RBC Capital Markets to pay $1 Million for Failure to Supervise Reverse Convertibles

RBC Capital Markets, LLC, a FINRA member broker-dealer since 1993 headquartered in New York, offers dealing, underwriting, asset management, and brokerage services to the public via 5,300 registered reps operating out of 280 branches. The firm was censured, fined $1M, and ordered to pay $433,898.10 in restitution after consenting to FINRA findings that the firm failed to implement adequate supervision procedures and systems for purposes of complying with securities regulations and guidelines regarding suitability of reverse convertibles. FINRA Letter of Acceptance, Waiver, and Consent, 2010022918701 (Apr. 23, 2015).

According to the Acceptance, Waiver, and Consent, from 2008 through 2012, RBC didn’t develop and implement procedures and systems that FINRA deemed reasonable for purposes of complying with securities regulations and laws, FINRA/NASD rules, and even the firm’s own written procedures regarding reverse convertible sales. The AWC indicated that the firm, via it’s written supervisory procedures, required suitability and guidelines consisting of ascertaining the client’s financial profile, investment objectives, and training for registered reps selling the reverse convertibles. The firm, according to the AWC, prohibited sales of the reverse convertibles for conservative clients who wished to preserve their principal.

The AWC stated that the firm’s electronic transaction surveillance system didn’t flag the reverse convertible transactions in situations where the firm’s customers’ liquid assets, annual income, investment objectives, and net worth fell short of the guidelines/requirements stated in the firm’s supervisory procedures. According to the AWC, RBC executed a minimum of 237 transactions for reverse convertibles where the clients had investment objectives including preservation of principal. Further, according to the AWC, 5,600 reverse convertible transactions had failed to take into account at least 1 of the 3 financial criteria (clients were required to have (1) $100k in annual income, (2) $100k in liquid assets, (3) $250,000 net worth). In 127 cases regarding the reverse convertible transactions, investors reportedly failed to meet any of the 3 criteria. The AWC indicated that these incidents in which the firm failed to abide by its own policies occurred as a result of the failure of supervision systems. FINRA found this conduct to be violative of FINRA Rule 2010 and NASD Rules 2110 and 3010.

The AWC further noted that from January of 2008 through December 31 of 2013, the firm had permitted its registered reps to sell 237 unsuitable reverse convertibles in greater than 100 client accounts where clients wished for preservation of principal. Clients, according to the AWC, lost more than $1.1M in the aggregate. FINRA found that the firm did not have an adequate basis to conclude that the recommendation/sale of such reverse convertibles were actually suitable, especially considering the fact that the firm violated its own WSP’s in this regard. FINRA found this conduct to be in violation of FINRA Rule 2010 along with NASD Rules 2110 and 2310.

According to FINRA, reverse convertibles are complex structured products which take the shape of interest-bearing notes where the principal repayment is linked to the performance of a reference asset (typically a stock, basket of stocks, or index). Upon maturity, if the value of the reference asset has fallen below a certain level (referred to as the knock-in level), the investor could face a loss of principal. Thus, the reverse convertibles expose the investors to issuer risk along with risks of decline in value in the underlying reference asset. The products have limited liquidity and complex payout structures, making it difficult for registered reps and their customers to accurately assess costs, risks, and benefits of investing.

FINRA has also provided, via FINRA NTM 05-59, guidance on member obligations in the sale of structured products. Specifically, firms are required to ascertain accounts eligible to purchase structured products, perform a reasonable-basis suitability determination, perform a customer specific suitability determination, supervise and maintain a supervisory control system, and train individuals recommending the sale.

This is not the first time that RBC has been subject to discipline regarding supervisory failures. Records reveal that in December of 2011, RBC was censured and fined $25,000 after consenting to FINRA findings that it failed in establishing an adequate supervision system to comply with the firm’s guidelines as well as violating FINRA Rule 2440 regarding acceptable markups/markdowns for collateralized mortgage obligations, resulting in the firm charging markups/markdowns at roughly 16.9%. See RBC Capital Markets, LLC, Matter No. 200902094501 (AWC, December 2011).

Further, in December of 2009, RBC was censured and fined $135,000 after consenting to FINRA findings that it violated NASD Rules 2110 and 3010 in the course of executing sale orders for greater than 2 billion shares and 8 issuers which weren’t registered, while also failing to supervise the activities of reps in this regard. See RBC Capital Markets, LLC, Matter No. 20090205457 (AWC, December 2009).

Guiliano Law Group

If you have been the victim of securities fraud and you have a complaint, you should consult with an attorney. The practice of Nicholas J. Guiliano, Esq., and The Guiliano Law Group, P.C., is limited to the representation of investors in claims for fraud in connection with the sale of securities, the sale or recommendation of excessively risky or unsuitable securities, breach of fiduciary duty, and the failure to supervise. We accept representation on a contingent fee basis, meaning there is no cost unless we make a recovery for you, and there is never any charge for a consultation or an evaluation of your claim. For more information contact us at (877) SEC-ATTY.