Non-Traded REITs

FINRA Wants To Delay Implementing Rule Impacting Nontraded REIT Customers’ Statements

Published on: July 17, 2014 | by Shepherd Smith Edwards & Kantas, LLP

The Financial Industry Regulatory Authority wants the Securities and Exchange Commission to grant a delay in the implementation of proposed changes to rule 2340, which impacts customer account statements. The self-regulatory organization had originally asked for the modifications to go into effect six months after the SEC approves the rule change. Now, FINRA wants to give nontraded REIT sponsors and brokerage firms 18 months to adjust to the revised guidelines.

Nontraded REITs are currently not required to show an estimated per-share valuation until 18 months after the sponsors cease to raise funds. Under the proposed rule change, broker-dealer client account statements would eliminate the existing practice of listing at $10 the value, for every share, of a nontraded REIT. This is usually the price that registered representatives sell them at.

The rule change would factor the different commissions and fees that dealer managers and brokers get. It would lower the price per share for every private placement or nontraded REIT found on the account statement of a customer.

LPL Financial Fined $950K by FINRA for Supervisory Failures Involving Alternative Investments

Published on: March 25, 2014 | by Shepherd Smith Edwards & Kantas, LLP

FINRA says that LPL Financial, LLC must pay a fine of $950,000 for supervisory deficiencies involving the sale of alternative investment products, such as oil and gas partnerships, non-traded real estate investment trusts, managed futures, hedge funds, and other illiquid pass-through investments. By settling, the independent broker-dealer is not denying or admitting to the FINRA charges. LPL however, has agreed to an entry of the self-regulatory agency’s findings.

A lot of alternative investments establish concentration limits and certain states have even stipulated their own concentration limits for alternative investment investors. LPL also has set its own limits.

According to FINRA, however, from 1/1/08 to 7/1/12 LPL did not properly supervise the sale of alternative investments that violated of concentration limits. The SRO contends that even though initially LPL employed a manual system to assess if an investment was in compliance with requirements for suitability, the brokerage firm sometimes relied on inaccurate and dated data. Later, when LPL put into place a system that was automated to conduct the reviews, the system was purportedly not updated to make sure current suitability standards were correctly reflected and the programming in the database was flawed.

High Commission Products are Wall Street Favorites

Published on: November 25, 2013 | by Shepherd Smith Edwards & Kantas, LLP

Nontraded real estate investment trusts are getting a lot of intention from Wall Street lately. One reason for this is that LPL Financial (LPLA), Ameriprise Financial Services (AMP), and other independent brokerage firms are continuing to raise billions of dollars for deals and in sales.

Already, independent broker-dealers are headed toward selling $20 billion in nontraded REITS in 2013, which is nearly twice the amount that were sold in 2012. According to LPL Financial, its commissions for nontraded REITs and other alternative investments has gone soaring, hitting $81.2 million in revenue from July to September. Even the Goldman Sachs Group Inc. (GS) has been going after alternative investments by seeking a partnership with the CAIS Group, which is an exchange for such products, including private equity funds and hedge funds.

Meantime, the Blackstone Group (BX) and KKR & Co., both private equity firms, are handling private-loan portfolios worth billions of dollars in nontraded business development companies involving sellers such as LPL and Ameriprise. And even REITs are getting involved, with Starwood Property Trust Inc. (STWD) investing $250 million into the Griffin Capital Essential Asset REIT Inc., which is a nontraded REIT, and purchasing 24.3 million shares in it.

North American Securities Administrators Association Releases 2013 List of Top Threats to Investors

Published on: October 22, 2013 | by Shepherd Smith Edwards & Kantas, LLP

The North American Securities Administrators Association has issued its yearly list of the top investor threats. The list is compiled through a poll of its member state securities administrators. With the enactment of Jumpstart Our Business Startups Act, which takes away the advertising restrictions when it comes to soliciting securities and other investments, now more than ever investors should be cautious.

The List:
Private Offerings (especially fraudulent private placement offerings, also known as Reg D/Rule 506 offerings): These are limited investment offers that are very liquid, poorly regulated, and have very little transparency. They are risky and might not be suitable for individual investors. Now, with the JOBS Act, these private placement offerings can be promoted to the general public, which means ads for them may be placed on billboards, social media, and other platforms even though not everyone who sees them is qualified to invest.

REITs: Real estate investment scams may involve new development projects or buying, or beleaguered properties. Non-traded real estate investment trusts that are owned by banks or waiting for foreclosure or short-sale can be problematic for customers, as can investment funds purportedly tied to interest in real property that has no equity and is very leveraged.

Ponzi Scams and High-Yield Investments: High-yield typically translates to greater risk. This type of investment program and Ponzi scams promise great returns and low risk while justifying why the opportunity is so great. Financial fraudsters will typically tout bogus credentials or belong to a certain organization or group and early investors get a return as they market to new investors. Such financial scams eventually collapse.

Affinity Fraud: This type of financial fraud targets members of a particular organization or group. Often, the fraudster is trusted because of the shared affiliation (ie. age demographic, membership, alma mater, ethnicity, religion, etc.)

Self-Directed IRAs Used to Cover up Fraud: Self-directed individual retirement accounts, which are typically safe investments, can be used to conceal a financial scam. Fraudsters may claim that the custodian of an account has more obligations than actual to investors, causing the latter to wrongly believe that their investments are protected from loss and/or legitimate.

High Risk Oil and Gas Drilling Programs: Energy investments that for some investors are becoming a preference over traditional bonds, stock, and mutual funds. They are very risky and really only appropriate for investors that can take huge losses. Unfortunately, some promoters will hide these risks and pressure customers to invest.

Proxy Trading Accounts: This can involve allowing individuals who say that they are experienced traders to manage or set up a trading account for you. It is not recommended for investors to let unlicensed persons have access to your brokerage account information or set up an account for you. Anyone who manages such an account for an investor should be properly registered and have a clean record.

Digital Currency: Virtual money such as PP Coin, Bitcoin, and others. Such coinage isn’t backed by tangible assets, not subject to a lot of regulation, and not government issued. Digital currencies’ value can be very volatile.

NASAA’s Top Investor Threats, North American Securities Administrators Association
Securities and Exchange Commission

Financial Industry Regulatory Authority

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Nontraded REIT News: Securities America Stops Selling American Realty Capital Trust V and Advisor Group Ends Selling Deal with Cole Holding

Published on: July 18, 2013 | by Shepherd Smith Edwards & Kantas, LLP

Securities America Stops Selling Nontraded REIT ARC V

Securities America Inc. has severed ties with American Realty Capital Trust V Inc., a top-selling nontraded REIT. The independent broker-dealer blamed this on an overconcentration risk and its own exposure to real estate programs that AR Capital, a brokerage firm, distributes.

The nontraded real estate investment trust, known as ARC V, was the number one seller last month with about $10.8 million in daily sales. Already, between April, when the REIT launched, through the end of June, brokers have sold $406 million of them.

Berthel Fisher, VSR Financial Services, & Cetera Financial Modify the Way They Sell Nontraded REITs and Other Alternative Instruments

Published on: May 24, 2013 | by Shepherd Smith Edwards & Kantas, LLP

Investment News is reporting that in the wake of pressure from regulators, Berthel Fisher & Co. Financial Services Inc., Cetera Financial Group Inc. and VSR Financial Services Inc., are modifying the way they sell specific alternative investments, including nontraded real estate investment trusts, by revising current policy or including no procedures and guidelines. According to executives at the three brokerage firms, they want add liquid alternative choices to their platforms while staying mindful of the issues that regulators recently addressed.

These types of financial instruments are in demand due to their higher yields, especially as traditional investment interest rates for retirees stay low due to the Federal Reserve’s policy. According to VSR chairman Don Beary, Following recent FINRA’s ‘senior sweep,’ his brokerage firm is now more careful about what senior citizens can invest in. VRS’s registered representatives have just been notified about the new illiquid alternative investment sale guidelines, which include a 35% of illiquid investment limit for older clients’ accounts-down from 40-50% previously. Also, for clients in the 70 to 75 age group, they will be allowed to possess no more than 25% of illiquid investments in their portfolio. Clients in the 75 to 84 age group have a 15% limit, while customers older than that will not be allowed to make own any illiquid investments.

Meantime, Centera hasn’t modified customer allocations percentages , but it has enhanced its representative training requirements for representatives that sell illiquid investments and brought in more employees to conduct product due diligence.

Ameriprise Financial, Securities America, & Three Other Brokerage Firms Reach $9.6M Non-Traded REIT Securities Settlement with Massachusetts Financial Regulator

Published on: May 22, 2013 | by Shepherd Smith Edwards & Kantas, LLP

Secretary of the Commonwealth of Massachusetts William Galvin announced today that the state has reached a $9.6M securities settlement with five independent brokerage dealers-Ameriprise Financial Services Inc. (AMP), Commonwealth Financial Network, Lincoln Financial Advisors Corp., Royal Alliance Associates Inc., & Securities America Inc.-over the allegedly inappropriate sale of nontraded real estate investment trusts to investors. $8.6M of this is restitution to them.

Galvin says that the investigation, which was triggered by complaints from customers, led to the discovery of a “pattern of impropriety” in the sale of these securities by independent broker-dealers where supervision has been hard to “maintain.” As part of the nontraded REIT settlement, Ameriprise will pay $2.6 in restitution and a $400K fine, Securities America will pay $778K in restitution and a $150K fine, Royal Alliance will pay $59K in restitution and a $25K fine, Commonwealth Financial Network will pay a $2.1M restitution and a $300K fine, and Lincoln Financial will pay a $504K restitution and a $100K fine.

The non-traded REIT agreement with these independent brokerage firms comes just three months after Galvin settled a similar securities fraud case with LPL Financial Holdings Inc. accusing that financial firm of inadequately supervising their brokers tasked with selling the financial instruments. LPL Financial agreed to pay $2.5M in restitution and a $500K administrative fee over seven nontraded REITs that were sold.

FINRA Notifies Brokerage Firms About Non-traded REIT Information that Can Mislead Investors

Published on: May 6, 2013 | by Shepherd Smith Edwards & Kantas, LLP

The Financial Industry Regulatory Authority is alerting broker-dealers that the way they market certain non-traded real estate investment trusts could be misleading investors. The regulator said its recent reviews of brokerage firm communications with the public about these investments showed “deficiencies.” The SRO has been trying to improve the sales practices related to illiquid REITs and increase their transparency.

Among the identified information shortcomings:
• Inaccurate and misleading statements about the benefits of investing • Failure to adequately explain the risks involved • Describing a real estate security as a “yield,” which can incorrectly suggest that it is a bond
FINRA said it is necessary for brokerage firms to provide “fair and balanced” distribution rates, while explaining that distribution payments are not a given. The regulator observed that some broker-dealers are prone to highlight these payments, which are given to investors as soon as the nontraded REITs are sold, but fails to inform that some distributions are the return of their principal or borrowed money. FINRA reminded broker-dealers that they have to wait until an REIT has paid distributions for six months before it can make claims about the instrument’s yearly return rate.

The SRO noted that data about related or affiliated REITs should be as prominently visible as other information, and past performance information about REITs involving the current investment being promoted cannot be cherry picked.

REITs and Non-traded REITs
REITs invest in commercial real estate, which gives investors a chance to benefit from the increase in property values, and they are publicly traded. Non-traded REITs, which don’t trade on securities exchange, can be tough to sell in secondary markets or illiquid. Investors usually have to pay higher fees for them.

FINRA has been targeting the improper-sale of non-traded REITs for some time now. This latest notification to brokerage firms doesn’t mention how many broker-dealers it looked at (or which ones) to reach its conclusions.

Our REIT lawyers represent investors throughout the US. For over two decades, Shepherd Smith Edwards and Kantas, LTD LLP has helped thousands of investors recoup their investment losses by going through arbitration via FINRA, NYSE, NASD, and AAA, as well as through the state and federal courts.

FINRA Provides Guidance on Communications With the Public Concerning Unlisted Real Estate Investment Programs, FINRA.org (PDF)

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Majority of Non-Traded REITs Underperform Compared to Benchmarks, Reports New Study, Stockbroker Fraud Blog, August 25, 2012
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Securities Roundup: SLUSA Bars Investors’ State Securities Case Alleging Trust Account Management Negligence, Blocks Investors From Remanding Fraud Case to Puerto Rico & FINRA Enhances Proposed Rules’ Cost-Benefit Analysis, Looks at Non-Traded REIT Ads

Published on: October 8, 2012 | by Shepherd Smith Edwards & Kantas, LLP

According to the U.S. Court of Appeals for the Sixth Circuit, the Securities Litigation Uniform Standards Act bars state law breach of contract and negligence claims related to the way the plaintiffs’ trust accounts were managed. The appeals court’s ruling affirms the district court’s decision that the claims “amounted to allegations” that the defendants did not properly represent the way investments would be determined and left out a material fact about the latters’ conflicts of interest that let them invest in in-house funds.

SLUSA shuts a loophole in the Private Securities Litigation Reform Act that allows plaintiffs to sue in state court without having to deal with the latter’s more stringent pleading requirements. In Daniels v. Morgan Asset Management Inc., the plaintiffs sued Regions Trust, Morgan Asset Management, and affiliated entities and individuals in Tennessee state court. Per the court, Regions Trust, the record owner of shares in a number of Regions Morgan Keegan mutual funds, had entered into two advisory service agreements with Morgan Asset Management, with MAM agreeing to recommend investments to be sold or bought from clients’ trust accounts. The plaintiffs are claiming that MAM was therefore under obligation to continuously assess whether continued investing in the RMK fund, which were disproportionately invested in illiquid mortgage-backed securities that they say resulted in their losses, was appropriate.

The defendants were able to remove the action to federal district court, which, invoking SLUSA, threw out the lawsuit. The appeals court affirms this dismissal.

Majority of Non-Traded REITs Underperform Compared to Benchmarks, Reports New Study

Published on: August 25, 2012 | by Shepherd Smith Edwards & Kantas, LLP

According to a study by The University of Texas at Austin McCombs School of Business and Blue Vault Partners LLC, most non-traded real estate investment trusts underperform compared to benchmarks. The study was released on June 1 and compared 17 “full-cycle” non-traded REITS that experienced liquidity events between 1990 and May 15, 2012 with two customized benchmarks. The benchmarks involved a portfolio of properties from the National Council of Real Estate Investment Fiduciaries and broad indexes of REITs that were publicly traded.

Per the study, only five of the REITs examined- Cornerstone Realty Income Trust Inc., Apple Suites Inc., Corporate Property Associates 10 Inc., Carey Institutional Properties Inc., and American Realty Capital Trust Inc.-outperformed the market indexes, meaning 71% of the REITs that were part of the study underperformed the customized benchmark. Only Apple Suites outperformed both. While the nontraded REITS made “respectable total returns”-10.3% was the average internal return rate-this was still 140 basis points below the two customized benchmarks, which both had returns of 11.7%. The study said that the main reason for this was fees. (With a standard 12% sales load or fee, the annualized return rate for the nontraded REIT goes up from 10.3% to 12.5%. That said, nontraded REIT fees could go as high as 15%.)

Even though the full cycle REIT sample on average underperformed their benchmarks, each REIT showed a positive total return to investors. A few of the other findings, according to the study:

• Non-traded REITs that had shorter time periods from inception to a full cycle event did better than ones that had longer holding periods.

• In looking at distribution yields to capital gains as a portion of total return, distributions made up 75% or greater of returns.

• When looking at “early Stage Investment Period” performances, about 1/3rd of nontraded REITs outperformed benchmarks based on NAREIT and NCREIF.

Nontraded REITS have been promoted to retail investors as investment vehicles that will allow them to purchase real estate that is institutional quality while having low volatility and greater than average current yields. That said, a maturation process caused by a number of big events has recently occurred, creating certain changes. Valuations of nontraded REITs have even gone down by 50%.

Unfortunately, many investors are not given a clear picture of the risks involved in non-traded REIT investments. This can lead to suspension of dividends, illiquidity, and huge REIT losses. Many investors of non-traded REITs were told they would be getting steady dividend income, as well as stock prices that wouldn’t fluctuate too much. That non-traded REITs are accompanied by commissions, larger broker fees, suspended buyback programs, and dividend cuts may come as a surprise.

Blue Vault Partners and The University of Texas at Austin McCombs School of Business Release Results from Performance Study of Nontraded REITs, PRWeb, August 28, 2012

Most nontraded REITs underperform market, Investment News, June 10, 2012

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