Fidelity Cautions Investors on Leveraged ETFs?

On August 4, 2009, the Wall Street Journal reported that Fidelity Investments had joined other broker-dealers in warning its customers about the risks of investing in Leveraged ETFs (see other blawg posts on this topic here and here). The article, written by Daisy Maxey, states that Fidelity’s website warned investors that “Leveraged products are complex, carry substantial risks and are intended for short-term trading,” and that “[m]ost reset daily and seek to achieve their objectives on a daily basis. Due to compounding, performance over longer periods can differ significantly from the performance of the underlying index.”

The author of this blog spent several minutes searching Fidelity’s website (including searching the site for “leveraged ETF” and “leveraged product”) and could not find this warning. The website did contain an article from The Motley Fool entitled “Leveraged ETFs: Buyer Beware!” This brief article contained some discussion and examples of how leveraged ETFs work.

Last month, the Financial Industry Regulatory Authority (FINRA) declared that leveraged ETFs are typically unsuitable for retail investors. In addition, Massachusetts securities regulators have issued subpoenas to four firms in order to obtain information related to their sales practices involving leveraged ETFs.

Leveraged ETFs are unsuitable for retail investors because of their level of risk. The financial website Investopedia.com defines a leveraged ETF as “an exchange-traded fund (ETF) that utilizes financial derivatives and debt to amplify the returns of an underlying index.” The fund essentially borrows money and combines this money with investors’ money to purchase derivatives such as options, futures, or swaps. Because of the use of debt and derivatives, these ETFs carry a significant amount of risk. These funds also generally charge higher expenses to shareholders, which results in reduced returns (or increased losses if the market goes against the investment objective of the fund).

The most popular of these investments are managed by Rydex, Direxion, and ProShares. If your stockbroker or financial advisor has sold you any leveraged ETFs, or purchased any leveraged ETFs in your accounts, and you have lost money on these investments, you may be entitled to recover these losses. The Kueser Law Firm represents investors in securities arbitration. If you are concerned that your investments have been mismanaged, contact us to learn more about your rights.

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More Broker Dealers Restrict Sales of Leveraged ETFs

Weeks after Edward D. Jones, Ameriprise, Linsco Private Ledger (LPL) and UBS announced that they were restricting the sale of leveraged ETFs (see here), two more broker-dealers have decided to take action related to their sales of these risky, and often misunderstood investments.

As reported by the Wall Street Journal, Morgan Stanley Smith Barney announced that it is reviewing its sales procedures related to leveraged ETFs. In addition, Charles Schwab issued an “unusual” warning to its clients that have purchased leveraged ETFs. This warning provides investors with some background discussion related to these risky investments, as well as examples of how hypothetical leveraged ETFs would perform in a few hypothetical situations.

Although many broker-dealers have instituted these measures, some broker-dealers continue to do nothing. For example, as reported in the Wall Street Journal article, Fidelity Investments continues to make leveraged ETFs available to their customers and leveraged ETFs remain available through TD Ameritrade’s web trading platform.

As previously stated in this blawg, the Financial Industry Regulatory Authority (FINRA) has declared that leveraged ETFs are typically unsuitable for retail investors. In addition, Massachusetts securities regulators have issued subpoenas to four firms in order to obtain information related to their sales practices involving leveraged ETFs.

Leveraged ETFs are unsuitable for retail investors because of their level of risk. The financial website Investopedia.com defines a leveraged ETF as “an exchange-traded fund (ETF) that utilizes financial derivatives and debt to amplify the returns of an underlying index.” The fund essentially borrows money and combines this money with investors’ money to purchase derivatives such as options, futures, or swaps. Because of the use of debt and derivatives, these ETFs carry a significant amount of risk. These funds also generally charge higher expenses to shareholders, which results in reduced returns (or increased losses if the market goes against the investment objective of the fund).

The most popular of these investments are managed by Rydex, Direxion, and ProShares. If your stockbroker or financial advisor has sold you any leveraged ETFs, or purchased any leveraged ETFs in your accounts, and you have lost money on these investments, you may be entitled to recover these losses. The Kueser Law Firm represents investors in securities arbitration. If you are concerned that your investments have been mismanaged, contact us to learn more about your rights.

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Firms Asked to Account for Sales of Leveraged ETFs

According to an article on InvestmentNews, Massachusetts securities regulators have subpoenaed four brokerage firms for information related to their sales practices of leveraged ETFs. The subpoenas come only a few weeks after Edward D. Jones, Ameriprise, Linsco Private Ledger (LPL) and UBS restricted the sale of the products or stopped selling leveraged ETFs altogether. This also comes approximately three weeks after FINRA advised firms that leveraged ETFs “typically are unsuitable for retail investors.”

The most widely traded leveraged ETFs are managed by Direxion Funds, ProShares, and Rydex. Because these funds are “leveraged,” they are designed to provide market returns that significantly exceed market indices. For example, the Rydex Inverse Dow 2x Strategy Fund “seeks to provide investment results that inversely correspond to 200% of the daily performance of the Dow Jones Industrial Average.” (from Rydex Funds’ website.*) Therefore, if the Dow Jones Industrial Average increases by 10%, this fund is designed to lose 20%. Conversely, if the DJIA declines by 10%, this fund is designed to gain 20%. Another example is the Direxion S&P 500 Bull 2.5x Fund, which is designed to provide “daily investment results, before fees and expenses, of 250% of the price performance of the S&P 500 Index.” (from the Direxion Funds’ website.*) Therefore, if the S&P 500 Index declines by 10%, this fund is designed to lose 25%. What most investors are not told is that these funds are designed to produce the stated returns on a daily basis. Therefore, these funds are not designed to be bought and held.

The truth is that leveraged ETFs are unsuitable for retail investors because of their level of risk. As stated on Investopedia.com, a leveraged ETF is “an exchange-traded fund (ETF) that utilizes financial derivatives and debt to amplify the returns of an underlying index.” The fund essentially borrows money and combines this money with investors’ money to purchase derivatives such as options, futures, or swaps. Because of the use of debt and derivatives, these ETFs carry a significant amount of risk. These funds also generally charge higher expenses to shareholders, which results in reduced returns (or increased losses if the market goes against the investment objective of the fund).

From January 2, 2008 through March 6, 2009, the S&P 500 Index declined from 1,447.16 to 683.38. This represents a loss of 52.8% during a 14-month period. As you can imagine, leveraged ETFs that were focused on growth (bullish funds) suffered tremendous declines during this period.

If your financial advisor or stockbroker sold you funds that are managed by Direxion, ProShares, or Rydex and you suffered losses, you may have a claim for recovery of those losses. The Kueser Law Firm represents investors in securities arbitration. If you are concerned that your investments have been mismanaged, contact us to learn more about your rights.

* This blog intentionally refuses to link to the websites of companies that manage and sell leveraged ETFs because of the riskiness of these funds. If you would like to learn more about these funds, use Google to search for the information. If your adviser has recommended these funds to you, get a new adviser or at least a second opinion.

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SEC Charges Morgan Keegan for Fraudulent Marketing and Sales of Auction Rate Securities

On July 21, 2009, the Securities and Exchange Commission (SEC) charged Morgan Keegan & Company. In its Complaint, the SEC seeks an injunction for violation of the federal securities laws, as well as equitable relief for Morgan Keegan investors. Included in this equitable relief is a request for a court order requiring Morgan Keegan to repurchase illiquid ARS from its customers. More about the SEC’s case, including a link to the Commission’s Litigation Release and Complaint can be found here.

The SEC’s Complaint alleges that Morgan Keegan misled thousands of investors about the liquidity risks related to auction rate securities (ARS). This is another example of the massive fraud related to Auction Rate Securities that was perpetrated by financial services firms across the country. To date, several firms, including UBS, Wachovia, TD Ameritrade, Fidelity, and Stifel Nicolaus have entered into settlements with federal and/or state securities regulators. Some of these settlements have broader relief for investors, while others have left many investors still holding onto these illiquid investments.

If you were sold Auction Rate Securities and your positions have not been redeemed or repurchased, you should contact an attorney to discuss your rights. The Kueser Law Firm represents investors in securities arbitration and litigation. Feel free to contact us if you have any questions or would like additional information.

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Madoff Sentenced to 150 Years

This morning, U.S. District Court Judge Denny Chin sentenced Bernard Madoff to the maximum sentence of 150 years of prison for his role in a “historic” multi-billion dollar fraud.

Judge Chin stated “Here the message must be sent that Mr. Madoff’s crimes were extraordinarily evil and that this kind of manipulation of the system is not just a bloodless crime that takes place on paper, but one instead that takes a staggering toll.”

Mr. Madoff’s “error of judgment” or “tragic mistake” (as he referred to his fraud) devastated the lives of thousands of people. While it is unlikely that Mr. Madoff’s former clients will receive any significant restitution, it is comforting to see that he was not able to buy leniency and that the maximum sentence was ordered.

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Another day, more advisers alleged of fraud

On June 11, 2009, the Securities and Exchange Commission filed two fraud actions against different financial/investment advisers.

Morgan European Holdings ApS, et al.

On June 11, the SEC obtained an emergency court order and asset freeze to shut down a fraudulent prime bank scheme. The action was filed in the United States District Court for the Middle District of Flordia against Morgan European Holdings ApS, a/k/a Money Talks, Inc. ApS, John Morgan, Marian Morgan, Bowman Marketing Group, Inc., Stephen E. Bowman, and Thomas D. Woodcock, Jr.

According to the Litigation Release, the SEC has alleged that the Defendants solicited investments in fictitious prime bank trading programs. As noted in the Release,

the Complaint alleges that, during 2006 and 2007, the defendants raised millions of dollars from investors to participate in a fictitious investment program involving the trading of financial instruments among top financial institutions. The defendants told investors that their principal was guaranteed or never placed at risk. However, according to the Complaint, the defendants used investor funds for various undisclosed purposes, including Bowman’s gambling expenses, mortgage payments by the Morgans, and Ponzi payments to some investors. The SEC claims that John Morgan, Marian Morgan, and Stephen Bowman have continued to lull investors into remaining complacent by promising the imminent payment of their principal and returns. None of the relevant offerings was registered with the Commission, nor were any of the defendants registered as a broker-dealer or associated with a registered broker-dealer.

The SEC claims that the Defendants’ actions violated Sections 5(a), 5(c), and 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder. In addition the individual defendants were charged with violation of Section 15(a) of the 1934 Act. A hearing on the preliminary injunction is scheduled for June 25.

Aura Financial Services, Inc.

The SEC also charged an Alabama Broker-Dealer, Aura Financial Services, Inc., with engaging in fraudulent sales practices and high pressure sales tactics to convince customers to open an account and invest money with the firm. The SEC alleges that the firm and six of its representatives unfairly enriched themselves by more than $1 million in commissions and fees. At the same time, the customers’ accounts were largely depleted “through trading losses and excessive transaction costs.”

More information about this matter can be found by reading the SEC’s Litigation Release.

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Where to Turn for Financial Advice?

It seems that each day there is another story about allegations that an investment adviser has stolen money from their clients. Yesterday, the SEC filed a complaint alleging that a New York investment adviser had bilked his clients, many of whom were terminally ill or mentally impaired, out of $6 million.

Where do you turn? The New York Times published an interesting article on June 5, 2009, discussing this issue. The Financial Industry Regulatory Authority has a publicly available repository of information related to securities professionals (BrokerCheck) and the SEC maintains the IAPD, which is a database containing information related to investment advisers. While these are valuable sources in checking the background of investment professionals, they are often inadequate. The New York Times also published an article about financial planners in their “need to know” series that is worth reading.

Unfortunately, investors do not learn that their adviser has taken advantage of them until after they have suffered devastating financial losses. The Kueser Law Firm represents investors that have been the victims of securities fraud, investment fraud, as well as other forms of stockbroker and financial adviser misconduct. In addition, the firm represents consumers that have been defrauded. If you would like to contact the firm for a free consultation, please call 816.374.5865 or visit our website, www.jmkesquire.com, for more information.

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Another adviser allegedly defrauds clients

On June 10, 2009, the Securities and Exchange Commission charged Matthew Weitzman, a New York investment adviser, with defrauding his clients out of $6 million. According to the SEC’s Litigation Release (No. 21078), some of these clients were terminally ill or mentally impaired.

The SEC filed its complaint in the U.S. District Court for the Southern District of New York. The Litigation Release also states that:

The SEC alleges that Matthew D. Weitzman sold securities in clients’ brokerage accounts and illegally funneled their money to a bank account that he secretly controlled. While Weitzman spent the money on a multi-million dollar home, cars, and other luxury items, he provided false account statements to clients often showing inflated account balances and securities holdings. Weitzman also submitted to a broker-dealer phony letters from clients that purported to authorize the money transfers. When clients questioned Weitzman about the transfers they did not authorize, he misrepresented that he was withdrawing their funds to make legitimate investments.

Mr. Weitzman is the co-founder and a principal of AFW Wealth Advisors, which is an alternative name for AFW Asset Management, Inc., a registered investment advisor located in Puchase, New York. According to the SEC’s release, Mr. Weitzman was also the Compliance Officer for AFW.

This is another example in a long line of instances just this year where an investment adviser has been alleged to have abused the trust and confidence placed in them by their clients. Fortunately, securities regulators are taking a more active role in finding, investigating, and, where appropriate, prosecuting offenders. Unfortunately, clients are suffering millions, if not billions of dollars in losses.

The Kueser Law Firm represents investors that have been the victims of securities fraud, investment fraud, as well as other forms of stockbroker and financial adviser misconduct. In addition, the firm represents consumers that have been defrauded. If you would like to contact the firm for a free consultation, please call 816.374.5865 or visit our website, www.jmkesquire.com, for more information.

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