Misconduct by Stock Brokers and Financial Planners

When you use a stock broker or financial planner to help manage your investments, you place a great deal of trust in that individual. At times, financial advisers will take advantage of their position to increase their commissions and fees, or even to steal money.

Researchers at the University of Chicago have estimated that seven percent of financial advisers have been disciplined for misconduct, with most remaining in the field even after they are caught. Even wealthy individuals and celebrities have fallen victim to misconduct by trusted financial advisers, and any investor is at risk.


Types of Misconduct

In working with your financial planner, you should be aware of common acts of fraud and misconduct that may occur with your investment account:

Churning - The Excessive Trading of Stock

As a stock broker profits by making commissions on each purchase or sale of stock, a stock broker may engage in an excessive amount of trading in order to obtain higher commissions from your account, a form of misconduct known as "churning".

While it is not always apparent from a review of trading records if a stock broker has engaged in excessive trading or has reaped excessive commissions, it is possible to determine whether the growth in the account was sufficient to cover trading expenses, and whether purchases and sales of stock are made to the advantage of the investor - particularly where the amount of trading is excessive as compared to the amount of money invested.

With enough questionable trading activity, it may be possible to establish that churning has occurred. You can protect yourself from churning by limiting your stock broker's authority to engage in discretionary trading.

Recommending Unsuitable Investments

A stock broker recommends that an investor purchase securities that the broker knows or should understand are not suited to the client's needs or investment goals.

For example, the stock broker may recommend high risk stocks to an older client whose actual needs are for stability and a consistent income. Sometimes a stock broker will encourage clients to purchase a particular stock that is being pushed by their brokerage firm, and may mislead the client about the quality of the investment.

Excessive Concentration

Investors typically benefit from having a diversified portfolio, in which losses in one sector are offset by gains in another. If a financial planner or brokerage over-concentrates investment in a particular stock or sector of the market, an investor may face an excessive risk of loss.

Misrepresentations

A broker may misrepresent a material fact about an investment or trade, or fail to inform the client investor of a material fact, resulting in the client's making an investment decision from which the client would otherwise have abstained.

y way of example, in conduct known as touting, a brokerage firm might encourage a client to invest in house stocks, essentially low-value stocks that are part of a fraudulent investment scheme designed to artificially inflate their value, despite the fact that the broker knows that no fully informed investor would make the recommended investment.

Similarly, a stock broker may claim to have inside information about a hot stock - if true it is possible that the broker is engaging in illegal insider trading, and if not the broker is lying.

The same types of misconduct may occur with mutual funds or other investments.

Failure to Follow Instructions

Once given instructions by a client, a financial manager or broker is expected to follow those instructions until the client provides different instructions. Misconduct occurs if, after being instructed by the investor to engage in or abstain from a particular trade or activity, the broker either does not follow the instruction or ignores the instruction.

For example, a stock broker may engage in trades in an account over which the broker has no discretion to make trades, or a stock broker might fail to follow an investor's instruction to sell a stock that the firm is touting.

Misappropriation

Sometimes a stock broker or financial planner simply steals money from the client's account, perhaps providing fake records to hide the deductions or as evidence of losses that did not actually occur.

What to Do if You Are the Victim of Misconduct

If you believe that your broker or financial planner is not properly managing your assets, you can contact the broker or financial planner in writing, explaining your concerns and asking that they respond to the issues you have raised.

You should keep copies of all correspondence between yourself and the broker or financial planner.

If the exchange of correspondence does not resolve your concerns, or if you want help drafting a letter or are reasonably certain that improprieties have occurred, you may benefit from consulting a lawyer who specializes in financial matters. A lawyer can provide an objective review of the trading records and of any correspondence, and can advise you about steps you may take to protect your remaining investments and potentially recover compensation for your losses.

Copyright © 2004 Aaron Larson, All rights reserved. No portion of this article may be reproduced without the express written permission of the copyright holder. If you use a quotation, excerpt or paraphrase of this article, except as otherwise authorized in writing by the author of the article you must cite this article as a source for your work and include a link back to the original article from any online materials that incorporate or are derived from the content of this article.

This article was last reviewed or amended on Apr 9, 2018.