Imagine that you’re a “typical” securities investor in that you do not have vast resources at your ready disposal to guide your investment decisions. Instead, like most other Americans, you rely upon the advice of a professional broker or adviser to promote your best financial interests.
Concededly, that individual is not going to be perfect, routinely turning your invested monies into pots of gold. However, you do have a right to justifiably rely upon his or her comparative acumen in managing the funds you turn over in good faith to be professionally managed.
A basic litmus test for any money manager that is imposed by state and federal securities regulators is that an investor’s accounts be suitably managed. A so-called “suitability rule” posits that deposits/holdings be held in vehicles that make logical sense for a given consumer’s age, status, total portfolio and so forth. Inappropriately invested money might – and often does – signify broker fraud.
Churning is sometimes a central culprit in that. The concept is simple: a manager makes a high number of trades that often harm an investor while bringing in commissions and various fees for a brokerage. It is often the case where there is a pattern of churning that a customer is better served by a conservative buy-and-hold approach.
The Financial Industry Regulatory Authority (overseer of most of the country’s brokerages and investment advisers) has made churning an elevated red-flag concern. Finra has proposed a new rule that seeks to adjust the suitability standard to better protect investors and reduce bad brokers’ opportunities to engage in fraud.
In a nutshell, regulators want to tweak the standard to make it easier to prove that churning is occurring. Currently a broker can be punished for wrongdoing only if he or she has active and material control over a client’s accounts. If enacted as law, the new rule would expand liability even in many cases where a client is personally executing trades. Regulators say that brokers in legions of cases guide their clients to select decisions even when it is the latter who authorizes trades.
The bottom line will remain the same: To bring sanctions, a churning allegation must sufficiently demonstrate that trades were “excessive and unsuitable.”
Finra’s proposal is now open for public comments.