Many laws and regulations regarding the trading of securities have been laid out by the Financial Industry Regulatory Authority (FINRA) and the United States Securities and Exchange Commission (SEC). Among these are rules to prevent unauthorized trading. A trade is considered unauthorized if it was carried out with prior knowledge and approval from the client.
At Meyer Wilson, we have handled countless unauthorized trade cases. Our team of investment fraud lawyers has worked diligently to ensure our clients recover the compensation they need and deserve after an unauthorized trade costs them money. Learn more about how our team can help through a free consultation with a lawyer from our firm.
Unauthorized Trading Violates Both FINRA and SEC Regulations
Making a trade with an investor’s money without first receiving authorization from the client is a violation of the regulations set forth by both FINRA and the SEC. Even if the trade results in financial gains for the client, the broker who made the trade still violated the law.
When making this type of trade results in losses for the investor, the consequences faced by the broker and the brokerage firm where they work can include a FINRA arbitration or civil lawsuit filed by the investor in addition to any civil penalties administered by the SEC or FINRA or criminal charges filed by the United States Department of Justice (DOJ).
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Preventing Unauthorized Trading
In efforts to prevent unauthorized trading that has the potential to result in significant losses for investors, brokerage firms must have a clear set of internal policies and procedures in place to prevent unauthorized trading from occurring.
By ensuring that the brokers at their firm are aware of the rules and regulations and how to avoid violations of FINRA and SEC policies, financial firms can protect themselves from litigation while providing better services for their clients.
Regulations Regarding Unauthorized Trading
Three primary regulations govern unauthorized trading. To ensure they comply with all relevant rules, brokerage firms must familiarize themselves with all three.
SEC Rule 10b-5
This regulation establishes the obligation of those working in the securities industry not to deceive or defraud investors, including prohibiting unauthorized trading.
Making trades with an investor’s money is covered under this rule, as doing so constitutes an omission of fact. Investors have the right to know what is happening with their money, and failing to inform and obtain authorization for a trade before making it fails to uphold the trust placed in a broker by the investors they serve.
SEC Regulation Best Interest (Reg BI)
An additional regulation enacted in 2019 and effective in 2020, creates further protections for investors in regard to their relationship with their financial advisor. There are four main obligations laid out in this regulation that all relate to trade authorization. These obligations include:
- Disclosure
- Care
- Conflict of interest
- Compliance
Disclosure
This part of the regulation requires brokers and brokerage firms to provide investors with written disclosure of all material facts relating to the terms of the relationship and conflicts of interest that accompany a recommendation. Making any trade without authorization from a client will violate this disclosure responsibility in almost all cases.
Care
This section of the regulation requires brokers and brokerage firms to have a reasonable belief that all recommendations they make are in the best interests of their clients and not place their own interests ahead of those whose money they handle.
Violations of this section of the regulation are most common when brokers make a series of transactions, as the client may have given approval for a single transaction but not the full set.
Conflict of Interest
With this section of the regulation, brokers must not make a trade that violates their investor’s interest in support of their own. A conflict of interest is often present in unauthorized trading cases, as the broker fails to get approval from the client because they are unable to justify how the transaction benefits the investor.
Compliance
The final section of this regulation states that brokerage firms must establish written policies for achieving compliance with the other sections of the regulation and enforce these policies with their brokers.
If appropriate compliance procedures are not created and followed, unauthorized trading can occur. Furthermore, authorized trades may not have the appropriate paperwork, which could result in the firm being unable to defend themselves against an unauthorized trade claim, even if they did get approval from the client.
FINRA Rule 3260
Under this rule, brokers and brokerage firms are prohibited from engaging in excessive transactions. Additionally, it requires controls related to trading in a client’s discretionary account. Like the SEC regulations, this rule protects investors by working to eliminate unauthorized trading.
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Authorized Vs. Unauthorized Trading
While all trades made with an investor’s money need to be authorized, identifying what qualifies as authorization can be complex.
Direct Authorization
A transaction is authorized if an investor receives all the pertinent information about an investment opportunity from their broker and provides express authorization to the broker to make the transaction. This authorization must be properly documented to show proof the approval was obtained.
Discretionary Account Trading
When a client opens a discretionary account, consent for all money invested in that account is given by signing the paperwork involved in opening the account. A discretionary account gives the broker the ability to execute trades that comply with the terms of the account without getting express permission from the client for each transaction. However, the trade must still be suitable and in the client’s best interest.
Margin Account Trading
A broker and brokerage firm can also make trades at their own discretion with money in an investor’s margin account as long as they provide full disclosure. A margin account is an account involving securities purchased by an investor with money loaned from their broker, with the investments serving as collateral for the loan.
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When you have lost money due to unauthorized trading of your investment, securing the services of an experienced investment fraud lawyer can prove critical. At Meyer Wilson, we have recovered more than $350 million in damages for our clients. With over 75 years of combined experience, our team is ready to help you today.
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