In the wake of the collapse of the auction rate securities market in February 2008, many of the nation’s largest financial institutions quickly agreed to settlements with state securities regulators as a way to resolve charges they misled retail and institutional investors about the liquidity risks of the instruments they underwrote.

The latest state to order a Wall Street institution to buy back auction rate securities from investors is Pennsylvania, which on Aug. 11 ordered Wells Fargo & Co.’s Wachovia unit to buy back $324.6 million of auction rate securities from an estimated 1,300 Pennsylvania retail investors.

Wachovia also will pay a $2.52 million assessment to the state for its role in the auction rate securities market.

In a press release on the ARS agreement with Wachovia, Pennsylvania Securities Commissioner Steven Irwin said the bank “marketed and sold these securities as safe, liquid and cash-like investments when, in fact, they were long-term investments subject to a complex auction process that failed in early 2008, leading to illiquidity and lower interest rates for investors.”  

The Pennsylvania Securities Commission is continuing its investigation of other investment firms and their sales of auction rate securities. In July, the regulator ordered TD Ameritrade to repurchase $26.5 million of auction-rate securities. That same month, Pennsylvania also reached a settlement with Citigroup over ARS sales. That settlement, which was part of a larger deal agreed to with 12 states, required Citigroup to buy back $978.1 million worth of auction rate securities from Pennsylvania investors. In addition, Citigroup paid a $2.31 million fine to the Pennsylvania Securities Commission.

Five broker/dealers, all dealing in variable annuities, mutual funds and other types of securities, are facing fines of $1.7 million by the Financial Industry Regulatory Authority (FINRA) for failing to properly supervise sales to customers, many of whom were elderly and retirees. 

The five firms, along with their respective fines, include:

• McDonald Investments (now KeyBanc Capital Markets, Inc.) - $425,000
• IFMG Securities - $450,000
• Wells Fargo Investments, LLC - $275,000
• PNC Investments - $250,000
• WM Financial Services, Inc. (now Chase Investment Services Corp.) - $250,000

According to FINRA, brokers at each of the firms operated out of branches of affiliated banks, selling the investments to bank customers. The brokerage customers were referred by bank personnel, and sales of these financial products represented a significant portion of each firm’s business.

 “Today’s actions underscore the need for firms operating bank branches to have effective systems and procedures in place to monitor sales of variable annuities, mutual funds, and UITs,” said Susan Merrill, FINRA Executive Vice President and Chief of Enforcement, in a press statement. 

“Bank broker-dealers have access to a broad customer base through their retail bank branches. Proper care must be taken to appropriately supervise sales to those customers, particularly the elderly who can be unfamiliar with securities products as they seek alternatives to certificates of deposit and other bank offerings.”

McDonald Investments also was charged with selling variable annuities with enhanced death benefit riders to 25 customers aged 78 or older. The customers were either too old to be eligible for the rider or very close to the ineligible age and would have received little or no benefit from the rider despite paying higher fees for it over the life of the annuity. 

The customers will be given the opportunity to get their money back plus interest, according to FINRA.

The Financial Industry Regulatory Authority (FINRA) announced on June 25 that it had fined Wachovia Securities, LLC of St. Louis $1.4 million for the firm’s failure to deliver prospectuses and product descriptions to customers who purchased various investment products from July 2003 through December 2004. FINRA also cited Wachovia for related supervisory failures.

Specifically, FINRA found widespread deficiencies relating to the delivery of prospectuses for certain classes of securities, including exchange-traded funds (ETFs), collateral mortgage obligations (CMOs), auction-rate market preferred securities, corporate debt securities, preferred stocks, mutual funds, alternative investment securities, equity syndicate initial public offerings (IPOs) and secondary purchases of equity non-syndicate initial public offerings.

FINRA’s investigation of Wachovia showed that it failed to deliver the required prospectuses to customers in approximately 6,000 of approximately 22,000 transactions occurring between July 2003 and December 2004. The market value of the 6,000 transactions was approximately $256 million, according to FINRA.

At the time the activity at issue took place, Wachovia Securities, LLC was a subsidiary and non-bank affiliate of Wachovia Corporation. On Jan. 1, 2009, Wachovia Corporation merged with Wells Fargo & Company.