Consumer Education
Investor Alert
BITCOIN SCAM
Bitcoin and other digital currencies have gained attention for their potential, but also for the risks and criminal activity associated with them. In 2013, the SEC charged a Texas man and his company with fraud in a Bitcoin Ponzi scheme. In 2014, the SEC suspended trading in Imogo Mobile Technologies due to concerns about its Bitcoin-related business. Additionally, Mt. Gox, a major Bitcoin exchange, filed for bankruptcy in Japan and the U.S. IPRC warns investors that trading in digital currencies like Bitcoin is highly speculative and carries significant risks, including fraud from companies claiming to offer Bitcoin-related services.
HOW IT WORKS
Bitcoin is a peer-to-peer payment system that uses its own digital currency, also called bitcoin. It operates independently of banks and governments and was introduced in 2009 as open-source software. Bitcoin transactions are verified through a public ledger called the “blockchain,” which ensures authenticity using mathematical proofs.
Bitcoins are created through a process called “mining,” where miners use software to verify transactions and add them to the public ledger. In return, miners earn transaction fees and, occasionally, new bitcoins. There is a finite supply of bitcoins (21 million).
Bitcoins can be bought, sold, and traded online or at physical locations, and stored in a digital “wallet.” Their value fluctuates significantly, and Bitcoin is treated as property for U.S. tax purposes.
BITCOIN RISK
Not Legal Tender: Bitcoin is not recognized as legal currency, and businesses are not obligated to accept it, meaning it can become worthless if no one accepts it. Security Risks: Bitcoin exchanges and digital wallets can be hacked, leading to potential loss of funds. Fraud and Theft: Fraudsters may pose as Bitcoin traders or exchanges to steal money. No Safeguards: Unlike traditional banks, digital wallets offer no safety guarantees. Irreversible Transactions: Bitcoin transactions cannot be reversed once completed, and refunds depend on the vendor. Illegal Activity: Bitcoin’s anonymity has led to its use in illegal activities, which could lead to government crackdowns, restricting or halting its use.
BITCOIN SPECULATION
Bitcoin’s price is highly volatile, with wide fluctuations due to factors like supply and demand, rumors, and platform issues. Speculating with Bitcoin is risky, and investors can lose money. Always avoid speculating with money you cannot afford to lose.
BITCOIN-RELATED SCAMS
When the SEC first brought the Texas case involving bitcoins, it issued a warning about the potential for fraud. As with so many other “hot” or new trends, fraudsters may see the latest digital currency trend as a chance to steal your money through old-fashioned fraud.
Warning signs of fraud include business claims that are not backed by financial reality. For example, newsletters or press releases might claim a company has a viable product or service, but the company’s own filings with the SEC show low revenues and describe the company as a development stage entity. For more information on identifying potential stock frauds in any emerging industry, contact us.
IF A PROBLEM OCCURS
If you believe you’ve been defrauded or treated unfairly by a securities professional or firm, you may FILE A COMPLAINT.
HIGH-YIELD CD’s: RED FLAGS THAT SIGNAL A SCAM
Beware of promotions about certificates of deposit (CDs) promising interest rates that are substantially higher than current averages. We have observed offers for “low-risk” products with outsized returns. Investors should be wary of unsolicited emails and calls that offer outsized interest from financial institutions, including banks and brokerage firms, particularly those with which you have not had a business relationship.
RED FLAGS THAT SIGNAL A SCAM
Red flags that indicate a CD offer may be fraudulent include:
- Interest rates that are significantly higher than average.
- Emails with addresses that are not originated and sent by the financial institution that is cited in the promotion.
- Emails that contain misspellings or grammatical errors.
- Promotions that claim to be from a U.S. financial institution that has aligned with an international bank.
- Promotions that claim to be for a “limited time only.”
- Promotions that claim to be directed at “best customers” and that require extremely high minimum investments (for example, $100,000 U.S. Dollars).
IF YOU RECEIVE AN UNSOLICITED EMAIL OR PHONE CALL
Never provide personal information or authorize any transfer of funds to any unknown person who emails or calls you or to any institution that you have not checked out. If you aren’t sure a communication is legitimate, contact the customer service center or compliance office of the financial institution the emailer or caller claims to work for. Use the number on the firm’s website. If you are a customer of the financial institution that is being referenced, use the contact information found on your account statements or on the back of the bank’s credit or debit card. For email promotions, attach a copy of the promotional email to your correspondence with the firm.
ARE HIGHER RETURNS EVER POSSIBLE?
In low-interest rate environments, investors may be tempted to chase higher yields. But always remember that these higher returns come with a cost. While financial institutions occasionally offer slightly higher than normal rates on CDs, such offers tend to be for (and may be limited to) customers who open a new account. In other instances, a “market-linked” or “structured” CD can legitimately provide potentially higher yields because its performance depends on the performance of a market index or some other benchmark. But as explained, this type of CD is risky and complex—and differs significantly from traditional CDs.
IF YOU THINK YOU’VE BEEN SCAMMED
If you believe you’re a victim of a CD scam, act quickly. Contact your financial institution immediately to report a loss or theft of funds through an electronic funds transfer. If you believe your identity has been stolen, FILE A COMPLAINT to protect yourself.
COLD CALLS FROM BROKERAGE FIRM IMPOSTERS-BEWARE OF OLD-FASHIONED
Recently, we have received reports that scamsters are posing as employees of at least one well-known brokerage firm to obtain personal information. In a new twist to Internet schemes which use spam email to lure you into revealing everything from Social Security numbers to financial account information, it appears that some fraudsters may be resorting to a time-tested method—the telephone call.
SCAM DETAILS
In this scam, fraudsters cold-call potential victims, posing as associates of a well-known brokerage firm. Some of the people who have received such calls are actual customers of the legitimate brokerage firm. The fraudsters claim to offer information about certificates of deposit (CDs), citing yields well above the best rates in the market. The imposters say their supervisor will follow up with more details about the CDs, and sometimes send potential victims applications and forms to transfer funds in an effort to collect additional information. Armed with this information, the fraudsters may attempt to steal the person’s identity or money from an account.
IF YOU RECEIVED AN UNSOLICITED PHONE CALL
Never provide personal information or authorize any transfer of funds to any unknown person who calls you. If you aren’t sure if the caller is legitimate, take these steps to avoid losing money:
Call the customer service center or compliance office of the firm the caller claims to work for—using the number on the firm’s website. Verify the caller’s identity and the legitimacy of the recommended investment.
Sustainability
The federal securities laws require investment professionals and stockbrokers to make appropriate or suitable recommendations to their customers, based on, among other things, the customers tolerance for risk. The sale of unsuitable investments is a form of stockbroker fraud and stockbroker misconduct. Suitability is based on a customer’s age, income, net worth, education, stated investment objectives and prior investment experience.
NASD Conduct Rules require that in recommending to a customer the purchase, sale or exchange of any security, a member shall have reasonable grounds for believing that the recommendation is suitable for such customer upon the basis of the facts, if any, disclosed by such customer as to their other security holdings and as to their financial situation and needs. Despite the temptation to realize excessive returns in the stock market, investors should be aware of risk. Those seeking to double their money in the stock market ought to be prepared to lose it all.
The willful disregard of a customer’s stated investment objectives and tolerance for risk through the sale of excessively speculative or volatile securities is a form of stockbroker fraud or misconduct, which is actionable under the federal securities laws.
The sale of unsuitable investments also includes the failure to properly diversify a customer’s investment portfolio, or the over concentration of that portfolio in volatile, or speculative technology, telecommunication or other securities, including junk bonds.
Stockbroker misconduct, in the form of the sale of unsuitable investments, also includes the recommendation of low priced or speculative securities, where the stockbroker has misstated or omitted the risks inherent in a particular investment, and thereby took risk that the customer was or would have been unwilling to accept. This is a form of stockbroker fraud or misconduct.
The most common examples of unsuitable recommendations by a stockbroker or investment advisor relate to:
Excessive risk. The recommendation of a risky investment to a customer who is seeking more conservative investments or cannot afford significant losses is a form of stockbroker fraud or misconduct.
Over-concentration. The recommendation or failure to diversify a portfolio that is over-concentrated in a small number of stocks or one asset class is a form of stockbroker fraud or misconduct.
Illiquidity. The sale of securities that are illiquid or for which no recognized market exists such as limited partnerships or restricted securities is a form of stockbroker fraud or misconduct.
These obligations on the part of the stockbroker arise out of the “Know Your Customer” Rule.
Churning
Another form of stockbroker misconduct or investment fraud includes excessive activity or churning. Securities brokers are typically compensated by each transaction effected in your securities account. Sometimes brokers effect these transactions in your account, not for the purpose of reasonably fulfilling your stated investment objectives, but instead in an effort to generate excessive commissions for themselves and their firm. Such conduct is called churning. is It is a form of stockbroker fraud or misconduct and is actionable under the federal securities laws.
Churning or Excessive activity is examined in light of the customer’s investment objective and the type of securities being traded. For example, it may be inappropriate to pay a sales charge by buying and selling a mutual fund in a period of, let us say, a year. However, during this same period, it may not be inappropriate for a person seeking to trade options turn over their account twenty times.
Churning is often marked by short holding periods without any appreciable change in securities prices. Churning is often measured by the account’s “turnover rate,” or the total purchases divided by the average value of the account, and the “Goldberg rate,” which is the commissions charged divided by the average value of the account. On an annual basis, these calculations show the number of times your account was turned over and how much your account had to return just be break even after paying commissions. Once again, what is reasonable depends on your acceptance of risk and measure of anticipated returns.
However, if you think that you may have been the victim of excessive activity, you should have your account reviewed by a professional and contact the IPRC for a free evaluation.
Margin Account Fraud
When investors trade on margin, they borrow money from a brokerage firm to purchase securities, increasing the potential for greater returns but also significantly raising the risk of loss. If the value of the securities falls, investors may face margin calls, requiring them to deposit additional funds or securities. If they fail to meet these margin calls, brokers have the right to liquidate the investor’s holdings. Additionally, interest on the margin loan increases the cost of maintaining the account, further elevating the investor’s risk. Brokers are professionally responsible for investigating an investor’s financial capacity before allowing margin trading, ensuring they understand the risks and can handle margin calls. Unsuitable margin credit extensions, where brokers lend more than what the investor can handle, are considered stockbroker fraud or misconduct.
Moreover, some brokers misuse margin accounts to increase the purchasing power of an account, facilitating excessive trading or Margin Account Fraud. If an investor is unable to meet margin calls due to their financial situation, they may be deemed unsuitable for a margin account, and brokers who fail to properly evaluate this risk may be acting inappropriately. The NASD has expressed concern about the growing number of margin accounts and the lack of understanding many investors have about margin requirements, particularly with online brokers. These concerns are compounded when brokers facilitate loans between customers to meet margin requirements, which can lead to conflicts of interest and increase investor risk. In such cases, it is critical for investors to seek professional evaluation of their margin account if they do not fully understand the risks involved. Failure to do so could indicate fraudulent behavior by the broker and potential misconduct.
Unauthorized Trading
Unauthorized trading is a form of stockbroker fraud or misconduct. Unless you have signed discretionary papers giving your broker permission to trade your account without your authorization, your broker is required to obtain your permission before buying or selling securities in your account.
Many unscrupulous brokers place transactions in customer accounts without authorization, and when the client calls to complain, they may convince you to retain the shares because they have increased in value, or will increase in value. Sometimes, this activity may be also blamed on a “computer error.” In either event, if your broker has entered unauthorized transactions in your account, chances are you have fallen prey to other fraudulent devices by this person.
If you have been the victim of unauthorized trading, take action. The failure to act may be deemed tacit approval of these acts, and you cannot be said to have complained later, knowing that you own a particular security, when its price goes down.
Selling Away
If your broker solicits you to purchase securities away from the brokerage firm, your broker is “selling away,” which is a violation of self-regulatory rules and federal securities laws. Typically, these investments are in the form of private placements, or other non-public investments. If you are the client of a brokerage firm, and your broker solicits the sale of these securities away from the brokerage firm. The sale of unregistered securities is a form of stockbroker fraud or misconduct. Under certain circumstances, you may recover from the brokerage firm.
Securities Brokerage firms have a duty to supervise their brokers and the sales practices of their brokers, and to review customer statements for, among other things, evidence of suitability, unauthorized trading, or excessive activity. But for the performance of these duties, most cases of securities fraud may be reasonably prevented. The failure to supervise is a violation of self-regulatory rules. Courts have recognized a cause of action for the negligent failure to supervise, and brokerage firms are liable for the acts of their registered representatives under the common law doctrine of respondent superior, and as control persons under Section 20(a) of the Exchange Act. The failure to supervise is a form of stockbroker misconduct and is actionable under the federal securities laws.
Failure To Execute
Actions based on the failure to execute are difficult, and your broker has a reasonable time to enter orders. However, actions may exist based on your broker’s failure to execute limit orders, or stop loss orders. Actions may also be based upon your broker’s refusal to sell particular securities, or based upon their dissuading you from selling particular securities. If you think that you may have a claim for failure to execute, contact us for a free evaluation.
False Statements or Omission
Omissions of material fact in connection with the sale of securities. False statements often include guaranties, price predictions, or purported special information regarding an important contract, approval, earnings announcement or other newsworthy event. This is a form of stockbroker fraud or misconduct.
Fraud may also take the form of omission by failing to disclose, among other things, the broker’s relationship with the issuer, the domination and control of the market for the security by the brokerage firm, the limited market for the company’s stock, or the lack of any appreciable assets or operating history of the company. However, information is only material if a reasonable investor would rely upon it. Remember, if something is too good to be true, it definitely is.
Mutual Fund Fraud
The sale of back-end loaded Class “B” mutual fund shares, where a customer would otherwise qualify for quantity discounts or “breakpoints” with front-end loaded Class “A” shares, is considered both fraudulent and deceptive. This practice constitutes stockbroker misconduct because it benefits the broker at the expense of the customer. For instance, if a client invests $100,000 across five different funds within a particular family of funds, and purchases $25,000 of Class B shares in each, the broker typically earns a 5% commission, or $5,000. However, should the client decide to sell these Class B shares, they are subject to a surrender penalty that decreases over time, typically disappearing after five years.
Had the client instead opted for Class A shares, they would have been eligible for “breakpoints” based on the total investment, which would have reduced the commission to less than 2%, or $2,000. These breakpoints, or quantity discounts, are meant to lower the investor’s cost of investing when they purchase larger amounts of shares. The broker, aware of this, may intentionally recommend the more expensive Class B shares to maximize their own commissions, even though it’s a disadvantage to the customer.
This practice is considered a clear violation of securities regulations. The NASD (now FINRA) has explicitly labeled it as “fraudulent and deceptive” in its enforcement actions. The intent behind such behavior is to increase commissions by encouraging customers to pay higher fees when they would have been entitled to lower ones, had they purchased Class A shares with the appropriate breakpoints. Securities regulators have taken strong stances against this type of misconduct, emphasizing that brokers must act in the best interests of their clients rather than manipulating transactions for personal gain.
Financial Suicide
Investment professionals, including stock brokers, have a duty to refuse unsolicited transactions when the transactions are inappropriate or unsuitable for a customer based on the financial condition of that customer. Cohen, The Suitablity Doctrine: Defining Stockbrokers’ Professional Responsibilities , 1978 J. Corp. L. 533 (1978); In re Philips & Co. , 37 S.E.C. at 70 (representative’s knowing recommendation of unsuitable security not excused by customer’s belief that security was suitable); In re Powell & McGowan, Inc. , 41 S.E.C. 933 (1969)(registrant had obligation not to recommend a course of action even if he fully disclosed all risks to customer whose financial and physical condition made the recommendations unsuitable); In re Harold R. Fenocchio , ’34 Act Release No. 12194 (given the advanced age of customer, representative had a duty “to make a serious inquiry into the situation of the customer’s investments and to prevent the dissipation of the customer’s capital by excessive turnover”); In Board of Trustees v. Chicago Corp., No. 88-C-3855 (N.D. Ill. 1988) (1988 U.S. Dist. LEXIS 14031)( the court held that a broker had a duty to monitor a client’s investment decisions, which were effected by client’s trustee, and to advise client of soundness of the trustee’s decisions); Duffy v. Cavalier , 215 Cal. App. 3d 1517, 264 Cal. Rep. 3d 740 (1989) (court held that as a fiduciary, the broker had a duty to tell a client that the client’s investment objectives were improper and unsuitable and “to refrain from acting except upon the customers express orders”); Nobrega v. Futures Trading Group, Inc., [1999] Sec. L. Rep. (BNA) Vol. 31, No. 28, p. 950 (CFTC 1999) (broker sanctioned for failing to correct client’s “erroneous beliefs” about safety of commodities trading and failing to stop client from continued trading once aware of these erroneous beliefs).
It is well established that a broker has a duty to provide adequate warnings about investment strategies particularly when trading on margin. See, e.g. Gochnauer v. A. G. Edwards & Co., 810 F.2d 1042 (11th Cir. 1987) (holding broker liable when he advised and assisted customers with conservative investment objectives in establishing a speculative options trading account); Beckstrom v. Parnell , 730 So.2d 942 (La. App. 1998)(imposing liability on broker for failure to warn elderly customer about high costs of switching mutual funds when broker aware of customer’s diminished capacity); Nulph v. First Security Investor Services, Inc., 1998 WL 1179858 (N.A.S.D. Nov. 19, 1998)( unsophisticated divorcee awarded $70,000 for failure of broker to warn of speculative information gathered from internet chat rooms and then placed trades on the telephone without any recommendations).
Under these circumstances, the broker has an affirmative duty to cut a customer off, and stop what has become to be known as “financial suicide.” See, e.g., J. Gross, Economic Suicide: A Primer for Securities Arbitration Lawyers , Securities Arbitration 2003 Vol. I at 387 (PLI 2003). See also, Problem Gambling in the Stock Market and Extent of Brokerage Firm Responsibility for Prevention , Marvin A. Steinberg. Ph.D., Connecticut Council on Compulsive Gambling, Judah J. Harris, J.D., Milford, Connecticut, 1994; Gambling and Problem Gambling in the Financial Markets, Marvin A. Steinberg, Ph.D., Connecticut Council on Problem Gambling, July, 1998; Investing and Gambling Problems, “Some Investors May Be At Risk For Gambling Out Of Control In The Stock Market And Other Financial Markets”; See also, Model Employer Management of a Case of Stock Market Gambling , Judah J. Harris, J.D., Milford, Connecticut, Marvin A. Steinberg, Ph.D., Connecticut Council on Compulsive Gambling, 1994.
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