receiver for JCS and TBTI.

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According to Reuters and other news sources, a securities arbitrator has been removed from FINRA’s arbitrator roster after it was discovered that he allegedly lied about being a lawyer. A FINRA spokesperson reportedly confirmed to Reuters that securities arbitrator James H. Frank of Santa Barbara, California was removed from FINRA’s arbitrator pool in 2013.  Frank reportedly served as a FINRA arbitrator for 15 years and was involved in rendering approximately 38 FINRA arbitration awards.  

According to Reuters, in August 2013 after a FINRA arbitration hearing concerning an investment in a variable life insurance policy, the investor’s attorney Benjamin Blakeman became concerned about Frank’s behavior and hired an investigator to look into Frank’s background.  According to Frank’s Arbitrator Disclosure Report, he had received his law degree from Southwestern University School of Law and was licensed to practice in Florida, California, and New York.   Frank’s bio on Arias-U.S. reflects that he is Of Counsel with Proresolv Counsel, LLP.

According to InvestmentNews, Blakeman’s investigator discovered that the only California lawyer named James H. Frank was not the gentlemen serving as a FINRA arbitrator.  In addition, there were no lawyers by the name of James H. Frank registered in either Florida or New York.  Blakeman reportedly shared his investigator’s findings with FINRA and requested Frank’s removal from his arbitration case.

FINRA confirmed to InvestmentNews that it removed Frank from its arbitrator roster because he had allegedly misrepresented himself as an attorney.  FINRA declined to comment on whether it has disclosed the alleged misrepresentation to the parties involved in the cases Frank heard.  At this point, it is unclear whether the parties on those cases could attempt to overturn the arbitration awards on the grounds that an arbitrator made fraudulent misrepresentations, given the requirement in the Federal Arbitration Act that motions to vacate be filed within three months after the delivery of the award.

Frank reportedly told Reuters in an e-mail that he was unaware of the specific reasons for his removal by FINRA.  He claimed that he was a lawyer in California, but the state of California must have lost his records.

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