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Monthly Archives: December 2010

2010: A Year in Review

Medical Capital Holdings. Securities America. Behringer Harvard REIT I. Main Street Natural Gas Bonds. Tim Durham. Fannie Mae, Freddie Mac Preferred Shares. Goldman Sachs CDO Fraud. Lehman Structured Notes. These names were among the hot topics that dominated the investment headlines in 2010.

In January, Securities America was accused by Massachusetts Secretary of State William Galvin of misleading investors and intentionally making material misrepresentations and omissions in order to get them to purchase private placements in Medical Capital Holdings. Medical Capital was sued by the Securities and Exchange Commission (SEC) in July 2009 and placed into receivership. Its collapse ultimately created about $1 billion in losses for investors throughout the country.

According to the Massachusetts complaint, as well as other state complaints that would follow, many investors were unaware of the risks involved in their Medical Capital private placements. They also didn’t know about the crumbling financial health of the company. Securities America, on the other hand, was fully aware of both, regulators allege.

In February, non-traded real estate investment trusts like the Behringer Harvard REIT I became front-page news, as investors filed complaints over what their brokers did and did not disclose about the investments. In the case of Behringer and other non-traded REITs, including Cornerstone, Inland Western and Inland American, investors found themselves blindsided after discovering their investments were high-risk, illiquid and contained highly specific and lengthy exit clauses.

In March, rogue brokers Bambi Holzer faced charges in connection to sales of private placements in Provident Royalties. Like Medical Capital Holdings, the SEC charged Provident with securities fraud, citing $485 million in private securities sales. In March 2010, the Financial Industry Regulatory Authority (FINRA) formally expelled Provident Asset Management LLC, the broker-dealer arm of Provident.

Ponzi schemes were big news, as well, in March. Heading the list of offenders was Rhonda Breard, a former broker for ING Financial Partners. State regulators contend Breard scammed nearly $8 million from investors in a Ponzi scheme that allegedly had been going on since at least 2007.

In April, Goldman Sachs and its role in the financial crisis faced new scrutiny by Congress. Internal emails became the driving force behind the interest. Eventually, charges were filed by the SEC over a synthetic collateralized loan obligation – Abacus 2007-ACI – that produced about $1 billion in investor losses. Goldman later reached a settlement with the SEC, paying a $550 million fine. The fine remains the biggest fine ever levied by the SEC on a U.S. financial institution. Goldman also acknowledged that its marketing materials for Abacus contained incomplete information.

In May, FINRA stepped up its own scrutiny of non-traded REITs. On its watch list: Behringer Harvard REIT I, Inland America Real Estate Trust, Inland Western Retail Real Estate Trust, Wells Real Estate Investment Trust II and Piedmont Office Realty Trust. In particular, FINRA began to probe the ways in which broker/dealers marketed and sold non-traded REITs to investors.

In June, 49 broker/dealers found themselves named in a lawsuit involving sales of Provident Royalties private placements. The lawsuit, filed June 21 by the trustee overseeing Provident – Milo H. Segner Jr. – charged the broker/dealers of failing to uphold their fiduciary obligations when selling a series of Provident Royalties LLC private placements. Among the leading sellers of private placements in Provident Royalties were Capital Financial Services, with $33.7 million in sales; Next Financial Group, with $33.5 million; and QA3 Financial Corp., with $32.6 million.

In July, Fannie Mae and Freddie Mac were back in the news, as a rash of investors began filing lawsuits and arbitration claims over preferred shares purchased in the companies. In 2007 and 2008, investment firms like UBS, Morgan Stanley, Citigroup, Merrill Lynch and others sold billions of dollars in various series of preferred stock issued by the two mortgage giants. According to investors, however, the brokerages never revealed key information about the preferred shares, including the rapidly deteriorating financial health of Freddie Mac and Fannie Mae and the fact that both companies had a growing appetite for risky lending, excessive leverage and investments in toxic derivatives.

In August, new issues regarding retained asset accounts (RAAs) came to light. Specifically, RAAs allow insurers to earn high returns – 4.8% – on the proceeds of a life insurance policy. Meanwhile, beneficiaries often receive peanuts via interest rates as low as 0.5%. Adding to the issues of RAAs is the fact that the products are not insured by the Federal Deposit Insurance Corp. (FDIC).

In September, new concerns about the suitability of leveraged, inverse exchange-traded funds (ETFs) for individual investors began to crop up. Among other things, regulators cautioned investors about the products and stated that they may be inappropriate for long-term investors because returns can potentially deviate from underlying indexes when held for longer than single trading day.

In October, the ugliness associated with some non-traded REITs gained new momentum. A number of non-traded REIT programs eliminated or severely limited their share repurchase programs. At the same time, some non-traded REITs continued to offer their shares to the public. As of the first quarter of 2010, this group included Behringer Harvard Multi-family REIT I, Grubb & Ellis Apartment REIT, Wells REIT II, and Wells Timberland REIT.

In November, sales of structured notes hit record highs of more than a $42 billion. Leading the pack in sales of structured notes was Morgan Stanley at $10.1 billion, followed by Bank of America Corp., which issued $7.9 billion.

Because of their complexity, structured products are not for those who don’t fully understand them. Moreover, once an investor puts money into a structured product, he or she is essentially locked in for the duration of the contract. And, contrary to promises of principal by some brokers, investors can still lose money – and a lot of it – in structured notes.

Case in point: Lehman Brothers Holdings. Investors who invested in principal-protected notes issued by Lehman Brothers lost almost all of their investment when Lehman filed for bankruptcy in September 2008.

Also big news in November 2010: Tim Durham and Fair Finance. The offices of Fair Finance were raided by federal agents of Nov. 24. On that same day, the U.S. Attorney’s Office in Indianapolis filed court papers alleging that Fair Finance operated as a Ponzi scheme, using money from new investors to pay off prior purchasers of the investment certificates. According to reports, investors were defrauded out of more than $200 million.

The effects of Lehman Brothers’ bankruptcy continued to unfold in December 2010 for many investors who had investments in Main Street Natural Gas Bonds. Main Street Natural Gas Bonds were marketed and sold by a number of Wall Street brokerages as safe, conservative municipal bonds. Instead, the bonds were complex derivative securities backed by Lehman Brothers. When Lehman filed for bankruptcy protection in September 2008, the trading values of the Main Street Bonds plummeted.

Many investors who purchased Main Street Natural Gas Bonds did so because they were looking for a safe, tax-free income-producing investment backed by a municipality. What they got, however, was a far different reality.

Former Wachovia Reps Preyed On Elderly, SEC Says

Ex-Wachovia Securities brokers William Harrison and Eddie Sawyers told clients they had a “sure thing” for them to invest in – complete with 35% returns and no chance of losing their principal. Instead, investors ended up losing $8 million.

In a federal fraud lawsuit filed last week, the Securities and Exchange Commission (SEC) says Harrison, 33, and Sawyers, 45, created a “business” called Harrison/Sawyers Financial Services as a subterfuge to entice their clients to invest in a new investment product that promised big returns and no risk. The SEC says the two focused almost entirely on elderly customers, many of whom were unsophisticated investors.

According to the complaint, Harrison and Sawyers made numerous misrepresentations about the products they were selling. In one instance, Harrison told an investor that the money was being placed in stocks, when it was actually being used for high-risk options trading. The SEC says both men asked clients to sign blank forms, then filled out the forms designating Harrison’s wife, Deana, as the clients’ agent and power of attorney.

Harrison and Sawyers also created user IDs and passwords for some clients’ accounts on an online trading site called optionsXpress, as well as set up the accounts so that clients wouldn’t receive statements, according to the charges.

Meanwhile, Harrison and Sawyers were profiting from their scheme. In July 2008, the two men withdrew $234,000.

In early fall, as the financial crisis began to take hold, Harrison and Sawyers started to lose large amounts of their clients’ money. Some clients’ accounts fell 70%. One couple invested $100,000 and later learned that their account had dwindled to $16,000, the lawsuit says.

Harrison resigned from Wachovia Securities on Oct. 13, 2008. In his letter of resignation, he stated that he had “misdirected” $6.6 million of his clients’ money. Sawyers resigned the following day.

Most of the investors who became victims of Harrison and Sawyers had their money in conservative investment products and no knowledge of how to invest in stocks and bonds or how to read financial statements. Many were retired and living on fixed incomes, the SEC says.

Ex-Wachovia Brokers Accused Of Defrauding Elderly Clients

Two former Wachovia Securities brokers – William Harrison and Eddie Sawyers – are accused of misleading dozens of elderly clients into investing in what they called a sure thing. Instead, investors lost approximately $8 million, according to a lawsuit filed Dec. 15 by the Securities and Exchange Commission (SEC).

The SEC complaint alleges that Harrison and Sawyers misrepresented the investment strategies they were selling to at least 42 clients in 2007 and 2008. Among their promises: A guarantee of 35% returns without any risk to investors’ principal investment. In reality, the brokers were using investors’ money to trade securities in risky online deals.

The SEC said that in July 2008, Harrison and Sawyers withdrew $234,000 from three client accounts as compensation for their management services. They split the amount.

As reported Dec. 16 by Bloomberg, the SEC accuses the duo of recruiting Wachovia investors to a new business venture called Harrison/Sawyers Financial Services.

According to the complaint, Harrison and Sawyers touted their venture as “an essentially foolproof investment plan guaranteed to make money regardless of market conditions.”

Instead, investors – all of whom the SEC says were “unsophisticated investors” – lost big.

In one instance, Harrison and Sawyers reportedly told a husband and wife who had invested $100,000 that their money had “maxed out” by achieving a 35% return. In truth, the couple’s investment had lost nearly $84,000.

Most of the investors involved in the scheme were more than 50 years of age. Some were retired and living on fixed incomes, the SEC says.

In addition to allegations of misrepresentation, the lawsuit says that the two brokers set up online brokerage accounts in some clients’ names, while pooling the investment money from other clients into accounts set up in the name of Harrison’s wife and in a joint account held by the Harrisons.

If you’ve suffered losses while doing business with William Harrison and Eddie Sawyers, please contact our securities fraud team. We will evaluate your situation to determine if you have a claim.

Cornerstone, Other Non-Traded REITs Haunt Investors

Their names may be different – Cornerstone Core Property, Inland American, Inland Western and Behringer Harvard REIT I – but these non-traded real estate investment trusts (REITs) have produced similar financial woes for their investors.

Non-traded REITs can be tricky investments. The products do not trade on national stock exchanges. Redemptions in them are limited at best; most non-traded REITs entail a lengthy holding period – in some instances, up to eight years.

The biggest fault concerning non-traded REITs is one of transparency. Non-traded REITs generally provide no independent source of performance data for investors. Instead, investors must rely on the broker/dealer responsible for pitching and selling the the investment.

And therein lies the problem.

In recent months, numerous complaints have come to light concerning non-traded REITs and, specifically, the broker/dealers behind the deals. Investors allege that they were never given complete details about their investment, as well as the many risks associated with non-traded REITs in general.

The lack of disclosure may have something to do with the high commissions and fees that broker/dealers take in from sales of non-traded REIT shares. In many cases, these fees are 15% or more.

This year, many investors in non-traded REITs have had to face a harsh reality. Instead of getting the stability, liquidity and a reliable source of income they were initially promised by their broker/dealers, they received dividend cuts and elimination of shareholder redemption programs.

Earlier this year, the Financial Industry Regulatory Authority (FINRA) began to take a keen interest in non-traded REITs by conducting a sweep of the promotion practices and sales of broker/dealers associated with the products.

Maddox Hargett & Caruso currently is investigating sales of non-traded REITs, including Cornerstone, Inland American, Inland Western and Behringer Harvard. If you’ve suffered financial losses of $100,000 or more in a non-traded REIT and believe those losses are the result of inadequate information on the part of your broker/dealer, please Contact Us.

Broker/Dealers Face Lawsuit Over Failed DBSI TIC

Sales of tenant-in-common exchanges (TICs) have come back to haunt a number of broker/dealers, as they face a lawsuit brought by the trustee of one of the biggest creators and distributors of TICs – DBSI Inc.

DBSI, which defaulted on its payments to investors in 2008, has filed for Chapter 11 bankruptcy protection. Now, James Zazzali, the trustee in charge of the bankruptcy, is taking legal action against nearly 100 broker/dealers that sold the doomed product. The lawsuit, which was filed in November, alleges that the TIC from DBSI was actually a $600 million Ponzi scheme.

As reported Dec. 8 by Investment News, the five biggest earners of commissions for selling DBSI include: Berthel Fisher & Co. Financial Services Inc.; QA3 Financial Corp.; DeWaay Financial Network LLC; The Private Consulting Group, which shut down last year; and Questar Capital Corp.

Many of the firms listed in the DBSI lawsuit already are waging similar legal battles over failed private-placement deals. Among those on the DBSI list: Brecek & Young Advisors Inc., which merged into Securities America Corp. in 2009; KMS Financial Services; J.P. Turner Co. LLC; and Alternative Wealth Strategies Inc.

Unlike other private-placement investments that have hit hard times recently, DBSI has not been charged with fraud by the Securities and Exchange Commission (SEC). In July 2009, two high-profile private placements, Medical Capital Holdings Inc. and Provident Royalties LLC, were sued by the SEC for fraud. In the case of Provident Royalties, more than 40 broker/dealers that sold the product have been sued by Provident’s receiver.

A TIC is a real estate investment in which two or more parties own a fractional interest in a select property. The investments became popular in 2002 after the Internal Revenue Service ruled that investors could defer capital gains on real estate transactions involving the exchange of properties.

SEC Plans To Tighten Custody Rules Of Broker/Dealers

Fraud allegations and failed deals over private placements connected to issuers like Medical Capital Holdings have sullied the reputation of countless broker/dealers this year. Some have closed up shop entirely, while others, like Securities America, are the subject of arbitration claims and lawsuits by investors.

The Securities and Exchange Commission (SEC) now has plans to beef up regulatory oversight of broker/dealers in an attempt to hold them more accountable for their customers’ assets. As reported Dec. 6 by Investment News, the SEC’s efforts would bring in the Public Company Accounting Oversight Board to inspect auditors of all broker/dealers.

The accounting industry will play a crucial role in helping investors regain confidence in the wake of [Bernie] Madoff’s scheme and the 2008 financial crisis, said SEC Chairman Mary Schapiro in a Dec. 6 speech at an American Institute of Certified Public Accountants conference in Washington.

“We will consider increasing surveillance of brokerages in custody by providing information and tools for new examiners regulation,” Schapiro at the conference. “Our markets depend on confident investors – and our efforts will succeed only if those investors believe the numbers that you write on the bottom line.”

JPMorgan Chase Being Sued Over Madoff Fraud

JP Morgan Chase, the main banker for the now-jailed Bernie Madoff, is being sued for $6.4 billion by the trustee charged with liquidating the former financier’s business. According to a statement made earlier this week by trustee Irving H. Picard, the lawsuit is based on claims that JP Morgan aided and abetted Madoff’s fraud.

“JPMorgan was willfully blind to the fraud, even after learning about numerous red flags surrounding Madoff,” David J. Sheehan,” counsel to Picard, said in the statement. “JPMC was at the very center of that fraud, and thoroughly complicit in it.”

Any money recovered from JPMorgan will be returned to Madoff’s victims on a pro rata basis, Picard said.

As reported Dec. 2 by Investment News, the lawsuit is the second-biggest filed by Picard in the Madoff bankruptcy. In May 2009, Picard filed a $7.2 billion claim against investor Jeffry Picower, who later died in October 2009.

Last month, Picard sued UBS AG for at least $2 billion, claiming the company also helped Madoff in his fraud.

Madoff currently is serving a 150-year prison sentence after admitting his guilt in the biggest Ponzi scheme – $65 billion – in U.S. history. Meanwhile, investors who were defrauded by Madoff lost some $20 billion in principal.

Next Financial Hit With $400K Fine By FINRA

For the third time in three years, Next Financial Group has been fined by the Financial Industry Regulatory Authority (FINRA). The latest is a $400,000 fine, plus $102,000 in restitution to clients.

According to FINRA’s Broker Check Web site, the action is attributed to Next Financial failing to “have a reasonable system for reviewing the transactions of its registered representatives for excessive trading.”

The allegations by FINRA go on to state that one representative was able to churn client accounts and that Next Financial’s lack of a reasonable supervisory system enabled the activity to go undetected.

In fact, FINRA says Next Financial failed to detect excessive trading by a registered representative in five accounts, resulting in about $102,376 in unnecessary sales charges.

As reported Nov. 30 by Investment News, FINRA also states that Next Financial failed to identify or follow up on other transactions that suggested excessive trading by 13 other reps in 39 additional client accounts.

Even when Next Financial did detect such trades, it took no action, according to FINRA.

Joey Wade Dean Faces Allegations Over Structured Notes

Former Morgan Stanley broker Joey Wade Dean is facing regulatory action from the Financial Industry Regulatory Authority (FINRA) in connection to sales of unlisted structured notes.

The action, taken by FINRA on Sept. 10 and outlined on the regulator’s Broker Check Web site, alleges that Dean made significant misrepresentations and omissions regarding the products, as well as failed to disclose certain facts to investors.

Many of the investors apparently were elderly. According to FINRA, Dean told customers that their principal investment was protected and guaranteed a fixed annual rate of return. That didn’t happen. Instead, when the structured notes ceased paying income, Dean, without authorization from customers, sold their shares to raise cash so that they could continue to make withdrawals.


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