Ch 7 Prohibited Business Practices USA Flashcards
Defining fraud
Three parts:
- misrepresenting a material fact
- Reliance on the misrepresentation
- Injury or harm occurring as a result
Note: fraud is intentional
USA prohibited and unethical practices
Major:
- Acting as issuer of securities
- Recommending unregistered non exempt securities (okay if unsolicited)
- Seeking to defraud or deceive
- Charging unreasonable fees
- Failing to disclose the availability of fee discounts
- Using contracts to limit or avoid advisors liability (exculpatory provisions) or require arbitration
- Borrowing/lending money with clients (exceptions apply)
Other: - claiming securities are approved by a regulator. Registered is okay to say
- Saying a security is about to be listed (IPO)
- Selling dividends
- Calling a mutual fund a no-load fund if 12 b-1 fee is >0.25%.
- Failing to disclosure sales charges
- Failing to disclose mutual fund breakpoints and letter of intent
- Churning or reverse churning
- Exercising discretion without written authorization/POA (except: BD can accept not held orders without written POA or IA can use oral for 10 days)
- Guaranteeing a minimum rate of return or reimbursing clients for losses
- Failure to deliver a prospectus when selling new issue
- Failing to disclose conflicts of interest
- Failure to maintain client confidentiality
- Syndicate members (those selling IPOs to public) holding back shares
- Unnecessarily delaying payment or delivery of securities
- Splitting commissions with another agent (unless both are registered at same firm and state)
- Conversion/misappropriation of client funds or securities
- Share in profits and losses in a clients account unless written permission from BD and client and it’s shared in proportion to his contribution
- Selling away
- Painting the tape
- Front running or shading
- Trading ahead
Selling dividends:
Prohibited
Inducing the purchase of a security based on impending dividends
Churning and reverse churning
churning: recommending a lot of trades or
reverse churning: not trading enough given the fee a client is paying
When is borrowing/lending or commingling allowed?
- Borrowing/lending: client is in the business of loans. BDs can also do so with immediate family.
- Commingling client and firms cash/securities: BDs don’t have to segregate cash but IAs do. It’s okay to store securities in same vault but needs to be clear who owns what
Painting the tape:
Prohibited.
It’s when two BDs agree to prearrange trades back and forth so it looks like a security is being traded a lot
Front running or shadowing:
Prohibited
BD trades for own account before (front running) a clients account or after (shadowing)
Selling away:
Prohibited
executing trades not recorded on BD books (ie without BD permission)
Trading ahead:
BD accepts and holds an order form a client and buys that security himself
Agency cross transactions:
- Not illegal but must be disclosure
- An IA selling between two clients not on the exchange is a conflict.
- Either it’s recommended to buy or recommended to sell, so doing so seems like one client in the transaction is getting bad advice
- One side of the trade needs to be unsolicited/unrecommended. Must get written consent from both
- Must disclose this conflict of interest, the trade date and compensation to be earned
- A summary of these transactions must be reported to each client at the end of the year
IA pay-to-play rule:
- This is when IA makes campaign contributions to elected officials while they are campaigning and politician picks IAs after the fact to run government investment accounts (eg pension).
- IA cannot receive compensation for 2 years following a firm or employee political contribution
- Exception: up to $350 if employee is able to vote for the candidiases or $150 if not
Advisor principal transactions
- similar to agency cross but it’s between a client and the IA themselves
- Permitted if written disclosure when account is opened, authorization is received from client, and client provides written or oral approval for the specific trade
- Annual statement sent comprising transactions, dates and prices
Deadlines for providing a prospectus:
- exchange listed follow-on offerings: none
- IPOs on exchanges: 25 days
- Follow on offerings of over the counter (non listed) stocks: 40 days
- IPO of over the counter stock: 90 days
Who is an Access person and what are the rules
- Officer, director, partner or other supervised person who has access to non-public info.
- Must report their personal securities transactions to compliance via a holding report and transaction report
Holding report:
- Submitted by access person
- shows current holdings including title, type, name of BD or bank, date of report
- submit within 10 days of becoming an access person and once a year
