Heightened Supervision Standards Vary
Dow Jones Compliance Watch
NEW YORK (Dow Jones)–You can’t please all the people all the time, but in the
financial advisory world, not pleasing the clients a lot of the time can trigger
Regulators expect firms to conduct their own heightened supervision but will
sanction them if they don’t. And while these regulators leave the criteria for
such supervision up to the firms, some people think the industry, already using
broad and differing measures, isn’t efficient and consistent enough in paying
attention to problem brokers.
The National Association of Securities Dealers said about 1.2% of brokers have
three or more “disclosures” on their records – ranging from customer complaints
to pending arbitration to incidents such as DUIs.
In the past, five complaints inside a year triggered heightened supervision by
the New York Stock Exchange regulators, who monitor member firms. It has
recently stopped using this threshold alone, looking more broadly at a financial
adviser’s record. That is typically how other regulators identify which brokers
and branch offices merit extra attention.
“If firms are on top of the rep, we don’t need to duplicate what the firm is
doing,” said Grace Vogel, executive vice-president for member firm regulation at
the NYSE. “We’re looking for individuals that haven’t been identified by the
firm yet as conducting activity that’s questionable.”
In-house, firms don’t just use complaint numbers either, instead opting for a
case-by-case assessment. Often, heightened supervision is used as a probationary
period; if brokers don’t resolve problems within a set time, their firms may
But some question whether the extra supervision always works.
“If someone is a high producer, they might be less likely to get rid of the
person,” said Brian Rubin, a partner at law firm Sutherland Asbill & Brennan and
former enforcement attorney for the NASD and Securities and Exchange
He said heightened supervision is sometimes used as a slap on the wrist for top
brokers. But if done right, he said, it prevents recurring problems.
Last month, an NASD arbitration panel ordered A.G. Edwards to pay $339,974 in
compensatory damages, punitive damages and attorneys fees when it found that a
financial adviser placed an elderly investor’s money in unsuitable variable
The FA had been fired from his previous job for refusing to participate in an
internal investigation and lost an arbitration case that alleged breach of
fiduciary duty. Because of this history, he should have been on heightened
supervision, said Philip Aidikoff, the attorney who represented the investor,
Dolores White, in the case.
“In this case, a broker who wasn’t subject to special supervision clearly
should have been flagged for this conduct,” Aidikoff said. “In my experience
(heightened supervision) is very spotty.”
A spokeswoman from A.G. Edwards said the firm disagrees with the arbitration
panel’s decision and that the FA is no longer employed by the firm. She wouldn’t
Aidikoff said that for every instance of a broker on heightened supervision
getting in trouble again, there are many similar cases that aren’t reported.
“The branch manager has the override on the profitability of the branch, and
these guys are generally cash cows,” Aidikoff said. “There’s a difference
between the establishment of special or heightened supervision and the
heightened supervision actually doing something to curb (bad) sales practices.”
Few firms will talk specifically about their heightened supervision practices,
but some deny production numbers play a part in their decisions. Generally, they
don’t have a clear threshold on when someone requires heightened supervision,
and when a person should be fired.
“Some situations are so egregious that one complaint alone could cause us to
terminate them,” said Bridget Gaughan, executive vice-president and general
counsel at AIG Financial Advisors, part of American International Group Inc.
(AIG). But, she said, there are times when even a high number of customer
complaints doesn’t indicate a problem.
Tell Tale Signs
Stealing or fraud are easy cases, Gaughan said, but when a financial adviser
has credit problems, for example, heightened supervision might be more
“We would put heightened supervision in place requiring them to take a credit
course, or make arrangements to pay a lien in a certain period of time,” Gaughan
said. “You just want to remove that pressure, make sure they don’t have a reason
to do things (that might be) pushing the envelope.”
Ken Madsen, chief compliance officer for H&R Block Financial Advisors, a unit
of H&R Block Inc. (HRB), said his firm uses heightened supervision for advisers
who make technical errors that don’t affect customers.
“What we’re looking at is was there an honest mistake made versus actively
harming a customer. If they’re actively harming a customer, that’s where it
needs to be stopped,” he said.
At Raymond James Financial Services Inc., a unit of Raymond James Financial
Inc. (RJF), day-to-day supervision picks up on patterns that raise red flags,
said Jim Fulp, executive vice-president of national sales. Many are benign, but
serious complaints warrant heightened supervision.
“We err on the conservative side,” Fulp said, estimating that the firm at any
given time may have a maximum of 30 or 40 financial advisers on heightened
supervision and double that on a watch list.
Firms are supposed to craft heightened supervision plans based on the behavior
they want to watch. At Morgan Stanley (MS), senior members of its legal,
compliance and national sales teams meet regularly to determine when heightened
supervision is appropriate and what shape it should take.
In heightened supervision situations, firms often give extra scrutiny to a
FA’s daily trades, e-mails and phone conversations, and require more meetings
with supervisors to ensure compliance. That can create a burden on branch
managers, who may not always find it worth the time and effort.
“Heightened supervision is as onerous on the supervisor responsible for
conducting the supervision than it may even be for the individual subject to
heightened supervision,” said Cindy Cheney, director of private client group
compliance at RBC Dain Rauscher Inc., a unit of the Royal Bank of Canada (RY).
James Eccleston, a Chicago lawyer who represents both brokers who are the
subjects of regulatory inquiries and investors, has noticed that branch managers
have become more willing to fire FAs than they have in the past.
“What I’m starting to see is that branch management is much more eager to pull
the trigger and terminate a broker if there’s time out,” he said. “You’d think
there’d be more lenience, not less lenience.”
-By Jaime Levy Pessin, Dow Jones Newswires, 201-938-4546;