The Securities and Exchange Commission (SEC) investigates broker-dealer’s actions, including cases of misrepresentation, market manipulation, theft of customers’ funds, illegal schemes and the sale of unregistered securities. If the broker-dealer violates a securities law, the SEC enforces administrative action and civil penalties. In other circumstances, an investor may file a complaint with Financial Industry Regulatory Authority (FINRA).
Recently, a complaint was filed against Robert O. Klein (Klein) and J.P. Morgan Securities LLC (J.P. Morgan). The client asserted the following claims, the broker-dealer and the securities firm breached their fiduciary duty, broker-dealer’s investment strategy used unauthorized margin transactions, and the broker-dealer selected investments that were unsuitable for their account. Although Klein denies any misconduct, J.P. Morgan has settled two claims against Klein. In both instances, clients alleged that the investment strategy was unsuitable and overly concentrated in a short Treasury bond positions. Klein responded to these allegations by stating that the losses were the result of a rapid deterioration in market conditions and he employed the appropriate investment strategy.
Although each investor portfolio differs, Klein appears to be facing allegations of employing unsuitable investment strategies in four other cases pending before FINRA. The claimants allege that Klein misrepresented the level of risk and used margins to leverage managed accounts. Past allegations faced by Klein have dealt with Zero Coupon Treasury bond (Zero Coupon Treasuries).
A broker-dealer or investment adviser may invest in Zero Coupon Treasuries depending on the investor’s risk tolerance. A zero coupon Treasuries is a type of bond in which the bond price is lower than the face value. The original bond payments occur based on periodic coupon payments. For a zero coupon Treasuries, these payments are “striped” away from the final principle payment and sold as separate securities. The bond’s value is derived from the underlying security.
The Zero Coupon Treasuries price inversely correlates to interest rates. If the interest rate increases by 1%, then the value of a 30-year zero coupon bond will drop by 25%. The risk associated with the bond is compounded if the bonds are purchased on margin. Purchasing a bond on 50% margin correlates to doubling the amount of risk and purchasing on 75% margin will quadruple the risk.
Depending on the strategy implemented by the broker-dealer, a Zero Coupon Treasuries does have advantages. One of the main benefits to zero coupon Treasuries is the investor avoids reinvestment risk and is guaranteed a return. Furthermore, the underlying securities are guaranteed by the full faith and credit of the U.S. government. Finally, the zero coupon Treasuries are actively traded on the secondary market which means the security enjoys considerable liquidity.
However, investors should be wary of fraudulent tactics employed by their broker-dealer or investment adviser. Despite the investor’s conservative investment objectives, the broker-dealer may employ a high risk strategy of trading the Zero Coupon Treasuries on a short-term basis. The broker-dealer systematically churns the investor’s account portfolios by buying and selling the security within a matter of days or even within the same day. In other instances, the account is leveraged to finance bond purchases that the investors cannot afford.
The attorneys at Gana LLP are experienced in investigating claims of excessive trading and churning. By applying a detailed and forensic approach, the attorneys at Gana LLP can understand your investment activity in order to explain those losses and apply the appropriate law to advance your claims. Our consultations are free of charge and the firm is only compensated if you recover.