State-level fines and penalties hit 5-year high

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Fines and restitution from state-level enforcement actions rose almost 20% year-over-year to top $900 million in 2016, according to regulators. The five-year high comes as authorities report better coordination with their counterparts in the SEC and FINRA, as well as the FBI, the IRS and state and federal prosecutors.

Restitution shrank by 57% to $231 million due to fewer investors losing money in the bull market economy, but penalties soared by nearly 200% to $682 million in 2016, according to the North American Securities Administrators Association’s annual enforcement report. The group composed of state securities regulators released the survey last week.

The data does not include penalties doled out by FINRA, the SEC or other federal agencies. NASAA changed the reporting methods for its study last year to include some fines that were not part of the report in years past.

Massive settlements struck by New York’s attorney general last year with Morgan Stanley and Goldman Sachs drove much of the increase in fines. Investigators in a joint working group of state and federal regulators had accused the firms of omitting material facts to residential mortgage-backed securities investors before the financial crisis.

Increasingly complex schemes and conduct by “bad actors” in the industry also figured in the growth in penalties, according to NASAA, which compiled the data from 50 of its 52 U.S. member agencies. Registered brokers and firms faced more actions than unregistered ones for the second year in a row.

Enforcement is “bread and butter” for state regulators, who strive to provide a “sense of security to industry and our communities,” NASAA President Joe Borg said in a speech at the organization’s annual conference in Seattle last week. “When we talk about enforcement, we are talking about protecting the hopes and dreams of our citizens.”

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State regulators collaborated with the SEC, FINRA and law enforcement agencies at all levels in more than 650 cases last year, according to NASAA. The FBI, IRS, U.S. attorney offices and state prosecutors shared evidence in 354 cases alone, NASAA’s annual survey shows.

In Texas, for example, one investigator from the State Securities Board works out of an FBI office, according to Joe Rotunda, director of the state Enforcement Division. A joint investigation into an oil and gas investor’s fundraising resulted in restitution of $3.7 million and a 13-year prison term last year.

“I think everyone in this room would agree that the schemes that we’re investigating are growing larger; the cases that we’re bringing, they’re increasingly complex,” Rotunda said in a presentation of the report’s findings at the conference. “Because of that, coordination is increasingly important.”

Such bad actors stand out as exceptions in an industry where most advisors are trying to do the right thing, says Borg, noting in an interview that the vast majority of state enforcement actions are administrative. Positive investment returns last year yielded the steep drop in restitution, he says.

The report displayed other themes currently shaping the industry as well. Investigations of RIAs and their representatives grew 31% last year to 700 in a sign of “heightened state interest” in the movement of advisors and firms to RIAs from broker-dealers, according to NASAA.

The group’s member agencies issued 620 enforcement actions against registered firms and individuals, compared to 604 against unregistered ones last year. The count displays only a slight disparity but also a two-year trend, said Jesse Devine, a member of NASAA’s Enforcement Section Committee.

“This is starting to look like a longer-term shift,” Devine said.

Other cases highlighted by NASAA include an advisor from a Virginia RIA who allegedly sold millions of dollars in securities without a license to so. Additionally, Wisconsin regulators charged a broker they had previously banned from the industry with violating the bar and selling bogus promissory notes to seniors.

NASAA Enforcement Section Chairman Keith Woodwell echoed FINRA’s recent warnings about rogue brokers, especially repeat offenders. Bad actors have displayed a tendency toward "cockroaching" in at new firms, he said.

“I think we’re seeing an increasing focus among NASAA members in trying to stamp out that problem,” Woodwell said.

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