An All Too Human Appeal

February 2, 2010

As a lawyer, I have a quirky way of reading. The first time I read a decision or opinion, I start at the beginning and read straight through to the end. I underline everything that strikes me as important or interesting. Then I take a yellow highlighter and read through a second time, from start to end, highlighting only the "key" issues and points.Finally, armed with a different color highlighter, I read from the end of the case backwards - looking to highlight the few takeaway points of the case. Why such an oddball approach?  I find that this method helps me best understand the facts, the law, and the nuances of both.

In that spirit, let me offer you a somewhat jumbled presentation of a recent Opinion issued following an appeal to the Securities and Exchange Commission (the "SEC" or the "Commission") by a former New York Stock Exchange (NYSE) registered stockbroker. In the Matter of the Application of Janet Gurley Katz For Review of Disciplinary Action Taken by NYSE Regulation, Inc., (1934 Rel. No. 61449 / Admin. Proc. File No. 3-13279, February 1, 2010), we learn at the beginning of the Opinion on Pages 2-3 that:

Janet Gurley Katz, formerly a registered representative associated with Wachovia Securities, Inc. ("Wachovia" or the "Firm"), a member of the New York Stock Exchange LLC, appeals from NYSE Regulation, Inc. ("NYSE") disciplinary action. The NYSE found that Katz engaged in conduct that was inconsistent with just and equitable principles of trade by (i) causing customer funds to be transferred to other customers' accounts without authorization, (ii) making misstatements to a customer, (iii) effecting unsuitable transactions in customers' accounts, and iv) engaging in unauthorized trading in customers' accounts.The NYSE further found that Katz violated NYSE Rule 408(a) by exercising discretionary power in customer accounts without written authorization and that she violated NYSE Rule 405 by causing Wachovia to fail to learn Finally, the NYSE found that Katz caused or permitted violations of NYSE Rule 440 and Section 17(a) of the Securities Exchange Act of 1934 and Rules 17a-3 and 17a-4 thereunder by entering (or causing to be entered) inaccurate information on customers' new account forms. 

The NYSE censured Katz and imposed a permanent bar from membership, allied membership, and approved person status and from employment or association in any capacity with any member or member organization. We base our findings on an independent review of the record.

In more common terms, the NYSE threw the kitchen sink at Katz.  Katz was found guilty by the NYSE of  unauthorized transfers of customer funds, making misstatements to customers, unsuitable trades, unauthorized trading, and entering inaccurate new account information. Following the NYSE hearing, Katz was censured and permanently barred. That didn't sit well with her and she appealed to the SEC.

Now, let's shake things up a bit. Let's read the rest of the case from the end to the beginning.


Nice Guys and Gals Still Finish Last 

On page 37 of its Opinion in Katz, the SEC responds to Katz's objections and the best efforts of her legal counsel to question the fairness and accuracy of the NYSE's lower decision:

Moreover, we agree with the NYSE's conclusion that Katz's claims of mitigation provide no basis for leniency. Katz may not have profited directly from misappropriating some of her clients' funds, but she did benefit by keeping her clients happy and retaining their business. Katz's assertions that she was nice person who did a good job for her clients similarly do not warrant a lesser sanction, as her misconduct demonstrated a readiness to put her own interests ahead of her clients'.

The imposition of a censure and bar are necessary here to protect the investing public. Katz's behavior - particularly her failure to take responsibility for her misconduct and her attempt to attribute her violations to other Wachovia customers and employees - provides no assurance that she will not repeat her violations. A censure and bar will therefore prevent Katz from putting additional customers at risk and will serve as a deterrent against others in the securities industry from engaging in similar misconduct.

For the above reasons, we see no basis for concluding that the sanctions imposed by the NYSE are excessive or oppressive.

Apparently, Katz argued that her heart was often in the right place when it came to her complaining customers.  The SEC didn't buy the "good intentions.".  More pointedly, the SEC views Katz as a serious threat to the public, and attempts to protect other investors from this broker by sustaining the NYSE's bar.

A Life of Quiet Desperation?

Why wouldn't the SEC view Katz as a decent, hardworking individual who only tried to do the right thing?  Why did the federal regulator see her as something of a self-interested fraudster?  Consider this statement on Page 35 of the Opinion: 

In deciding that a censure and bar were appropriate sanctions, the NYSE focused almost exclusively on Katz's misappropriation of client funds and her misstatements to Pinajian. The NYSE described these actions as "extremely serious," noting that Katz's "unauthorized transfers constituted, at best, reckless misuse of customer money, and at worst, deliberate theft from one customer to benefit another" and that Katz's misstatements to Pinajian were an attempt "to conceal additional misconduct." As the NYSE noted, "many of [Katz's] actions appear to have stemmed from desperation - stealing money from one customer to cover a margin call in the account of another, creating and sending false statements to conceal the mounting losses in that customer's account, taking Firm documents out of the office under cover of night." The NYSE concluded that Katz's "clumsy attempts to hide what may have been mere incompetence caused great harm to her customer and to the trust that investors place in those who making a living in the securities industry." We agree with these characterizations of Katz's conduct. 

It came down to the SEC believing that, at best, Katz was reckless with her client's funds, and, at worst, a deliberate thief.  When the best that can be said about you is that you made "clumsy attempts to hide…incompetence," you have to know that the appeal is going into the toilet.  The bluntness of both the NYSE's and SEC's language let us know that they were not going to cut this broker any slack -- and that the regulators felt they had good reason for being so adamant. 

Assumption of Risk 

But surely, Katz must have raised some defenses?  Continuing to row backwards through the SEC's Opinion, we see that she attempted to justify some of her conduct claiming that her clients knew that they had to spin the proverbial wheel to have a shot a higher returns.  That's an old line of defense and it was given short shrift on Pages 27 and 28 of the SEC Opinion

Katz also argues that Ennis confirmed Kapakjian's and Voskian's willingness to assume risk, but Kapakjian's and Voskian's apparent willingness to take on some risk does not change our conclusion that Katz 's recommendations were unsuitable for Kapakjian and Voskian. A client's awareness of - or even desire for - risk does not relieve a registered representative of the obligation to tailor recommendations to each customer's financial profile. Katz did not meet this obligation. She instead admitted that she essentially followed the same investment strategy for all of her clients, testifying that "if you are looking for safety of principal, you go to the bank, put your money in the bank, you should not be talking to me." For these reasons, we conclude that Katz's recommendations were unsuitable.

For Katz to successfully raise the defense that she tailored a riskier investment strategy to the specific needs of a client wanting to utilize more speculative strategies, she needed to demonstrate that she had, indeed, customized the portfolio. A bespoke approach can't be selling an off-the-rack, ready-to-wear suit as one that is hand tailored. The SEC was unimpressed by her defense because she seemed to have produced little more than a one-size-fits-all line.  It seemed that if you wanted to use Katz's services you were offered little choice but to accept her blanket approach to investing -- or so the SEC and the NYSE seem to have concluded.

Flaming Parachute


Sometimes a respondent in a regulatory action is confronted with so much evidence of what is alleged that there just isn't much point in denying the facts alleged.  In such cases, the best the broker's lawyer can often do is argue that even if the allegations are true, the client didn't make any money from the trades, acted in good faith, and only sought to further the best interests of the client.  It's a fair point because no Wall Street professional can (or should) guarantee profits or promise that every recommendation will be a home-run.  At best, many brokers offer educated guesses.  If that's the case, then sometimes the culprit is not the supposed fraudster broker but a fickle stock market that punishes even the wisest stockpickers.  Unfortunately for Katz, when you're going down in flames, sometimes even your parachute is afire.  The SEC noted on Page 23: 

Katz argues that none of the above transfers amounted to misappropriation because (i) she derived no personal benefit from the transfers and (ii) there was "no relationship between the broker and either account." We disagree. Katz had a relationship with all of the account holders to and from whom funds were transferred: she was their registered representative. She also derived a personal benefit by keeping the clients who received the transfers happy and retaining their business. Furthermore, we have held in similar circumstances that a registered representative misappropriates funds by transferring assets from one customer account to another without authorization. Misuse of customer funds "is serious misconduct," and Katz's conduct would violate NYSE Rule 476(a) regardless of whether she gave the money to another customer, kept it herself, or eventually gave it back to her customers.

A Few Bricks 

It's an old lawyer's adage that you build a wall a brick at a time, and many successful appeals result from slapping mortar between so many odds and ends bricks.  If you can raise doubt about one allegation or finding, you may be able to plant a seed in the adjudicator's mind as to other allegations and findings. At one point in her appeal, Katz tried to dispute the allegation that she had directed three unauthorized account transfers because she was abroad.  On Page 22, the SEC explains that:

Katz further argues that she could not have been responsible for three of the transfers at issue because she was in Scotland at the time. The Hearing Panel, however, rejected Katz's argument, and we agree with that assessment. As the Hearing Panel explained, Katz's assistant Steup testified that Katz had "total control over the accounts," and that, even when out of the office, Katz would call in "[a]t least once a day while she was gone." Steup explained that "nothing was happening without [Katz's] knowledge" with respect to her customers' accounts.

Widows and Orphans - and the Elderly

Defense lawyers dread having an industry defendant who is accused of stealing from a widow or orphan. Bad enough that your client is charged with the kitchen sink, but, please, dear god, please, don't tell me that we have a widow or orphan making those allegations.  We do?  Geez…lemme see what we can do with that. As to Katz's attempt to do something with just such a set of facts, on Page 18, the SEC wags a finger:

Sometime after her husband passed away, Smith began to notice that Katz was trading in her account without her approval. Smith testified, for example, that Katz made nine trades in her account in June 1999 and eight trades in her account in April 2001, but that Smith had not spoken with Katz a corresponding number of times. Smith claimed that she asked Katz at one point about why she had executed so many trades, to which Katz responded "that she was repositioning the accounts, slowly but surely."

Of course, Katz's poor lawyer didn't just have the old widow-and-orphan thing to contend with.  No - it was worse, as explained on Page 15 and 16:

May Kapakjian, who is Voskian's sister and Griffin's aunt, also had an account with Katz. Kapakjian did not testify at the disciplinary hearing because, according to Griffin, "she is 92 and she is physically and emotionally incapable of handling this type of stress." Instead, Griffin, who had a power of attorney over her aunt's account, testified on Kapakjian's behalf.

It really never let up for Katz's lawyer.  Consider this description of yet another client on Page 12:

Voskian was an eighty-year-old widow and retired secretary when she opened her accounts with Katz. She had a high school education and described herself as having limited experience with investing because, she explained, her husband had always managed their finances.


Fallen Angels


Few human beings are either saints or devils.  In pillorying those who do wrong, it is easier if they are the devil incarnate.  What makes it more difficult is when those we judge are revealed to us as all too human. That is not to suggest that our sympathies should alter the imposition of a fair sentence, but it does force us to re-think many of our prejudices and beliefs.  In closing, consider these facts from Page 5 of the SEC's Opinion:

Katz was also dealing with a series of personal issues during this time. Her stepson was diagnosed with cancer in 2000 and passed away on December 31, 2001. Katz's husband was then diagnosed with terminal cancer. Katz and her husband subsequently traveled to Scotland for what they expected to be a final vacation together, during which Katz's husband passed away on October 4, 2002.