Taking Stock:Taking Stock:
InsuringInsuring
Securities Broker/DealersSecurities Broker/Dealers
in the New Millenniumin the New Millennium
Percentage of American Households Percentage of American Households with Stock Market Investmentswith Stock Market Investments
C. Conda & D. Clifton, National Review, 10/18/06
53%
17%
1981 2006
Percentage of American Investors Who Percentage of American Investors Who Purchase Mutual Funds through Purchase Mutual Funds through
Financial ProfessionalsFinancial Professionals
USA Today, 3/23/05
65%
59%
1995 2003
Percentage of Mutual Funds Percentage of Mutual Funds Purchased Directly from Fund Purchased Directly from Fund
CompanyCompany
USA Today, 3/23/05
21%
13%
1995 2003
INCREASING IMPORTANCEINCREASING IMPORTANCEOF FINANCIAL OF FINANCIAL
PROFESSIONALSPROFESSIONALS
71% of stock investors rely on 71% of stock investors rely on professional advice in choosing their professional advice in choosing their
investmentsinvestments
Comparison of Market Performance to Comparison of Market Performance to # of Cases Filed# of Cases Filed
Dow Jones, S&P 500 and NASDAQ (10/91 – 10/06)
NASD Arbitrations Filed by Year
0
2,000
4,000
6,000
8,000
10,000
Year
Ca
se
s f
ile
d
NASD Statistics per website
Controversies Involved Controversies Involved in Arbitration Casesin Arbitration Cases
NASD Statistics per website
0
1000
2000
3000
4000
5000
6000
2002 2003 2004 2005 Sep-06
Year
Ty
pe
of
Co
ntr
ov
ers
y Margin Calls
Churning
Unauthorized Trading
Failure to Supervise
Negligence
Omission of Facts
Breach of Contract
Breach of Fiduciary Duty
Unsuitability
Misrepresentation
Online Trading
Security Types Involved Security Types Involved in Arbitration Casesin Arbitration Cases
*Certificates of Deposit were first tracked in January 2001.
NASD Statistics per website
0
500
1000
1500
2000
2500
3000
3500
4000
4500
2002 2003 2004 2005 Sep-06
Year
Typ
e o
f S
ecu
rity
Corporate Bonds
Certificates of Deposit*
Mutual Funds
Options
Common Stock
Limited Partnerships
Annuities
How Arbitration Cases CloseHow Arbitration Cases Close
NASD Statistics per website
0%
10%
20%
30%
40%
50%
60%
2002 2003 2004 2005 Sep-06
Cases Decided by Arbitration
Pe
rce
nta
ge
of
Ca
se
s
After Hearing
After Review ofDocuments
Direct Settlement byParties
Settled Via Mediation
Withdrawn
All Others*
*All Other reasons for closed includes cases closed by: Stipulated Award, Bankruptcy of critical party; Uncured Deficient Claim; Forum Denied; Stayed by Court Action, etc. Note cases counted as closed in this report do not include those cases that closed and were then reopened.
Percentage of Customer Awards Percentage of Customer Awards in Arbitrations by Yearin Arbitrations by Year
NASD Statistics per website
0
10
20
30
40
50
60
2000 2001 2002 2003 2004 2005
Year
Pe
rce
nta
ge
of
Ca
se
s
Note: Percentage of customer claimant award cases has been recalculated to reflect only instances in which investors as claimants recovered monetary damages or non-monetary relief.
SECURITIESSECURITIES EXCHANGE EXCHANGE COMMISSIONCOMMISSION
Primary Overseer/Regulator of U.S. Primary Overseer/Regulator of U.S. Securities MarketsSecurities Markets
Oversees Self-Regulatory Organizations Oversees Self-Regulatory Organizations (NASD, Stock Exchanges, etc.)(NASD, Stock Exchanges, etc.)
Authority includes Enforcement Actions Authority includes Enforcement Actions against b/d’s and individuals for violations against b/d’s and individuals for violations of securities lawsof securities laws
NASDNASD
World’s largest private-sector regulator of World’s largest private-sector regulator of financial servicesfinancial services
Registers securities firmsRegisters securities firms
Writes rulesWrites rules
Examines for complianceExamines for compliance
Brings enforcement actionsBrings enforcement actions
NASD Notices to MembersNASD Notices to Members
Provide notice of recently approved rules Provide notice of recently approved rules & rule amendments& rule amendments
Solicit comment on proposed Solicit comment on proposed rules/amendmentsrules/amendments
Legal interpretation & compliance Legal interpretation & compliance guidelinesguidelines
Central Registration Depository Central Registration Depository (CRD)(CRD)
Central licensing and registration system Central licensing and registration system for U.S. securities industryfor U.S. securities industry
Contains records of more than Contains records of more than 6,8006,800 b/d’s b/d’s and and 660,000660,000 registered individuals registered individuals
Registration, Testing & Registration, Testing & QualificationsQualifications
2 levels of qualification/registration2 levels of qualification/registration
Registered representativesRegistered representatives
PrincipalsPrincipals
Series 6Series 6
Investment Company/Variable Contracts RepresentativeInvestment Company/Variable Contracts Representative
Authorized to sell only investment company products (e.g., Authorized to sell only investment company products (e.g., mutual funds and money-market funds) and variable mutual funds and money-market funds) and variable annuities annuities
Series 7Series 7
General Securities RepresentativeGeneral Securities Representative
Entitled to sell all types of securities products, with the Entitled to sell all types of securities products, with the exception of commodities futures (which require a Series 3 exception of commodities futures (which require a Series 3 license).license).
TYPES OF LICENSESTYPES OF LICENSES
Series 24Series 24
General Securities PrincipalGeneral Securities Principal
This would entitle the holder to supervise trades involving This would entitle the holder to supervise trades involving corporate securities, direct participation programs (DPP’s) corporate securities, direct participation programs (DPP’s) and investment company/variable contracts.and investment company/variable contracts.
Series 63Series 63
Uniform Securities AgentUniform Securities Agent
Qualifies candidates to sell securities and give investment Qualifies candidates to sell securities and give investment advice in those states that require Series 63 registrationadvice in those states that require Series 63 registration
TYPES OF LICENSESTYPES OF LICENSES(cont.)(cont.)
OTHER CERTIFICATIONSOTHER CERTIFICATIONS//DESIGNATIONSDESIGNATIONS
RIA (Registered Investment Advisor)RIA (Registered Investment Advisor)
CFP (Certified Financial Planner)CFP (Certified Financial Planner)
CLU (Certified Life Underwriter)CLU (Certified Life Underwriter)
BROKER FEES:BROKER FEES:FIXEDFIXED V. COMMISSIONV. COMMISSION
Fee-Based v. Commission per TradeFee-Based v. Commission per Trade
Conflicts in each?Conflicts in each?
THE “MERRILL RULE:”THE “MERRILL RULE:”Tempest in a Teapot?Tempest in a Teapot?
SEC Rule passed in April 2005SEC Rule passed in April 2005
Allows b/d’s to offer fee-based accounts Allows b/d’s to offer fee-based accounts without registering as Investment Advisors without registering as Investment Advisors as long as advice is “incidental” to as long as advice is “incidental” to Brokerage ServicesBrokerage Services
Broker Prohibited ConductBroker Prohibited Conduct
Recommending unsuitable investments Recommending unsuitable investments
Unauthorized tradingUnauthorized trading
““Churning” (Excessive trading to increase Churning” (Excessive trading to increase commissions)commissions)
““Switching”/Break Point Sales Switching”/Break Point Sales
Broker Prohibited ConductBroker Prohibited Conduct(cont.)(cont.)
Misrepresenting or failing to disclose material Misrepresenting or failing to disclose material factsfacts
Conflict of interestConflict of interest
Guaranteeing there will be no monetary loss, Guaranteeing there will be no monetary loss, making price predictions or agreeing to share making price predictions or agreeing to share in lossesin losses
Broker Prohibited ConductBroker Prohibited Conduct(cont.)(cont.)
Purchasing/selling security while Purchasing/selling security while possessing material, non-public possessing material, non-public informationinformation
“ “Selling away”Selling away”
Using manipulative, deceptive or Using manipulative, deceptive or fraudulent device affecting transactionfraudulent device affecting transaction
Broker Prohibited ConductBroker Prohibited Conduct(cont.)(cont.)
Conducting private securities Conducting private securities transactions/sharing accountstransactions/sharing accounts
““Front running”Front running”
Failing to use reasonable diligence to ensure Failing to use reasonable diligence to ensure order is executed at best possible priceorder is executed at best possible price
FAILURE TO SUPERVISEFAILURE TO SUPERVISE
Principal can be liable for actions of broker Principal can be liable for actions of broker who engages in prohibited conduct if who engages in prohibited conduct if principal “failed to properly supervise” the principal “failed to properly supervise” the brokerbroker
NASD ARBITRATIONNASD ARBITRATION
All industry disputes (member v. member, All industry disputes (member v. member, member v. registered rep., etc.) are member v. registered rep., etc.) are subject to mandatory arbitration (except subject to mandatory arbitration (except employment discrimination claimsemployment discrimination claims
Customer disputes subject to mandatory Customer disputes subject to mandatory arbitration arbitration only ifonly if there is a signed, there is a signed, enforceable arb. agreementenforceable arb. agreement
NASD ArbitrationNASD Arbitration(cont.)(cont.)
NASD Code of Arbitration Procedure sets NASD Code of Arbitration Procedure sets rules/proceduresrules/procedures
Up to Up to 6 years6 years to file Claim to file Claim
Initiated by filing Statement of ClaimInitiated by filing Statement of Claim
NASD ArbitrationNASD Arbitration(cont.)(cont.)
1 or 3 Arbitrators (depending on amt in 1 or 3 Arbitrators (depending on amt in controversy)controversy)
Minimal Discovery (no depos, etc.)Minimal Discovery (no depos, etc.)
FINAL AWARD IS NOT APPEALABLE FINAL AWARD IS NOT APPEALABLE (absent evidence of fraud, etc.)(absent evidence of fraud, etc.)
Looking Ahead:Looking Ahead:Evaluating B/D Risk in the New Evaluating B/D Risk in the New
CenturyCentury
““DOW 12,000”: Another Bust Coming?DOW 12,000”: Another Bust Coming?
““Alternative Investments:” The Next Tech Alternative Investments:” The Next Tech Market?Market?
Increased Regulation = Decreased Risk? Increased Regulation = Decreased Risk?
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