The NASD's Office of Hearing Officers (2005) and subsequently The Financial Industry Regulatory Authority (FINRA) National Adjudicatory Council (2008) found that registered representative John D. Audifferen:
FINRA found that all of the violations constituted conduct inconsistent with just and equitable principles of trade and barred Audifferen in all capacities for his violations in connection with Williams's account, imposed an additional bar for Audifferen's violations in connection with his own accounts, ordered Audifferen to pay Williams restitution in the amount of $7,835, and fined Audifferen $9,665 for his conduct in connection with Williams's May Davis account.
Audifferen appealed to the Securities and Exchange Commission. In the Matter of the Application of John D. Audifferen (1934 Rel. No. 58230 / July 25, 2008) http://sec.gov/litigation/opinions/2008/34-58230.pdf.
Okay, all in all, a fairly straightforward fact pattern--if not particularly interesting.
Ah...now there is a word that is the grammatical equivalent of a dropping barricade, flashing light, and alarm at the railroad crossing. What would the regulatory world of Wall Street be without some additional lurid details?
Did You Hear the One About the Broker and the Dancer?
We are immediately roped into this case when we read the following disclosure in the SEC's Opinion:
Williams worked as a dancer at a night club where she initially met Audifferen. She and Audifferen began a personal relationship in 1998.
I thought that would get your attention. Now that you are riveted, let me provide a bit more detail.
William's annual income in 1999 was about $48,000, and she had about $6,500 in her checking account and $10,000 in a savings account. Her only investment experience was a Charles Schwab account containing about $20,000 of a single security given to her by a friend--she didn't trade the account and simply sold shares of the stock when funds were needed. In December 1999, at Audifferen's suggestion, Williams opened a cash account at May Davis. The new account form filled out by Audifferen stated that Williams worked in real estate and had an annual income of $100,000, total assets of $1,000,000, and five-years investment experience. Williams signed the form but later said that she had not read it.
A Little Short of Funds
In early December 1999, Williams funded her May Davis account with a $5,000 check, which was returned for insufficient funds. She deposited a second check in the same amount that cleared. In January 2000, Audifferen claimed that his personal checking account was messed up and asked Williams for $7,000 (which she gave him in check form made payable to May Davis' clearing firm--apparently to be deposited into her account and then used to pay Audifferen with the proceeds). Also, Audifferen asked Williams for and received two signed, blank checks, purportedly to be used in the event the market moved quickly and he wanted to respond with trades in her account.
As you may well imagine, given the manner in which things began, the path followed was filled with twists and turns.
A Little Help From My Friend
In January 2000, Audifferen entered an unauthorized purchase of 1,000 shares of Euniverse Inc. (EUNI) stock for $6,917.50 in William's account for which Williams did not make payment, even after a Reg. T extension was obtained. In February 2000, Audifferen cashed a $7,000 check from his personal checking account and deposited the proceeds into William's checking account (he had access to her account); he then deposited the earlier $7,000 check that Williams had written into her brokerage account. Those checking transactions apparently covered the $7,000 payment by Williams and covered the EUNI purchase in her account. In March 2000, Audifferen sold the EUNI shares for a $2,727.17 profit.
Follow the Bouncing Check...Again
Also in January 2000, Audifferen entered another unauthorized trade in William's account for 3,000 shares of Max Internet Communications Inc (MXIP) for $63,105.00. In the face of yet another Reg. T extension and a lack of funds in William's personal bank account, in February 2000, Audifferen submitted one of the two blank checks he had obtained from Williiams (now payable in the amount of $61,105.00--yeah, I know, the purchase was for $63,105. What do you want me to say? Someone's math wasn't great.). That check bounced, but Audifferen sold the MXIP shares ofr a $13,287.45 profit despite no payment having been made.
According to the SEC's statement of facts, in March 2000 when Williams saw her February May Davis statement and the MXIP trades, Audifferen became angry with her when she questioned him about the activity in her account. Soon thereafter she ordered May Davis to close her account. I assume that the relationship similarly soured around this time.
But wait...the gate once again drops, the lights flash, and the bells ring!
In March 2000, Audifferen does not close Williams' brokerage account. Of course not, that wouldn't make for a yet more intriguing story. No, the intrepid Audifferen transfers $18,000 from the brokerage account into William's personal checking account. Shortly thereafter, inexplicably (yeah, right!) the bank calls Williams to confirm her wire instruction to transfer the funds from her banking account to Audifferen's checking account. No way, she said. When she confronted Audifferen with the situation, he claimed that the money was his and she better return it to him. Doesn't seem that Williams was intimidated because Audifferen resorted to depositing that second blank check (now in the amount of $17,5000) into his personal checking account. Surprise! That check bounced. Audifferen called demanding his money. For some reasons not explained, the William's "no way" refusal melted away and she authorized the wire transfer.
On May 23, 200o, Williams was notified that her May Davis account was closed and she received a $1,634.01 check for the remaining balance in her account. That had to bother her on two counts. First, her account had generated a $15,960.82 net profit; and, two, her initial, unrecouped initial deposit was $5,000. To add insult to injury, May Davis advised her that she was the disclosed beneficial owner for the capital gains to be disclosed to the Internal Revenue Service.
In reviewing the matter on appeal, the SEC concurred with FINRA's findings of fact and sanctions.
Exchange Act Sections 7(c) and (d) make in unlawful for a broker-dealer and its associated persons to extend credit to customers other than in conformance with Regulation T. The EUNI and MXIP purchases violated Section 220.8 of Reg. T because Williams lacked sufficient funds in her cash account and Audifferen was on notice through the bounced checks that she likely lacked additional resources to cover. Moreover, Audifferen improperly extended credit to Williams for the purchase of the EUNI shares, when he used his personal funds to ultimately cover the purchase. NASD Rule 2520(f)(9) prohibits the practice of Free Riding, which occurs when the purchase of a security is paid for with the proceeds of the sale of that same security. The MXIP purchase violated the Free Riding rule because Williams never paid for the shares and used the proceeds to cover the purchase price. Moreover, under NASD Rule 2330(f), Audifferen could not directly or indirectly share in the profits/losses in Williams' account without a prior written authorization from his firm, and the sharing needed to be in direct proportion to his financial contribution.
Understandably, Audifferen resigned from May Davis on July 28, 2000, and subsequently joined Investec Ernst & Company (Investec) through May 2001. On April 17, 2001, his customer Sandra Gabriele complained that Audifferen had fraudulently filled out an options agreement and new account form for her account, and also engaged in unauthorized trading. Audifferen denied the allegations. By September 2001, Audifferen applied for a position with J.P. Turner and Company LLC (JPT) but failed to disclose on his Form U4 Gabriele's sales practice complaints. When JPT subsequently received a U5 from Investec disclosing the complaint, Audifferen claimed he was unaware of it. The SEC sustained FINRA's finding that Audifferen's inaccurate U4 was a violation of NASD Membership Rule IM-1000-1, which prohibits filing misleading registration forms.
A Final Comment:
Having read the hearing decision, the NAC decision, and the SEC's opinion, I am struck as to the competent and clear manner in which all three key documents were drafted. Frankly, that's an oddity for me, but when I find commendable work, I have an obligation to highlight it. I read the procedural arguments raised by Audifferen's counsel before the SEC (note: Audifferen proceeded pro se during both the NASD hearing and subsequent FINRA NAC hearing) and share some of the concerns he noted but the SEC did not, and that's all that matters at this stage (barring a subsequent appeal to the federal courts).
If I have one concern -- and it's a long-standing, ongoing one -- the public should note that the underlying events in this case first occurred in 1999/2000. Here we are, some eight years later and have just exhausted the administrative remedies at FINRA and the SEC. The NASD Complaint was filed on November 7, 2003. The hearings occurred in August and September of 2004. The NAC decision was issued on March 14, 2005. In July 2008, the SEC finally sustains those lower decisions.
Put in more stark terms: The events at issue happened before 9/11 and have lasted as long as the present war in Iraq and Afghanistan. That strikes me as an unacceptably long period of time for such a relatively simple case in which one broker is basically charged with misconduct in one account consisting of two trades during a period of several months. This is not akin to waging a war. This is not a life and death struggle. This is a self-regulatory investigation, adjudication, and appeal.
Perhaps FINRA needs to spend more money for the hiring and retention of investigators, examiners, supervisors, directors, and lawyers. Where to find the funds in these difficult days? For starters, it might be time to reduce to top-heavy numbers of over-titled executives and their weighty salaries. Maybe the regulator could divert some of the funds now earmarked for marketing and advertising itself into the pockets of its over-worked and underpaid minions. As with too many regulatory institutions in our country, we have a bloated bureaucracy weighing down upon the rank and file folks who actually do the work but rarely get the credit. Stop pleading poverty. You have the funds. Make better use of them.