Preventing and Detecting Stockbroker Misconduct

Because of a lack of expertise, investors often are unable to detect stockbroker misconduct. There are a number of factors that investors should consider before entrusting their money to a stockbroker.

1. Broker Licensing Requirements and Common Misconceptions

Many investors believe that all brokers are highly trained in the areas of finance and investment portfolio management. But most stockbrokers are merely salespeople trained to sell investments. Brokerage firms generally provide little if any financial or investment management training. Instead, brokers primarily receive training concerning how to sell investments over the telephone and how to convince people to send their money to the broker.

While some brokers are competent, the NASD does not require stockbrokers even to have a high school diploma. Moreover, the requirements to become a broker are minimal. Brokers must pass the NASD’s 260-question, multiple-choice test. Applicants have six hours to complete the exam, and must answer 70% of the questions correctly. Some states also have a licensing exam. Once an applicant passes the NASD exam (and any necessary state licensing exam), the NASD performs a criminal background check. If no felony charges are discovered, the applicant becomes a registered stockbroker.

Another misconception is the importance of brokers’ titles. Many stockbrokers have titles such as Vice President. These titles generally are not earned by longevity in the industry or success in meeting client investment goals. Instead, these titles regularly are given to brokers who generate certain levels of commissions for the brokerage firm. Therefore, the titles have no relation to a broker’s expertise or quality of investment advice.

2. Steps That Can Be Taken to Avoid Being Victimized

Not all stockbroker misconduct can be prevented, but investors can take certain steps to avoid being victimized. These steps include: (a) investigating a broker’s background; (b) completing new account forms accurately; (c) reviewing trade confirmations and monthly account statements for unsuitable investments, unauthorized trading, and excessive trading; (d) following up on “happiness” letters, which reflect possible improper account activity; (e) addressing questionable account activity as soon as possible; (f) closing their accounts and finding another broker if improper conduct is recognized.

a. Investigating a Broker’s Background

Investors can avoid certain pitfalls by doing simple research before opening a brokerage account. Brokers must register with each state in which they intend to solicit clients. The background of every licensed broker is maintained in the Central Registration Depository (“CRD”), a computerized database. The CRD often will reveal if clients have filed complaints against the broker, the amount of money paid to resolve the complaints, and whether the NASD or NYSE ever have fined or suspended the broker.

Investors can obtain this information at www.nasdbrokercheck.com or via e-mail to the state of Florida at dknoll@dfs.state.fl.us. Investors also can request a broker’s CRD by telephoning the NASD at (800) 289-9999 or the state of Florida at (850) 413-3100 or (850) 410-9805.

b. Reviewing New Account Forms

When an investor opens a brokerage account they are required to sign various forms. Among these are forms that will reflect the client’s investment objectives, risk tolerance, income, and net worth. These documents must be completed accurately because brokerage firms rely on them to determine if account investments are suitable. Investors should review these completed forms carefully to ensure that the information on the forms is accurate.

c. Reviewing Account Statements and Trade Confirmations

Investors should review their trade confirmations and monthly account statements as soon as they receive them. Investors should look for the previously discussed signs of unsuitable investments, unauthorized trading, and excessive trading. Investors should not rely on account summaries prepared by their brokers rather than the brokerage firm’s actual monthly account statements.

d.“Happiness” Letters Do Not Mean the Investor Should Be Happy

Brokerage firms generate reports that reveal questionable account activity. When accounts appear on these reports, many firms send letters to the clients, commonly referred to as “happiness” letters. The supposed purpose of these letters is to inform clients of account activity that could indicate stockbroker misconduct. But these letters often do not contain any language that alerts the clients of any particular problem. Instead, the letters often only instruct clients to contact the branch manager with any questions. Clients receiving these letters should recognize them for what they are – warning signs that they might be victims of stockbroker misconduct.

Recipients of these letters should contact the branch manager and inform the branch manager of their investment objectives and risk tolerance. They then should ask if there is any account activity that is inconsistent with their investor profile. If the branch manager identifies any problems, the clients should request that changes be made to resolve the problems. These clients also should consider changing brokers or brokerage firms.

e. Address Questionable Activity Immediately

Delays in contacting a broker and branch manager about account-related problems can decrease the viability and value of a claim. As such, clients who suspect questionable activity in their accounts should address these issues with brokers and branch managers as soon as the problem is suspected. Moreover, these concerns should be documented in writing to brokers and branch managers.

f. Close the Account

Last, but certainly not least, if broker misconduct is recognized, clients should consider closing their accounts and finding another broker.