Accusations of churning have become less and less common since the wire houses and brokerage firms in the securities industry have exercised increased supervision and control of individual brokers and financial advisors. Historically churning was the most common accusation of broker misconduct. But over the years since the 1980s investors and Florida and other retirement communities have seen a significant shift in their investment portfolios from stock trading to managed accounts. In a managed account the individual stock selections are made by the managing partner or partners in the investment vehicle.
A stockbroker who places your money into a best man account does not select the individual stocks. If you are largely invested in funds then the charge of churning against your stockbroker may fail. Again the chief focus of stockbroker abuse or malfeasance involving the claim of churning is whether there is excessive trading for the purpose of generating fees and income for the benefit of the financial advisor, stockbroker. An active account is not necessarily a churned account. Increasingly with sophisticated controls and the increased enforcement efforts of the regulating government entities and FINRA successful prosecutions for broker abuses such as churning have become less common. If as an investor you permit your financial advisor or stockbroker to enter into trades on your behalf the stockbroker, and a classic churning situation will be seen as engaging in excessive trading often showing small profits and smaller losses. The purpose of churning is to generate commissions for the stockbroker from your account.
When brokers are trying to generate commissions they usually try to convince you for reasons which may appear appropriate. If you are actively trading your account you will have difficulty establishing a churning claim. If the reasons seem valid and are reasonable on the face it is unlikely that arbitrators will award you compensation. If you suspect churning contact attorney Ralph Behr and we will investigate your account upon your providing us with copies of your transaction reports. Very often an investor such as yourself will authorize trades in the belief that you are being lead to safe and appropriate risk investments. The accusation of churning can still be established if the stocks or investment vehicles which are bought and sold are all in a rapid succession and would in themselves be inappropriate risk for a investor of your risk tolerance The United States Security and Exchange Commission has a webpage in which they define churning as excessive buying and selling of securities for the purpose of generating commissions. The additional element must be that it is without regard, or in disregard of your appropriate objectives for investment.
Churning almost always involves brokers who exercise decision-making control on what investments go in and out of your account. Notwithstanding the existence of a written discretionary agreement; brokers who advise their clients can still be accused of churning when the securities purchased and sold are inappropriate for an investor of your risk tolerance. It may be helpful, in the alternative, to define churning as an unethical practice by which stock brokers increase their commissions. The elements of churning are: excessive trading and twisting or the over trading of securities in your account. Related terms include a bucket shop, circular trading, and frontrunning. If you maintain an account in a brokerage firm in South Florida, Boca Raton, or West Palm Beach, be sure to inform your security lawyer whether you are in a wire house, such as Morgan Stanley Smith Barney, or another recognized national firm, or if you are in a small shop usually identified as boutique investments. In evaluating a churning claim investor sophistication, or lack of sophistication, their experience, their age, and their personal supervision or lack of supervision in your account is the key to determining whether excessive trading is appropriate or an abuse.
The mere act of accepting a previous transaction does not waive your right to claim churning if in the context of your total financial situation the appropriateness of the transactions entered into on your behalf are, in the opinion of the arbitrator, excessive and done for the purpose of generating fees for the stockbroker. Historically there are formulas and ratios which were used to determine what is excessive trading. As a rule of thumb if the broker earns more than 3% commission on assets held for trading he may be guilty of excessive trading, churning. The 3% rule is an unwritten guide often used by the Securities and Exchange Commission and the arbitrators in meeting a threshold claim of stock broker abuse churning. An analysis of your entire portfolio and investment objectives is the starting point for a claim of churning. But also be mindful of the following, there are more serious abuses that seem to parallel or track churning. You may have a claim for broker misconduct or broker malfeasance which looks like churning but may in fact be frontrunning or circular trading. The government agencies that regulate stockbrokers and financial advisors are particularly focused on stockbroker fraud and abuses when inappropriate or unsuitable investments are made in an account. In stockbroker fraud and stockbroker conflicts the arbitrators generally look at the turnover in your account, that is the number of times your investment capital has been recycled or reinvested during a trading cycle. The trading cycle varies from investor to investor but may be viewed in a calendar quarter or a series of quarters. It is almost always investor specific: that means what appears inappropriate in the context of your investment objectives and the activities of the stockbroker within your appropriate investment parameters. It is most often found in glaring conflicts within the financial structure of your investment portfolio. By example if you are primarily focused on mutual funds and bond funds excessive trading, or churning becomes a glaring misdeed and is easily proven in an arbitration proceeding.
If you want to do your own research I suggest you consult rule 2310 (2)(b)2 in the FINRA regulations. To request a copy of these rules you can contact the New York Stock Exchange at 212-656-2744. Excessive trading or churning as a very serious violation of the duties and responsibilities owed to investor by a stockbroker.