Truth Is In The Eye Of The Beholder

Last week the SIPA released documents that clearly contradict what NASD told member firms regarding the buy your vote sham merger of 2007.  Today we release even more shocking documents that once again hit at the nerve of regulation and forces all of us in the industry to reassess whether FINRA,  in its current form, should be disbanded entirely.  In December 2006 the NASD went on a 25 city tour touting the benefits of the merger of NASD and NYSE regulation.  Despite their efforts and “sell job” there was still much resistance and a little group of dissidents started to break down the proposed offering and began debating publicly whether this was all just a sham. Last week we released actual board minutes in which it is clear the $35,000 payment was not derived at by an IRS ultimatum as NASD claimed, but rather was the result of the NASD board meeting in which they agreed the “whatever figure we come up with it must not be negotiable”

NASD staff and sell job employees like Bill Alsover of the ‘Small Firms Advisory Board” took this to the road like they were selling an IPO in a Chinese pharmaceutical Company.  The NASD even created a site and a special link called ASSERTIONS AND FACTS.   They took each and every ‘Assertion” made by dissidents like the FIA and responded with supposed FACT.  The problem is that their FACTS were not facts at all. The IRS did NOT rule about the 35k payment until 3 months AFTER the vote took place.  The more shocking aspect of this sell job is that top ranking NASD employees KNEW they were misleading, misrepresenting and presenting FALSE facts.  For instance, here is an actual e-mail from some of the top executives at NASD on January 8th 2007, almost one month after a special web site was set up.  This e-mail can be found on page 13 of the linked documents (which we encourage you to read in full):

This is shocking to say the least.  In other words, they KNEW that their web site contained false information.  How many times did we hear leaders of NASD claim over and over that the IRS will not let us pay more then $35k?  You were presented with a fraudulent proxy and the powers that be not only knew it but attempted to cover up their mess.  The dissidents often stated that not only could more be paid but that they did not believe an IRS ruling existed.  NASD , knowing the dissidents were correct instead took it upon themselves to tarnish and bash those that questioned them.  Need more proof? 

NASD did not even have an IRS ruling letter while making these IRS claims.  In fact in a March 13th 2007 letter to the board they breathe a sigh of relief that they finally got an IRS ruling.  This letter can be found in its entirety on page 14 of the linked documents (which we encourage you to read in full)*.

Notice anything funny?  The NASD blocked out the ‘range” of payments that can be made but clearly MORE could have been paid.   In fact we would urge all members to read the actual IRS ruling letter and decide for yourself if the IRS was even given all the facts by NASD.   As you read through these documents think about how many times dissidents were called liars and how they were constantly depicted as not being truthful.  Now ask yourself after reviewing these documents whether you think our SRO needs to be overhauled?

CLICK HERE FOR ENTIRE DOCUMENT   *(Such as we have it… There are missing pages and redacted items; all of the omissions and redactions were done by the FINRA prior to turning the docs over).

The bigger question is who knew and when did they know it?  Clearly, two of the Executive Vice Presidents of FINRA knew on January 8th 2007 that they had put False information up on the web site and into offering materials as well as in road show questions and answers.  Clearly they had a ethical responsibility to at least admit the mistake and to create a new offering memorandum.  Imagine if a Broker Dealer distributed and offering in which he claimed a government agency was limiting the amount of dividends a company could pay and then FINRA examiners found e-mails in which the Broker Dealer knew the information was false but kept right on selling it that way?

Your company would be expelled from membership.  Maybe its time to expel more then just brokers from membership?

The 64 Thousand Dollar Question (isn’t that quaint? $64K? Try $1.25 Quadrillion on for size… No, $64K just sounds better. Sounds manageable)  nowadays is what should be done. The SIPA has polled members and has had conversations with many small firm owners compliance professionals regarding this issue. We are still a ways from a formal proposition, but working on it. Your thoughts and comments are greatly appreciated. And you really ought to give it some thought. Remember – Congress has a tendancy to step in and come up with solutions. These solutions are often regulatory overkill which does not accomplish the actual job of regulation, and often comes with unintended consequences – think SarBox… What is really necessary is for average folks who are responsible for the day to day compliance operations of firms to come forward with what works and what doesn’t. In any case, here are the most popular suggestions so far:

1) The Regulatory process is already overburdensome. What needs to be done is NOT whosale re-writing of the regs, but effective, principal based enforcement and streamlining of the regs – to focus on what is most important: protection of the investor and the preservation of the Public Trust. To that end, there are ways to do this which would not require massive infrastructure changes. So far, the following are suggested by members:

2) Regarding Management: The division governing Broker Dealers should be run by an individual who is:

• Honorary And Temporary; Chief Regulator should be a Two Year Maximum Position- this will prevent, to a certain extent, the creation of a fiefdom where personal agendas and politics gain serious ground
• FINRA Chair should be elected by membership on a refferendum of current membership basis – this is easy, despite the apparent difficulties; there are only 5000 firms…
• Individual should be barred for several years from revolving doors (no going to work as head of Merrill on the heels of being the Chief regulator) Eliminate these obvious conflicts of interest 
• Pay Scale For FINRA Chief Should Not Exceed That Of SEC Chair. Reasonable salary – not Wall Street Salary. This would keep the Chief honest (if overworked)
• Bonuses Should Be Eliminated For Chief Regulators; destroy the incentive to overlook big problems
• Chief should come from an enforcement background associated with financial crime: FBI, Secret Service – in short, we need enforcement that understands the scams that affect the public trust- and who aren’t beholden to realationships built over many years at Top Wall Street Firms. But the Enforcement angle is key; we don’t need the former head of a brokerage house to be charged with enforcement against friends; this would be a conflict of interest.
• We Most Emphatically Do Not Need An Individual Who Has Previously Failed In The Role Of Chief Regulator In The Past. Meritocraccy, not buerocracy, get it?

3) Regarding Policy:

• A Policy Change to unbiased Principal Based regulation at all levels. We need to understand that there is a distinction between minor adminstrative failures and failures that affect the Public. In other words, a firm should not be fined $25,000 for a tardy focus report (which doesn’t affect the Public- so long as there was no fraud involved) while another gets fined $50,000 for running a scam that bilks investors of $500 Million; a situation highly damaging to the Public Trust. And – if the appropriate response is a 30 day exit order only policy, this should be applied at the biggest firms as well as the smalles. Being “BIG” should not be a pass for anything. Currently, the Policy is based on rule based violations- to the detriment of the Public Trust. This must change.
• Net Capital does not provide adequate customer protection, nor will it provide adequate protection if it is increased. Should stay same.
• RecordKeeping requirements should be streamlined. Ask any Compliance Person. You’ll understand. The irony is that in the days of electronic automation, recordkeeping requirements have become increasingly burdensome. 
• An exemption to some of the regulatory recordkeeping requirements should be made for firms that do a de-minimus business as “finders”. No need to create a new “BD Lite” – rather, create an exemption for certain kinds of business. This can be done quickly, cheaply, and will provide immediate benefit.
• Policy Change towards assisting firms to comply with regs – not simple rule based enforcement. Eliminate gatekeepers who are more interested in locking in discovery of an error than assisting an honest broker do the right thing. GIVE GUIDANCE. No more “I need to know your firm and your crd number before I can answer any questions”. 

Okay – Your Turn. Comments Please.  

One of the smaller but nevertheless interesting informational items contained in the internal FINRA documents provided to the SIPA is that the FINRA, in planning it’s “Sell Job” for the amendments which would allow the merger is that the FINRA made use of so-called “Friendlies”. These were individuals at organizations who  promised support to the FINRA for the merger – and willingness to help the cause. What this “help” would consist of was spreading the good word of the merger, and, apparently, noting individual’s opinions regarding the proposed merger – and then turning any dissenting individuals in to the FINRA, which would classify them as “Dissident”, and then surveille, track and otherwise try to convert the so-called dissident to the FINRA’s plan. But the FINRA had noted that these Friendlies were also very good at clarifying the true information, and discrediting the disinformation regarding the merger.

But we’ve since learned that the truth, in this case, might as well have come from “The Ministry Of Truth” where everything is a lie. And the “disinformation” being spread by the “dissidents”? . In hindsight, the objections raised seem completely validated…

So – just what were those “friendlies” up to? Did they really not understand what was going on, and what they were a part of? Even when informing on innocent members? Even when speaking out to discredit them or their views? Or were they simply suckling up to the pig, trying to get their share in the power grab? Whatever the case, this author recalls Ricky Ricardo -

“LUCY!? YOU GOT SOME ‘SPLAINING TO DO!!”  

As indicated by the FINRA, these are the organizations that apparently were participants in the surveillance machine, helpers in the “Sell Job” (FINRA’s Own Words). Were this author a member of any of these organizations, I would ask for my money back immediately and cancel my membership. I am not saying everyone should do this; this is just my personal opinion and what I would do.  Whatever the explanation, it is really too late/

American Council Of Life Insurers
Investment Company Institute
Financial Services Institute
SIFMA – Securities Industry And Financial Markets Association
SIFMA – Small Firms Committee
NAIBD – National Association Of Independent Broker Dealers
NASAA – North American Securities Administrators Association
STA – Security Traders Association

A SIPA Special Report Uncovers Deception At Every Level – And Has The Documents Which Prove It

John Thain, the former head of NYSE and most recently Merrill Lynch, has resigned his position after the takeover by Bank of America was announced.  Thain was is the classic face of Wall Street greed.  He was hand picked to replace Dick Grasso after he fell from his lofty perch with a $200 Million parachute.   Thain was instrumental in the merger of NYSE regulation with NASD regulation in 2006-07 and as head of the NYSE, Thain was paid a measly $4 Million per year. Shortly thereafter, he left his post to become the CEO of Merrill Lynch for the paltry sum of $50 Million per year plus bonus.  In 2007, Thain was declared the highest paid CEO with a reported total compensation of $83 Million!  But even though Merrill dropped like a lead zeppelin in 2008 and had to be bailed out in a last minute takeover negotiated by the Government, Thain requested a 2008 Christmas bonus of 10 million, which would have come out of TARP money his firm had recently received.  

Wall Street greed has become so comical of late that even the late night talk shows have stopped using it for comic fodder because its passé at this point.  So why the sudden outrage from the SIPA regarding Thain and his greed and excess?  Perhaps it’s the fact that recently the SIPA has uncovered disturbing documents that give greater insight into how big and how deep corporate greed, lies and cover-ups  go on Wall Street and more importantly, in our Regulators.

Last week the SIPA reported that FINRA and its leaders were being sued individually by members firms (CLICK HERE TO READ COMPLAINT). (the Complaint is a large file, it may take a moment to load – and in a new window) The Plaintiffs claimed that NASD and NYSE officials lied and deceived members into voting for a sham merger that was built on nothing more then lies and misrepresentations. Among the key allegations of the Plaintiff was that the merger and its accompanying offering memorandum from NASD boldly and fraudulantly claimed that “ The IRS has told us that the maximum amount we can pay member firms is $35,000”; the fraudulant claim allegedly being used as an inducement to members.  Plaintiff also claimed that the top management stood to reap great personal gains as a result of the merger.

It is now a matter of record  that shortly after the merger was complete, the new head of FINRA received a pay raise to well over $3 Million per year, and that Top Execs experienced windfall pay raises of up to 56% ! But what of the claims that the inducement ( the so called “maximum possible” amount, per the IRS) was in fact false?

The SIPA has obtained the ACTUAL minutes of the first Board of Directors meeting regarding the proposed merger of the NASD and NYSE. Those documents reveal that as far as the FINRA’s representations of an IRS “cap” on the amount, nothing could be further from the truth.  We will give you some brief highlights to look for while reading  – but we believe documents always speak for themselves.  Some of the more interesting highlights include:

• The payment of $35,000 was derived at by board negotiations – It was NOT an IRS ultimatum…  In fact, the Head of NASD even asked for ‘board input into payment size”… and discussed back and forth what might be a minimum amount that would swing the vote.  Yet this same person claimed a month later that the figure was derived at by the IRS, and so was non-negotiable. The reality is that the board tossed around a number of potential figures for the payment and at that meeting agreed that no matter what figure was decided, “it was paramount that the figure not be negotiable”

  There was no mention of the IRS in any figure nor of any limitations on payment. The fraudulant touting of the non-existant “IRS Limitation” seems to have been calculated to convince members that there was no room for negotiation. But the misrepresentations only begin with the fraudulant inducement of a the one time payment to members.

• The payment of 103 million by NASD to NYSE was not a payment to keep the deal ‘revenue neutral” as the FINRA’s notice of ‘ASSERTIONS AND FACTS” claimed..but rather was a negotiation bearing every similarity to that of a used car.  The NASD offered 50 million, NYSE wanted 175 million…they compromised at 103 million!
• But one of the most telling and chilling revelations is that one of the leaders of NASD (now FINRA) is quoted as saying that the loss of the “one firm and one vote is a sizeable obstacle and it will take a sizeable selling job to accomplish this”.
  
  Click Here To Read The Minutes In Their Entirety (the file is 3+ megs, so it may take a few moments to load – in a new window )

How many of you fell for this “Sell Job”?  How many of you actually believed that the maximum payment was $35,000 and that your regulatory leaders would never mislead you?  How many of you believed the regulators when they said that “nothing could be further from the truth”, when in fact they were running a “sizeable Sell Job” to induce you to give up one firm one vote status?

Quite frankly, many of you were taken for a ride like an Orlando tourist on a golf cart at a time share facility.  The sad part?  There is more to come.  For instance, the actual IRS opinion letter was received on March 13th 2007, some four months after “ASSERTIONS AND FACTS” and videocasts to the contrary. 

Click Here For The Actual IRS Letter Which The SIPA Has Obtained (the file is 2+ megs, so it may take a few moments to load – in a new window)

Mr. Thain was head of NYSE and worked hand and hand with the NASD on this deal and then became President of Merrill Lynch….as you read these documents, isn’t it evident why Wall Street greed and corruption is so prevalent? But the problem is that the greed and corruption of these regulatory leaders didn’t end with their personal fortunes and power plays. They threw an entire industry into turmoil. The Merger offering was apparently a fraud on many levels. Nevertheless, it passed by a small margin. But in the long fought battle to effect the merger, a policy decision was made – to focus on small firms, and to ease off the Big Firms; the Merrills of this world. And the Big Firms, sensing that regulation had eased off, ran totally amok. Causing the largest financial crisis in world history. Make no mistake – broker dealers were regulated by the FINRA and the ease of the regulatory burden for the Big Firms was brought about by the merger. A merger which passed by a narrow margin, based on the fraudulant representations of a corrupt power elite who stood to benefit personally – while the world burned.     

For those of you out there who will roll your eyes and say “ there go those dissidents again”…Stay tuned. Becase the rabbit hole goes deeper than fraud, misrepresentation and Sell Jobs… Our next report will show actual minutes of the planning and orchestration of the “SELL JOB”. You won’t believe the lengths that were gone to; maybe, that is, until you see the proof of actual tracking and targeting of members who were not lock step with the “Regulators” as well as those firms that FINRA counted on to “roll over and give us what they want”, and even the friendly firms that the FINRA secretly relied upon to help discredit those who rightfully qestioned the proposals of the FINRA. Excess. Lies. Secret agendas. Who would be a leader in these troubled times?

I say “got away with it” because – were he not to have turned himself in, and were he to not have been totally broke and inches from the fire – he would probably have never turned himself in and kept going as long as he could have. Such is the nature of that particular kind of greed.

But HOW  did he get away with it for so long? This author believes that there are several important contributing factors -  and they all contain failures of the regulatory element. But to say that is not enough; we need to understand what was broken so that we may fix it. This author argues that the failures to regulate – at the Broker Dealer level, which should have exposed everything - are directly attributable to the FINRA’s consolidation effort.  

Many have pointed out that the Madoff fraud happened at the Investment Advisory, which was run separate and apart from the broker dealer; separate books, employees, and a separate location on the 17th floor. As the argument goes, the FINRA could not possibly have been responsible – as the FINRA does not cover IAs or Hedgies… This argument fails, however, when one examines the actual role that the auditors play at the FINRA. In fact, the rules of regulation have been specifically designed to set multiple reference points as fail safes.

To make matters plain -  the numerous FINRA audits of Madoff Securities (NOT the Investment Advisory) should have uncovered the Fraud at the IA. The regs are designed to do this. But most folk who are outside of compliance accept the common story without giving it much critical thought. They are wrong to do so and here’s why:

To keep it simple; when one audits a firm, one of the first things looked at are, say, the ten largest firm accounts. The IA business would have been an account at the broker dealer, through which trades wold take place.  Any cursory examination of this account would have turned over significant issues; trades not matching results, not matching the market time and tick, strange unexplained wires,  position violations, erroneous confirms etc. Simple, right? Like even a non-accounting type would understand this stuff. So why, would trained auditors repeatedly miss this basic audit 101 stuff?

Remember, we’re talking about a lot of money here; $50BL – the kind of money that you simply cannot keep under the radar. One cannot move that kind of money without an audit trail.  And keep in mind that the above examples are patently obvious examples of auditing SOP, and would have uncovered discrepancies no matter if he cooked the books or not. But there much more sophisticated methodologies are routeinly employed by your average forensic examiner.

So the expectation might be that the auditors could not fail to catch a Bernie Madoff.  But this expectation must be tempered by the reality that the authorities cannot uncover every fraud. Nor can they be expected to. Uncovering every misdeed is an ideal which will simply never be realized. There is simply too much to look at and too little time.  More eyes certainly help – but there are practical limitations. The regulators are of course fully aware that this is a numbers game and that you cannot catch all the frauds all of the time. As a reglator, you go with a risk adjusted approach, and as a matter of policy, adjust your focus to achieve maximal result.

The biggest priorities, insofar as audits of firms dealing with the public, is to ensure and support the Public Trust. The Public Trust must be courted, coddled, handled most delicately – otherwise you lose it – and  with the loss of the Public Trust, the deluge…

“Why Rob Banks? ‘Cause That’s Where The Money Is”

So one way of framing policy (from a focus perspective) is to focus on areas where the public trust could be damaged. Ie firms dealing with the public. Firms trading on a discretionary basis with funds invested by the Public. Focus on those areas where the most harm could be done (ie Firms responsible for managing loads of money). Size matters. And this, of course, should have put Madoff at the top of the list.

Yet the FINRA made the policy decision to focus on Small firms and particularly on rule based violations at small firms. Rule based violations do not affect the public directly (an example of a typical rule based violation is the failure to file a focus report in timely fashion. Being two days late might generate a $15000 fine). Under this policy, small firms were treated aggressively, while the Big Firms were largely left to their own devices. This Policy has proven, in hindsight, to be a failure of monumental scale.

One might wonder why the FINRA would employ this policy when there are others that would arguably serve the public trust better. Well, there are reasons – and what the reasons all point to is an even greater failing; one that was designed not with the public interest in mind, but rather with a bureaucratic institution run amok. Visions of the old Octopus representation of the Soviet Political Apparatus. The Institution was in the midst of a huge power grab, and was determined to grow and assimilate other institutions into itself. And the policy was implemented for the worst of reasons – to go after the low hanging fruit of rule based regulatory violations at small firms. There is much more on this subject in other articles on this site.

So while it may be comforting to know that these failures were largely attributable to a re-focusing of the regulatory enforcement regime, it is less than comfortable to realise that there were indeed audits, and there were indeed warnings. Audits should have uncovered wrongdoing that would be obvious to a 7th grader – for example, Madoff the brokerage’s biggest account (ostensibly the $50BL hedge fund) apparently may have had no trades executed in it… That’s right, no trades, in decades – but lots of wires in and out (this according to the NY Times)… Surely it is a stretch to imagine that the auditors missed this simple fact repeatedly for decades? Not a snowball’s chance in hell. So was the problem really confined to a simple lack of eyes due to the merger?  Or is there corruption of a more… direct nature? Speculation is only that until it becomes 8 1/2 by 11. More on this to come…

Believe it or Not, FINRA Wants To Be Big Brother – But Not To Protect And Serve The Public

Last week, we reported some very disturbing facts. And people are just starting to understand the ramifications of what was uncovered. A pattern of potential fraudulent misrepresentations, used to buy votes, to disenfranchise Membership, and to wrest regulatory control into the hands of a select few who stood to benefit. Corruption. Collusion. In the FINRA’s own words, a ”Sell Job” of massive proportions. All to consolidate power. And a change of regulatory focus – toward rule based violations at small firms, and away from the Big Firms. Which lead, ultimately, to the largest financial crisis in history… And the proof as black and white as the incriminating documents themselves – which you have seen. But there is more. Sadly, the revelations of last week were apparently the tip of an iceberg.

Absolute Power seems to corrupt absolutely. This seems to be a law of the human condition. History is littered with the cautionary tales of those who were driven insane by power, and we might feel sorry for the corrupted, were it not for the damage that they have done to society.    

Violation of the Public Trust is the issue that comes up again and again. And always, the revelation of what really went on is like the peeling of an onion. A rotten, stinking onion. Each putrid layer offends worse as one approaches the core. 

Brass Tacks:

I could hardly believe what follows myself. I thought I was going crazy. I had to read the documents over and over. In a world where life imitates art, one can still hardly imagine this is real. Yet here it is. Put your BS Filters on maximum alert and take the red pill. Here we go/. 

What if this author were to tell you that the FINRA has been working through private intelligence networks to identify, classify, and track1) Individuals who have verbally questioned or opposed FINRA policies or proposals in public, and
2) Individual that have taken exception To FINRA policies or proposals In Private Conversations with so-called “friendlies”
3) Members Who Have Voted Against FINRA Proposals Or Appointed Candidates

And further, that these “identified”  individuals and Firms would be labeled forevermore as “presumed dissidents”  or “dissidents”outright? And then, once so-identified, actively tracked? Their votes and commentaries noted, categorized, analysed, filtered and organized (going back to year 2000!)?  And then made available to a team who’se sole purpose was execute a “Sell Job” on the brokerage community and to work with “friendlies” in the community to discredit you and or your firm?

You would probably say that I am NUTS, and would permanently remove me from your Rolodex at a minimum. Or you might ask if I could provide you with some of whatever it is that I have been smoking to make me so ‘freakin insane. ‘Cause it sounds lifted right out of a third rate spy novel.

So I’m not going to belabor the subject. Or even say that EVERY WORD OF THE PARAGRAPH ABOVE IS TRUE. I’m going to give you the FINRA’s OWN DOCUMENTS, obtained from the FINRA. You read them. You make up your own mind.

The following documents add an entirely new color to lies and deceit.   Not to mention the potential criminal activities. Not to mention a disgusting and unethical use of member money. Yes, that’s right, you’ve paid for your own covert surveillance and conversion system with your fines!

The Documents:Below are links to documents. Please forgive the redactions, missing pages, etc, and especially the jumbled together format; this is how they were provided to the SIPA.  It’s the content that counts. Please note, the documents are size-able pdfs and may take several moments to load :)

1. Documentation of the FINRA’s taxonomy program: Identification and classification of ALL Members into one of several categories, one of which is”Dissidents” (individually named).  Including transcripts -recorded secretly by the FINRA – of so-called dissident individuals in conversation at NASD public forums.  (See The ENTIRE DOCUMENT HERE). Note that there are missing pages, ommissions, redactions etc; these were all made by the FINRA prior to turning them over.

2. FINRA’s Analysis And Breakdown Of Dissidents past voting records, and an analysis of their likelihood to accept the FINRA plans to merge the SROs. Note in the excerpt below – this is an analysis of how you, were PRESUMED to vote. How did they know what to presume?? You, gentle reader, have been studied, and for a long time. (This is from page 5 of the above document)

3. The script for the “Sell Job” that was perpetrated by FINRA and hired private consultants. Do you remember getting this call?  <”Draft Call Script” pg 2: HERE>

4. Tracking Of INDIVIDUALS – Sounds far fetched, does it not? Below is an example of what was carried out at the NASD Merger Road Show.  Asked any questions at a FINRA Meeting lately?  This example, from page 60 of the document , gives one an indication of how the FINRA and helpers determined whether one might be presumed a dissident. The following concerned members attended a NASD meeting, and unbeknownst to them, a secret record was kept. But they’re not alone… 

4. The “Friendlies” who according to The FINRA, were secretly tapped to assist  In The -, Multi-year “Sell Job” (FINRA’s Term).

Analysis

In short: in order to foist what was essentially a coup upon an unsuspecting membership, the top management of the FINRA resorted to tactics reminiscent of a police state, developed a hit list of “Dissidents”, and set about to discredit the dissident voice. To be clear, THIS HAD NOTHING TO DO WITH MARKET REGULATION AND EVERYTHING TO DO WITH A WILL TO POWER. This was not surveillance to assist regulatory enforcement, this was surveillance to assist the political goals of the top FINRA Executives.

This sociopathic behavior It is unforgivable in a Public Servant, charged with maintaining the Public Trust. For years, hard working individuals in financial services have complained bitterly of selective enforcement, corrupt practices and a whole litany of unethical behavior. But now, upon seeing internal communications exposed for the first time, the reality may be even worse than contemplated.  The SRO is beginning to look like a power hungry, amoral, unethical, criminal enterprise.

Nevertheless, the scheme was successful, in that the goal of a merger was achieved. And the results? A disenfranchised membership,  many fewer regulatory eyes on the street, a multi-million Dollar raise for the top FINRA management, a re-focusing of regulatory enforcement policy toward small firms and AWAY from Bulge Bracket firms.  And oh yeah, as a result, the largest financial crisis in world history.

Synthesis

How is the crisis related? Creating the merger took a tremendous amount of resources. Along with the allocation of resources (pre-merger, that is) came a new policy of Regulatory Focus and Enforcement.  The new policy focused in on enforcement of rule based violations at small firms, and focused away from the Majors. Post merger, even more resources were allocated toward integration, and fewer regulatory eyes were on the street. The regulatory enforcement record reflects this change, and the record is irrefutable: Big Firms were largely left to their own devices while small firms were squeezed hard. In this new environment, the Big Firms ran amok – and in a very short time managed to incinerate the world financial system. The unrepentant and unchecked greed at the Majors is well documented; Goldman Sachs, for example, took it’s bailout money and paid it out as bonuses. Citi just bought a $50 Million dollar jet. And John Thain requested a bonus for himself, and paid bonuses to staff. Bernie Madoff. The whys and wherefore’s of the decision to shift the focus of enforcement will be the subject of other articles (and I suspect books will be written). But the point is, the new enforcement focus fomented the largest financial failure in world history. And the new focus was part and parcel to the merger. And the merger was achieved under false pretenses, fraudulent misrepresentations, and what could be considered coercion. But the bottom line is that the merger was the brain child and will to power of a small group of power hungry execs – who set fire to the world in order to achieve a set of political goals.    

Whatever personal animus one might feel upon the realization that one has been surveilled, categorized, manipulated and sold a fraudulent bill of goods, one must remember the real damage done.

The FINRA was charged to Protect The Public Trust.  The FINRA didn’t simply fail that duty – it used, abused and mocked that duty while allowing the world to burn. Your clients have been severely damaged. It may take them decades, if ever, to recover. Hundreds of Billions of real dollars have been lost by your clients (not to mention trillions in bailout bux) - and now, it is now your livelihood that will continue to suffer.

The following is shocking in any context. We do not wish to spoil, we only want the truth. With that in mind, we ask humbly that you not punish the messenger. We didn’t start the fire, as it were. But as bizaar as you may find the following, keep in mind the implications. Furthermore, prepare yourself, because there is more to come. Much more. And it only gets worse.

First – and unrelated to what follows – Thanks for all the letters. It is the communication of members like yourself that keep the SIPA vibrant and growing. (Last week the SIPA received a surprising number of responses to its quick look at the FINRA “small firm nominee” for NAC - The “small firm guy” FINRA chose actually worked for a Broker Dealer 100% owned by a large regional bank boasting Net Capital of 250 Million dollars and 2.8 billion in assets and 900 employees –   Smaller than it’s bailed out banking brethren to be sure, but not, methinks, too worried about keeping the lights on… )

That being said, today The SIPA reports a truly shocking discovery, with ramifications orders of magnitude larger than the above. 

Many amongst us suspect that outright fraud and misrepresentation occurs at the highest levels, and that absolute power corrupts absolutely. Particularly in light of recent events. But it is another thing entirely when you witness it first hand.  When you are lied to, personally.  But beware, the ramifications are far reaching, far beyond a personal sense of betrayal –  and the implications for the industry are deep.

A Merger, By Any Means Necessary… 

As many of you may know, some of the members of the SIPA were formerly part of a dissident trade group known as The Financial Industry Association ( FIA).  The FIA vehemently opposed the rushed merger and sent newsletters and conducted conference calls to thousands of Firms across the country and tried to bring to light many of the discrepancies in the offering material. Some positions and allegations of the FIA appeared strident, confrontational, and frankly over the top. Tin foil hat stuff – at least at the time. But hindsight is a curious thing…

One item in particular caused a major confrontation between FIA members and The FINRA:  The one time payment of $35,000 to each member firm.   The payout was regarded by many as the primary inducing the vote to merge.

But the FIA blasted the $35,000 payment as nothing more then a bribe and argued that there was no accounting review showing where any ‘anticipated cost savings’ would actually come from. The FIA,  then moved to counter the FINRA proposal with a proposal of it’s own.

The FINRA vehemently opposed consideration of any counter offer and made it clear that there would be no counter considered. The reason, claimed FINRA repeatedly was  that the decision was in effect out of FINRA’s hands, because the IRS had stated that“$35,000 is the maximum amount the  [the FINRA] can pay without endangering our tax exempt status”.  And FINRA was adament to get the word out that there was nothing to be done insofar as a compramise, due to the IRS imposed limitation. FINRA created a special “ASSERTIONS vs FACTS’ web page and claimed over and over that the IRS had stated that the $35,000 is the maximum amount that they could pay. Then the Head of NASD at the time made a videocast in which she reiterated that the IRS had told them that $35k was the maximum amount they could pay.   Click HERE to view the Video (pay particular attention at minute 3 onwards).

Why harp on the $35,000 figure? Well, for starters, the merger of NASD and NYSE passed membership vote in January 2007 by a 60 to 40 margin.  The results were contested briefly by the FIA, which wanted a recount, nevertheless the regulators were merged and the payment was made. And the financial industry lived happily ever after… or did it?  Not quite. Financial news media reports indicate that a lawsuit was quickly filed by a small company against the FINRA in connection with the merger – alleging outright fraud and factual misrepresentations . But the case, according to the financial news media, was dismissed by the Court…

A Misrepresentation?

But the SIPA has discovered some very disturbing facts.  The SIPA has discovered that: The reports of dismissal were at best misleading and incomplete. In actuality, the Court referred the case to the SEC because FINRA answers to them.  And so the lawsuit was not in fact dismissed, it was instead turned over to the SEC.  But what of the result? 

SIPA has discovered that: Unbeknownst to 99% of the members, THE SEC ACTUALLY SETTLED THE CASE!. For an undisclosed Amount.    The case, now settled at the SEC level, is now being brought back against The FINRA and its leaders  – and as this is written a SHOCKING discovery has just been made public.  In discovery it was disclosed that the IRS NEVER TOLD THE FINRA THAT $35K WAS THE MAXIMUM AMOUNT THEY COULD PAY.  In addition, the opinion letter from the IRS was received in March 2007, some three months AFTER the vote and 4 months AFTER the heads of FINRA claimed the IRS told them that $35k was the maximum amount they could pay. So the simple fact is that the figure of $35,000 was not opined upon by the IRS at the time those statements, web pages and the videotaped interview were made. The “Assertions And Facts” repeatedly made by FINRA may in fact have been cut from whole cloth. A Fraudulant inducement. And the industry, presented with a non-negotiable ultimatum, voted a marginal victory in favor of mergering the regulators, and consolidating oversight into fewer eyes. And we all know how the newly consolidated regulatory authority performed during the consolidation; we see it reflected daily in the announcement of oversight failure after failure. 

Click here to read the complaint in its entirety

A Fraud?

But what of the IRS letter? Did it in fact match what FINRA leadership stated, albeit after the fact? We don’t know, because the FINRA has requested the letter be sealed by the Court. All we know is that the SEC settled nearly immediately when presented with the action.

But the aforementioned begs the question – if they lied, why did they do it? The complaint alleges that:

“The Officer Defendants stood to gain substantially by the transaction, in terms of enormously higher compensation and benefits, vastly elevated prestige and powers resulting from the virtual monopoly regulatory authority created by the transaction, and the higher degree of controlover the Board of the consolideated entity.” 

But What is even more disturbing in the complaint is the allegation that shortly after the rushed merger, all the heads of FINRA received absurd and quite frankly insulting pay raises ranging from 17% to 57%! We’re talking multi-million dollar bonuses. To salaries that were already in the millions.

The complaint also begs other questions, for instance,  why is one Mr. Richard Brueckner of Pershing  apparently entitled to different disclosure requirements then other registered Reps?  We understand that he is head of a powerful brokerage conglomerate,  but at the end of the day he is still a broker. He is still subject to the same regulations that other registered reps are subject to.  Especially those regulations deemed “uniform” for the entire industry.  He  must, as a most simple and basic example, file an accurate U-4. And the Form U-4 clearly requires all registered individuals to disclose that they are subject to an ongoing civil compliant, if it is investment related.  But Mr. Bruekner was apparently named personally for misrepresentations in offering material and has been named personally in a civil class action suit.  Form U-4 requires disclosure:

14h1 have you ever been named as a respondent/defendant in an investment-related, consumer-initiated Arbitration or civil litigation which alleged that you were involved in one or more sales practice violations? (a) is still pending?

Obviously, the suit is still pending and in reading the suit there are multiple areas in where he is directly named…yet he is not required to report this civil suit ?  Imagine if,  as a Broker you were named in a civil class action suit individually by a group that claimed you misrepresented facts in an offering and you failed to disclose it and update your U4- for over 2 years?  You would most likely be facing expulsion! And large fines.

For example, take this recent enforcement action from the FINRA web site:

Midas Securities, LLC (CRD #103680, Anaheim, California) and Jay S. Lee
(CRD #4338187, Registered Principal, AnaheimHills, California)
Submitted: Offers of Settlement in which the firm was censured and fined $15,000.
Lee was fined $15,000 and suspended from association with any FINRA member in any capacity for 45 days. Without admitting or denying the allegations, the firm and Lee consented to the described sanctions and to the entry of findings that they failed to update Lee’s Uniform Application for Securities Industry Registration or Transfer (FormU4) with material information.
The suspension in any capacity is in effect fromOctober 6, 2008, through November 19, 2008.
(FINRA Case #2005000075703)

A total of $30,000 in fines and a suspension of 45 Days! To a truly small firm and broker. For a rule based non-customer affecting issue. While the Big Five were running amok with impunity and getting themeselves and the entire world into hock. While Madoff made off with his last several hundred million of investor funds. (the purposeful policy of pursuing small firms for rule based infractions – while letting the majors get away with all manner of get out -  is well documented. Click here for a primer.)  

An Absolute Power – Absolutely Corrupt?

 There is a pattern here.  All things considered, it appears that if you’re “big enough”, FINRA rules do not apply. If you are big enough, it appears you can simply ignore the most basic of required disclosures. You can committ fraud. If you are big enough, it appears that numerous red-flag audits can simply slip under the rug. If you are big enough, you can surpress complaints that you are running a Ponzi scheme for over a decade! Yup, transparency is the foundation of FINRA principals, but only if you’re a small fry. 

Now if you want to see true transparency, I would ask each and every one of you to try and look up on FINRA’s pages “ASSERTIONS vs FACTS”…Miraculously they have all been removed!?  Go ahead…look it up for your self.  Transparency?  Why do Broker dealers have to save 6 years of every record but NASD/FINRA can remove incriminating evidence after several months?  

At any other historical moment, the alleged conduct might simply be considered reprehensible, or scandlous. But today, amidst the unfolding of the largest financial debacle in world history, the allegations take on new meaning and significance. Previously unsubstantiated claims of favoritism, selective enforcement, and a pattern of wonton corruption gain credence, and further damage our nation’s financial system’s ability to function. And let’s not forget – people have not only been fiancially ruined in this crisis. People have DIED (the body count for Madoff’s Ponzi Scheme alone is heading toward a dozen to date).     

Stay tuned because our next issue will blow your mind even further and may just have you joining this class action suit.

 HOW FINRA PROVES ONCE AGAIN TRANSPARENCY IS A FARSE!

The Sipa and its Board have been approached by various prospective candidates for the National Adjudicatory Council ( NAC) position that is available for a small firm member.  In December, FINRA decided to ‘nominate’ a qualified small firm candidate named James S. Jones of Crews & Associates in Arkansas.  Although he is listed as a Chief Compliance officer, we decided to do some research and then reach out to Mr. Jones and ask him if he would like to post a message to the thousands of Broker Dealer Owners and Brokers who are now members.  It has always puzzled me as to why FINRA (formerly NASD) felt the need to ‘nominate’ a candidate for members.  Are members incapable of accomplishing this feat on their own?  It’s a little puzzling that a owner of a Broker Dealer can file a focus report, Manage his firm, Produce commissions, handle  FINRA audits and WSP’s, Take and pass series 7,24,63,55 exams and dozens more….yet FINRA thinks they would be overwhelmed if they had a sheet of paper in front of them with a half dozen names on it to choose from????

   Transparency Is A FINRA Priority

FINRA always claims that market transparency is one of their most important goals…Yet most of the major scandals on Wall Street have been detected and punished by State Attorney Generals and the FBI.  So with this in mind I looked at the Small firm nominee put forth by FINRA with the hope that they finally might get it and start putting forth candidates that are representative of the group they are representing.  Alas….i expected too much from an organization that is still concentrating on consolidation and power grabs.  Crews & Associates is indeed ‘Classified as a small firm” according to the number of reps they currently employ.  What makes this ‘small firm’ different though is the fact that they are owned 100% by First Security Bancorp!.

Here is a link to the Company web site http://www.fsbank.com  They mention their 100% ownership of Crews and Associates as well as the following:

“Based in Searcy, Arkansas, the privately held First Security Bancorp has the most complete and diverse product offering of any Arkansas-based financial services holding company. Supported by the strength of more than $250 million in total capital and more than $2 billion in assets, First Security has the ability to meet any financing need – right here in Arkansas. With more than 900 employees covering locations throughout the state, we offer solutions for the financial needs of individuals, businesses and the public sector, including a network of local community banks, respected investment banking and wealth management services, public finance, real estate.”

A show of hands please amongst all small firm owners if you have Net Cap of 250 Million, Assets of 2 billion and 900 employees????  Anyone?  Anyone? 

FINRA insists that they must do the nominating, yet are they really trying to give small firms representation that reflects them or is this more of the same old tired Bank shell games?  Im sure Mr. Jones is a very honorable and decent man however, I don’t Mr. Jones looks at his monthly accounts payable versus Accounts Receivables and wonders how on earth he will last one more month let alone the entire year.  New regulation that puts even more burned on the capital of small firms is of little consequence when you have 250 million in Net Capital isn’t it?

2008 was a trying and quite frankly disgusting year for Wall Street.  The large Banking Financial institutions ran amok and unregulated for years and finally it caught up with them, Yet it appears that FINRA is right back to Business as usual.  The last thing the securities Industry needs right now is MORE BANKING INPUT!!!

If you Trust FINRA and its “Transparency” then by all means you should vote for their handpicked choice.  At the very least we would like to hear from Mr. Jones how he can relate to some of the other candidates currently running for a contested spot on the NAC.  For instance, Alan Davidson owner of Zeuss Securities in NY has been running his own small firm for decades and knows what the cost of regulation is and how it can suck the life out of your bottom line. Mr. Davidson doesn’t have a big Bank behind him to pay for fines or to pay for every new compliance tool that is suddenly required due to hasty expensive regulation.  The other Candidate, Mr. David Sobel is also a small firm advocate seeking the NAC position.  Mr. Sobel doesn’t own his firm nor is he in production but his resume indicates a vast legal knowledge of the issues at hand.  The SIPA is not endorsing one specific candidate; however we are asking members to think about which candidate best reflects you.  We have enclosed the resumes of the two contested candidates for you to review.  We believe it’s important that every member of NAC have a little ‘skin’ in the game and that means that ay rule or judgment can directly effect them as well.

From the New York Times

by STEPHEN LABATON
Published in the New York Times   January 11, 2009
Link to the NY Times Article

WASHINGTON — Mary L. Schapiro, who appears this week at a confirmation hearing on her selection to head the Securities and Exchange Commission, has been accused in two lawsuits of making misleading statements to quickly complete a merger of regulatory organizations after which she received a 57 percent raise in her pay.

Among the misstatements that she is accused of making is that the Internal Revenue Service had prohibited the NASD from paying each member more than $35,000 as part of the merger deal. Although an NASD proxy statement issued while the deal was pending said that the I.R.S. would not permit the organization to give more compensation to members, the I.R.S. did not actually issue a ruling on the matter until March 2007, long after the deal closed and three months after the members voted to approve it.

Lawyers representing Ms. Schapiro, Finra and other senior executives have fought vigorously to keep the I.R.S. ruling — and court references to details of that ruling — under seal. Last January, a federal judge in New York denied a request by The New York Times to unseal the ruling and other documents in the case.

Ms. Schapiro’s lawyer has denied the lawsuits’ allegations and, in a recent interview said that the second suit, filed shortly after her selection, is an opportunistic effort to pressure the defendants to settle. The first, dismissed by a federal district judge in New York, is on appeal.

At the S.E.C., Ms. Schapiro would be leading a government regulator that has been battered by setbacks, including its failure to uncover the apparent long-running fraud at Bernard L. Madoff Investment Securities. A recent report by the S.E.C.’s inspector general said the agency had failed to adequately police the markets and regulate Wall Street’s largest investment banks. Congressional critics have said the S.E.C.’s shortcomings contributed to the financial crisis.

The strongest proponents of the merger that created Finra were the more than 200 firms that were members of both the NASD and the New York Stock Exchange. The merger significantly lowered their regulatory expenses, but many of the smaller members were concerned about what benefits they might receive from it.

In an effort to get enough votes from the smaller firms, NASD offered each member $35,000, for a total of about $178 million, and a smaller commitment to reduce future assessments.

Executives said that amount was derived from a calculation of efficiencies from merging the organizations. NASD listed its total outstanding equity in an annual report of more than $1.6 billion. NASD officials, including Ms. Schapiro, said then that the organization could not make a greater payment because the I.R.S. had opposed it because the NASD is nonprofit.

The lawsuits challenge that assertion, saying that evidence that remains sealed undermines the NASD’s description of the I.R.S. ruling. Also sealed is an independent fairness opinion on the merger by the investment bank Houlihan Lokey Howard and Zukin Financial Advisors.

“Our cases raise questions about the transparency, truthfulness and candor of the NASD and its leadership in a major financial transaction with its own members,” said Jonathan W. Cuneo, the lead lawyer in both cases for the member firms. “It’s certainly ironic that the case involves the NASD, which is charged with policing those values in others.”

Defense lawyers said in court papers and an interview that no material misrepresentations were made. They assert that the top executives of the organization, as regulators, are entitled to absolute immunity from lawsuits. They say that the members of the NASD were not entitled to greater compensation because they do not have the same rights as shareholders of a corporation.

“These lawsuits are meritless, and the second suit is just a dressed-up version of the first one that was rejected by a federal judge,” said F. Joseph Warin, a lawyer representing Finra and Ms. Schapiro. “The lawyers are the same, and the arguments are virtually identical. The second suit was filed days after Ms. Schapiro was nominated to become chairman of the S.E.C. It looks to me like a desperate effort to leverage Mary’s nomination to squeeze money out of Finra before her confirmation vote — a last-second Hail Mary pass.”

Mr. Cuneo said that the second lawsuit was in the works long before the announcement of Ms. Schapiro’s appointment and that its filing had nothing to do with her selection.

Herb Perone, a spokesman at Finra, said that following the customary practice of presidential appointees, Ms. Schapiro would not comment about the case while her confirmation proceedings were pending. The Senate banking committee is to consider her appointment on Thursday.

An official at the Obama transition said that the lawsuit had been examined during the vetting process and that Ms. Schapiro would not have been selected if it were seen as a problem.

Kate Szostak, a spokeswoman for the Senate banking committee, said it would study Ms. Schapiro’s record as a regulator, including Finra’s supervision of the Madoff firm and her role in the merger of the NASD and the New York Stock Exchange. Ms. Schapiro has extensive regulatory experience. She served for six years as a commissioner at the S.E.C. before becoming chairwoman of the Commodity Futures Trading Commission in 1994. She arrived at the NASD in 1996 to lead its regulatory arm.

Both suits were filed as class actions on behalf of most members of Finra. The first was filed by Standard Investment Chartered. Federal District Judge Shirley Wohl Kram of New York dismissed that suit a year later without addressing the underlying allegations. The dismissal has been appealed to the United States Court of Appeals for the Second Circuit, in New York.

A second lawsuit by Benchmark Financial Services, was filed three weeks ago in federal district court in New York. Benchmark was founded by Edward A. H. Siedle, a former lawyer at the S.E.C. who investigates pension fraud and other financial abuses. Mr. Siedle has been a plaintiff against other companies over the years and sued the NASD in 2002 after it blocked him from publishing a book about disciplinary proceedings against member firms.

“This case is about a corporate transaction effectuated by deception,” the complaint in the latest case said. “The officer defendants stood to gain substantially by the transaction, in terms of enormously higher compensation and benefits, vastly elevated prestige and powers resulting from the virtual monopoly regulatory authority created by the transaction, and the higher degree of control over the board of the consolidated entity.”

After the merger, Ms. Schapiro’s total compensation rose to more than $3.1 million, from almost $2 million. The pay package, while not outsize by Wall Street standards, is large for a nonprofit organization. Mr. Perone, the Finra spokesman, said the raise was the result of Ms. Schapiro’s promotion to a higher job. He said her predecessor had received about $6 million in compensation. Other top executives at the new entity received pay increases of around 20 percent after the merger.

mebeliUncertainty Tied to Market Turmoil and Political Landscape Requires Close Attention to Compliance