Massachusetts claims that Morgan Stanley Smith Barney (MS) ran a high-pressure sales contest to give its financial advisers incentive to get clients to borrow funds against their brokerage accounts. Massachusetts Secretary of the Commonwealth William Galvin filed the complaint against the firm.
According to the state, from 1/14 through 4/15, Morgan Stanley conducted two contests in Rhode Island and Massachusetts that involved 30 advisers. The object of the contests were to convince customers to take out loans that were securities-based. It involved them borrowing against the value of securities found in their portfolio. The securities were to be collateral.
Galvin’s office said that the contests urged Morgan Stanley advisers to cross-sell loans that were backed by investment accounts in order to enhance lending business, as well as banking, and stay competitive with other firms. Galvin claims that advisers were told to get clients to establish credit lines even if they had no plans of using them. The state’s complaint said that clients would be targeted after they’d mention certain key “catalysts” including graduations, weddings, and tax liabilities.
Under the contest terms, advisers could make $1K for 10 loans, $3K for 20 loans, and $5k for 30 loans. Advisers that participated were purportedly able to generate $24M from these new loans. Massachusetts has noted that internally the Morgan Stanley does not allow incentives of running such contests.
Bloomberg reports that it was Morgan Stanley’s compliance and risk office that found out about the contests in 12/14 but it did not close them down until 4/15. Galvin said that the firm denied to the public that the contests existed.
In addition to accusing the firm of unethical conduct, the state claims that Morgan Stanley advisers violated their fiduciary obligation to clients when they recommended that they incur the debt.
The state wants an administrative fine, a cease and desist, a censure, and “equitable relief” for those who took out loans.
Morgan Stanley denies the inappropriate sales charges. It maintains that the securities-based loan accounts are “valuable” to clients and they offer inexpensive liquidity.
The unsuitable sales contest charges are not the only reason that Morgan Stanley is in the headlines this week. One of its ex-brokers, Jeffrey Hunter Smith, has been barred from associating with any brokerage firm that is regulated by the Financial Industry Regulatory Authority. Smith received two unauthorized loans of $150K each from two clients.
FINRA said that Smith did not get the written approval that is required from Morgan Stanley for such loans. The firm’s written supervisory procedures bar brokers from getting involved with a borrowing arrangement with a firm client unless that party is an immediate family member. Also, written notice must be provided to the firm ahead of time.
Smith is also accused of violating FINRA rules by refusing to provide the self-regulatory organization with documents that it requested as part of its probe.
Also in trouble is ex-Morgan Stanley and Oppenheimer & Co. (OPY) broker-dealer Vladimir Eydelman.
Eydelman is one of three men convicted in a $5.6M insider trading scam that took place at Grand Central Terminal in New York. Last week, Eydelman, who has pleaded guilty to criminal charges, was sentenced to three years in prison. He has been fined $15K and must forfeit over $1.2M.
Galvin’s Complaint (PDF)