Skip to main content


Representing Individual, High Net Worth & Institutional Investors

Office in Indiana


Home > Blog > Category Archives: Reverse Convertibles

Category Archives: Reverse Convertibles

RBC Ordered by FINRA to Pay More than $1.4M in Fines and Restitution for Unsuitable Sales of Reverse Convertibles

FINRA found that RBC failed to have supervisory systems practically designed to identify transactions for supervisory review when reverse convertibles were sold to customers, in violation of FINRA’s rules as well as the firm’s own suitability guidelines. RBC established suitability guidelines for the sale of reverse convertibles setting specific criteria for customer investment objectives, annual income, net worth, liquid net worth and investment experience. Consequently, the firm unsuccessfully detected the sale by 99 of its registered representatives of 364 reverse convertible transactions in 218 accounts that were unsuitable for those customers. The customers sustained losses totaling at least $1.1 million. RBC made payments to several customers pursuant to the settlement of a class action lawsuit; FINRA ordered compensation to the remainder of affected customers. Resulting in FINRA ordering RBC Capital Markets to pay a $1 million fine and approximately $434,000 in restitution to customers for supervisory failures resulting in sales of unsuitable reverse convertibles.

Mass. Securities Regulators Looking Into Alternative Products Sold to Seniors

Sales involving alternative investment products sold to elderly investors has an unleashed an investigation by Massachusetts securities regulators into 15 brokerage firms. The firms include LPL Financial LLC, Morgan Stanley, Merrill Lynch, UBS Securities LLC, Fidelity Brokerage Services LLC, Charles Schwab & Co. Inc., Wells Fargo Advisors, TD Ameritrade Inc., ING Financial Partners Inc.,  Commonwealth Financial Network, MML Investor Services LLC, Investors Capital Corp., Signator Investors Inc., Meyers Associates LP, and WFG Investments Inc.

As reported yesterday, the Massachusetts securities division has sent subpoenas to the firms being targeted, asking for information on sales of the products to state residents who are 65 or over.  Among the non-traditional investments included on the list:  Oil and gas partnerships, private placements, structured products, hedge funds and tenant-in-common offerings.

Massachusetts is demanding information on any such products that have been sold over the past year, the investors who purchased them, the commissions generated, how the sales were reviewed, and all relevant compliance, training and marketing materials used for marketing and sales purposes.

The firms have until July 24 to respond.

This isn’t the first time that Massachusetts has come down hard on broker/dealers for alleged improper sales of certain alternative investments. In May, the state settled cases involving non-traded REITs with Ameriprise Financial Services; Commonwealth Financial Network; Lincoln Financial Advisors Corp., Royal Alliance Associates; and Securities America. The five firms agreed to pay a total of $6.1 million in restitution to investors, as well as fines totaling $975,000.

In February, Massachusetts reached a similar settlement with LPL Financial, which agreed to pay at least $2 million in restitution and $500,000 in fines related to sales of non-traded REIT investments.

The REIT investigations “heightened my concern that the senior marketplace is being targeted for the sales of these high-risk, esoteric products,” said Massachusetts Secretary of the Commonwealth William F. Galvin in a statement yesterday.

“While these products are not unsuitable in and of themselves, they are accidents waiting to happen when they are sold to inexperienced investors by untrained agents who push the products to score … large commissions.”

More Investors Burned by Structured Products

Structured investments have rendered a countless number of investors financially ruined – many of whom would never have been invested in the exotic products if not for the recommendations of their financial advisor.  The 2008 financial crisis cast a new light on the potential problems of structured products, from so-called principal-protected investments issued by Lehman Brothers to reverse convertible notes from Morgan Stanley. The result was the same: Investors lost big.

Jargon-laden literature, illiquidity, counter-party risk and lack of transparency all make structured products a complex and often unsuitable investment for the average investor. Despite these characterizations, many financial advisors continue to sell structured products because of the large mark-ups and commissions they bring – not because they are in the best interests of a client.

In the case of Morgan Stanley, a review by the Financial Industry Regulatory Authority (FINRA) into sales of the firm’s structured products – which included principal-protected investments, leveraged exposure, yield enhancement, and access investments – revealed that in many instances the true risks of the structured products were never disclosed to clients.

FINRA’s findings were officially documented in a Letter of Acceptance, Waiver and Consent (AWC) in which Morgan Stanley signed on Dec. 7, 2011, and agreed to pay a $600,000 fine to settle the violations outlined. Among the violations cited: Supervisory deficiencies, as well as unsuitable recommendations of structured products to retail customers.

In the AWC letter, FINRA states that Morgan Stanley failed to create “reasonable systems or procedures to notify supervisors whether structured product purchases complied with the firm’s internal guidelines.” Instead, Morgan Stanley placed the responsibility with branch supervisors.

“During the Review Period, Morgan Stanley had no reports or tools for sales supervisors or compliance personnel that were specific to structured products, or which highlighted and detected single concentrated structured product purchases. As a result, of the 224,000 structured product purchases between September 2006 and August 2008, more than 28,000 were in net amounts that exceeded 25% of the customer’s disclosed liquid net worth and more than 2,600 were effected by customers with slated net worth less than $100,000,” the AWC letter said.



Reverse Convertibles Cited In FINRA Fine

Reverse convertible notes were tied to a $500,000 fine levied by the Financial Industry Regulatory Authority (FINRA) against former Ferris, Baker Watts LLC, acquired by RBC Wealth Management. FINRA imposed the fine in October, citing inadequate supervision of sales of the notes to retail customers, as well as unsuitable sales of reverse convertibles to 57 accounts held by elderly customers who were at least 85 years old and customers with a modest net worth.

“Reverse convertible notes are complex investments that often entail significant risk of loss and also involve terms, features and risks that can be difficult for retail investors to evaluate,” said James Shorris, FINRA Executive Vice President and Acting Chief of Enforcement. “Ferris, Baker’s inadequate written procedures resulted in recommendations of sales to customers for whom the purchase of these securities was not suitable, including elderly customers and investors who had very modest assets.”

Reverse convertibles are notes with a coupon interest rate set for a fixed duration of three, six or 12 months. The products themselves are tied to the performance of a particular stock. If the price of the underlying stock drops below a certain level during the duration of the reverse convertible, the customer receives a predetermined number of shares of the stock at maturity of the note.

Conversely, if the underlying security maintains its price level, at maturity, the customer receives return of the dollar amount invested and a final coupon payment. In most instances in which customers received the underlying stock at maturity, they ended up with an investment loss. Reverse convertibles not only come with the risks associated with fixed-income products, such as issuer default and inflation, but also have the added risk that the value of the underlying asset can significantly depreciate.

During the period January 2006 to July 2008, FINRA found that that Ferris, Baker engaged in sales of reverse convertibles to approximately 2,000 retail accounts without providing sufficient guidance to its brokers and supervising managers on how to assess suitability in connection with their brokers’ recommendations of reverse convertibles.

Additionally, FINRA says the firm did not have a proper system in place to effectively monitor customer accounts for potential over-concentrations in reverse convertibles. The firm also made recommendations without a reasonable basis to believe that the investment was suitable for elderly customers and those with modest net worth. Finally, FINRA says the firm failed to detect and respond to indications of potential over-concentration in reverse convertibles.

If you’ve suffered losses in Reverse Convertibles, please contact our securities fraud team. We can evaluate your situation to determine if you have a claim.

Structured Products: Who’s Buying, Who’s Saying ‘No’

The wealthiest U.S. investors are putting fewer dollars into structured financial products than the less affluent, according to a study by the Securities Industry and Financial Markets Association.

As reported Nov. 11 by Investment News, U.S. investors bought more than a $42 billion of structured notes this year. Nearly every major bank or brokerage sells structured products. Morgan Stanley leads the pack, issuing $10.1 billion, the most of any bank, 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. In total, structured products have been linked to an estimated $1 billion in investor losses in just Lehman notes.

Investors have since filed arbitration claims against UBS, one of the largest sellers of Lehman structured notes.

Other structured investment vehicles like reverse convertibles and equity-linked notes also have become the target of arbitration claims, as well as investigations by state regulators.

Most structured notes are “a hot mess,” said Janet Tavakoli, president of Tavakoli Structured Finance in Chicago in an Oct. 20, 2010, article by the New York Times. “Most professionals can’t analyze them. When I have done it, I find these notes are loaded with hidden fees and hidden risks.”

If you have suffered investment losses in principal-protected structured notes and wish to discuss filing an individual arbitration claim with Financial Industry Regulatory Authority (FINRA), please contact us.

Reverse Convertibles Can Spell Financial Disaster For Investors

Reverse convertibles, also known as reverse exchangeable securities, are complex structured investment products linked to the performance of an unrelated asset. The asset can be a single stock or a basket of stocks, an index or some other asset.

When investors purchase a reverse convertible, they are getting a yield-enhanced bond. They do not own, and do not get to participate in any upside appreciation of the underlying asset. Instead, in exchange for higher coupon payments during the life of the note, investors give the issuer a “put option” on the underlying asset. In other words, investors are betting that the value of the underlying asset will remain stable or go up, while the issuer is betting that the price will fall.

In the best case scenario, if the value of the underlying asset stays above the knock-in level or even rises, an investor can receive a high coupon for the life of the investment and the return of the full principal in cash. In the worst case, if the value of the underlying asset drops below the knock-in level, the issuer can pay back the principal in the form of the depreciated asset – which means investors can wind up losing some, or even all, of their principal.

That’s exactly what happened to Lawrence Batlan, an 85-year-old retired radiologist. Batlan, who suffered a loss of almost 20%, says his Citigroup broker talked him into shifting out of preferred stocks in 2007 and buying $400,000 of reverse convertibles, which promised higher interest and safety.

As reported June 16, 2009, by the Wall Street Journal, Batlan’s reverse convertibles were linked to four well-known stocks and paid between 6.25% and 13% at a time when 10-year Treasurys were yielding around 5% yearly. Then the financial crisis appeared, and the share prices of the four underlying stocks fell below the 20% knock-in threshold. Batlan suddenly found himself the owner of stocks worth $75,000 less than he initially invested.

“I had no idea this could happen,” said Batlan in the article. “I have no desire to own Yahoo stock or the others.” Batlan has since filed a complaint with the Financial Industry Regulation Authority (FINRA) in an attempt to recover the $75,000 back from Citigroup.

Harvey Goodfriend, 77, has a similar story. The retired mechanical engineer says he was told by his broker that there was no risk in reverse convertibles. Goodfriend soon discovered otherwise. He says he lost 36% of the almost $250,000 that his Stifel Nicolaus & Co. broker placed into reverse convertibles two years ago.

If you have suffered losses in Reverse Convertibles, please contact our securities fraud team. We can evaluate your situation to determine if you have a claim.

Regulators Take Aim At Reverse Convertibles

Complex investments known as reverse convertibles face growing scrutiny from regulators for their hidden risks, lack of transparency and, in some instances, because of the manner in which they are represented to investors by certain brokers.

As reported in a June 24 story by Bloomberg, brokers for JPMorgan Chase & Co., Royal Bank of Scotland Group Plc, and Barclays Plc have been charging fees on some structured notes that equal or exceed the securities’ highest possible yield.

“It seems inconceivable that the commission could be more than the potential return to clients,” said Durraj Tase in the Bloomberg article. Tase, who is an adviser with First Liberties Financial in New York, added: “If you are paying more fees than your potential return, as an adviser, I would not be able to suggest that note.”

On June 15, RBS gave brokers a 2.75% commission to sell a three-month reverse-convertible note with a 2.56% potential yield, according to the Bloomberg story. In May, JPMorgan charged 5.25% in fees and commissions on a three-month Citigroup-linked note that paid 5% interest, and Barclays offered brokers a 2% commission on a security paying 2% interest.

In February 2010, the Financial Industry Regulatory Authority (FINRA) issued an alert to investors on the risks associated with reverse convertibles. Among things, FINRA warned that reverse convertibles expose investors not only to risks traditionally associated with bonds and other fixed income products – such as the risk of issuer default and inflation risk – but also to the additional risks of the unrelated assets, which are often stocks.

In the case of JPMorgan’s reverse convertibles, investors are exposed to losses if Citigroup declines by more than 20%.

If you have suffered losses in Reverse Convertibles, please contact our securities fraud team. We can evaluate your situation to determine if you have a claim.

Reverse Convertibles Demolish More Investors’ Portfolios

Investments in reverse convertibles are proving disastrous for more investors, many of whom are retirees and were allegedly misinformed about the products from their broker/dealers. In January and February, the Financial Industry Regulatory Authority (FINRA) took action, issuing a regulatory notice to members about the ways in which reverse convertibles are marketed and sold to retail investors.

Specifically, FINRA reiterated to firms that their registered representatives must perform due diligence when it comes to explaining features and full extent of risks associated with reverse convertibles to investors. FINRA also cautioned that broker/dealers must ensure that an adequate suitability analysis is performed before the products are recommended to clients.

Reverse convertibles are short-term bonds connected to stocks. Once the notes mature – their terms generally last from three months to a year – investors get their principal back. On the downside, if the underlying stocks fall to a certain threshold – usually 20% down – investors get the depressed stocks instead of their full principal.

Hundreds of thousands of investors found this out the hard way in 2008 and 2009 as stocks fell to record lows. Nonetheless, Wall Street continues to push reverse convertibles much to the detriment of investors who may not be fully aware of what they’re buying.

Lawrence Batlan is one of those investors. The 85-year-old retiree suffered a loss of almost 20%, according to a June 19, 2009, story on reverse convertibles in the Wall Street Journal. The article says that Batlan’s broker talked him into moving out of preferred stocks in 2007 and buying $400,000 of exotic securities, which supposedly offered higher interest and safety.

In Batlan’s case, the reverse convertibles were linked to four well known stocks, paying between 6.25% and 13% when the yearly yield on 10-year Treasurys was around 5%. Then everything changed, and the bear market took hold. The share prices for the underlying stocks that Batlan’s reverse convertibles were linked to fell below the 20% threshold. As a result, Batlan found himself out $75,000.

“I had no idea this could happen,” says Batlan in the article. He has since filed a complaint with FINRA in an attempt to recover his losses.

Harvey Goodfriend, 77, also was quoted in the Wall Street Journal story. Goodfriend says he was never told about the risks of reverse convertibles. He ended up losing 36% of the almost $250,000 that his Stifel Nicolaus & Co. broker placed into reverse convertibles two years ago.

For years, critics of reverse convertibles have cautioned that the complexity of the products make them unsuitable investments for most retail investors. As it turns out, those words are ringing loud and clear for a growing number of investors who’ve lost their nest eggs to reverse convertibles.

If you’ve suffered investment losses in reverse convertibles because a broker/dealer failed to disclose specific details about the products, contact us.

Top of Page