Churning Fraud (Excessive Trading) Attorneys
What Is Churning AKA Excessive Trading?
Churning occurs when a broker engages in excessive buying and selling of securities in a customer’s account. When churning occurs, oftentimes the broker has only one goal in mind – generating commissions. Churning is illegal under the securities laws, and brokerage firms have a fundamental duty to monitor customers’ accounts in order to detect and prevent churning.
One of the ways brokers and firms try to protect themselves against churning allegations is by marking the investment objective for a brokerage account as “speculation” or indicating a “high” or “aggressive” risk tolerance. In so doing, the broker and firm try to make it appear that the customer was willing to take those risks and that active trading is what the customer asked for.
However, under the rules governing the securities industry, brokers and brokerage firms must be able to demonstrate that the recommended trading strategies are suitable for a particular customer. And in cases where an account has been churned, the activity is not suitable for anyone, regardless of their investment objectives. And this makes sense, because even if you have an aggressive risk tolerance, no customer ever agrees or asks for their account to be manipulated solely for the purpose of deriving profits for the broker or brokerage firm.
So, how do you know if your investment account is being churned by your broker? The evidence that proves churning may be hidden from you.
It is considered fraud and is both illegal and unethical. In order to mask churning, unscrupulous brokers may hold on to investments in your account that perform poorly, while selling off those that are profitable. In this way, your portfolio can appear to be performing well—thanks to the gains you see each time a profitable investment is sold. Unfortunately, your portfolio may be actually losing money on frequent commissions and becoming filled with poorly performing investments.
Here is a Helpful Video on Churning/Excessive Trading Fraud:
How is Churning or Excessive Trading Proven?
Brokers have a duty to recommend only suitable investments to their customers. When a broker engages in excessive trading, the broker violates that duty through an activity called “churning.” This violation means the broker and brokerage firm may be held liable for any losses that arise out of the churning of the account.
There are a variety of measures that may be used to prove churning. Excessiveness may be determined by evaluating your account’s annual turnover rate and the “break even” or “cost-equity” ratio. In many cases, a turnover rate of 6% may be considered conclusive evidence of churning. However, churning may be proven at a lower rate. Standards also exist holding that most accounts requiring at least a 15% annual return to “break even” meet the definition of “excessively traded.”
According to the U.S. Securities and Exchange Commission, churning is an illegal and unethical activity that violates numerous laws, including the SEC Rule 15c 1-7. The Financial Industry Regulatory Authority (FINRA) also has rules to prevent excessive trading for broker gain. These rules are found under the “suitability” section of FINRA rules. Specifically, churning violates the FINRA principle of “quantitative suitability” detailed in § 2111.05(c).
Quantitative suitability requires a member or associated person who has actual or de facto control over a customer account to have a reasonable basis for believing that a series of recommended transactions, even if suitable when viewed in isolation, are not excessive and unsuitable for the customer when taken together in light of the customer’s investment profile, as delineated in Rule 2111(a).
Establishing Excessive Activity & Proof of Control
Proof of control may be established through a written document granting the broker control of your account or by showing that you relied so completely on the advice and recommendations of your broker that the broker was effectively responsible for the number of transactions in your account and their frequency. Proof of control also may be established “when the client routinely follows the recommendation of the broker.” Mihara v. Dean Witter & Co., Inc., 619 F.2d 814, 821 (9th Cir. 1980).
Even though a client may have the final word on how his or her assets will be traded and is, thus, technically in control of the assets, it is the stock broker who is effectively and realistically in control of the assets when, for whatever reason, the client merely ‘rubber stamps’ — follows automatically or without consideration — the investment recommendations of the broker.
Stanton v. Shearson Lehman/American Express, Inc., 631 F. Supp. 100, 103 (N.D. Ga. 1986) (emphasis in original).
To establish excessive activity, there are certain facts to look for. Your investment fraud attorney may evaluate the following when analyzing for churning:
- Turnover rate
- Cost-equity ratio
- Use of in-and-out trading in a customer’s account
You Need Meyer Wilson for Your Churning/Excessive Trading Claim
Since 1999, Meyer Wilson has recovered client losses against the largest investment firms in the nation. Our practice, comprised of investment fraud attorneys and securities fraud lawyers, is devoted to serving the victims of stockbroker fraud; we have the skill, experience, and resources necessary to do so aggressively and excellently. We have helped a thousand clients recover their hard-earned savings from the firms that handled them with negligent practices, such as churning.
We have helped clients recover over $350 million. Call us at (888) 390-6491 or complete our online form to request a free case consultation. Let us help you determine your next move.