Have you discovered an unusual increase in trading activity in your brokerage account managed by a professional broker, or have you paid an unusually high amount of commissions? If so, you may have become a victim of an unethical practice called “churning,” and you could be entitled to financial compensation. Contact Erez Law PLLC today for an initial case evaluation with our broker churning attorneys to discuss whether you may have a legal claim against your broker or brokerage firm.
What Is Churning?
Churning refers to collecting excessive commissions by making unnecessary trades solely to generate commissions, rather than advancing a legitimate investment strategy. While buying and selling is part of many legitimate investment strategies, churning occurs when a broker-dealer buys and sells securities solely to generate more commissions, rather than achieving their client’s investment objectives. If you suspect you suffered investment losses due to excessive churning, contact our law firm today for a free consultation.
How Brokers Can Be Liable for Churning
There are various legal theories under which a broker may be held financially liable to a client for churning. First, churning may constitute a breach of the broker’s contractual duties to the client if a client agreement requires the broker to obtain the client’s express authorization for trades or changes in trading strategy. Account churning sometimes involves unauthorized trading because the investor does not want to wait to get the customer’s permission before conducting additional transactions.
Churning can also represent a conflict of interest or failing to act in the client’s best interests. Churning involves making trades for the broker’s benefit rather than the client’s. Brokers are supposed to operate in their customer’s best interest, and the broker’s advice for investment decisions should be based on the customer’s financial interests and not the broker’s.
Churning also violates the broker’s duty to make suitable investment recommendations for the client when the broker engages in excessive trading simply to generate commissions for themselves. Brokers are supposed to consider their customer’s investment profile, financial situation, investment objectives, and risk tolerance when making investment recommendations. They must also conduct reasonable diligence before making trades on a customer’s account. If the broker ignores the investment strategy solely to conduct activity on the investor’s account, the broker may be violating the duties they owe their customer.
Finally, churning can violate U.S. Securities and Exchange Commission regulations and Financial Industry Regulatory Authority (FINRA) rules and constitute securities fraud.
If you are concerned that your investor is engaging in account churning and ignoring your investment goals, look for these common signs of churning:
- Sudden increases in your account’s trading volume, including frequent buying and selling activity
- Irrational trades (such as selling out of securities that continue to grow in value or buying securities that have no signs of growth)
- Short-term trading
- Paying high commissions compared to the growth of your account’s value
- Active trading in your account without your prior approval for each trade
An experienced attorney from our firm can review your case at no cost and advise you on whether you have a valid account churning claim.
Proving Broker Misconduct in Churning Cases
To prove that a broker willfully practiced churning on your account, you will need to establish several elements, including:
- Control of the account: You must prove that the broker had control of the account and the authority to conduct trades without needing your express authorization for each specific trade.
- Excessive trading: You must show that a broker executed an unreasonable number of trades on your account, typically measured against the historical trading activity on your account. You may also have to prove that you did not authorize an increase in trading activity on your account, whether by expressly directing the broker to conduct a higher volume of trades or approving a trading strategy that involved more frequent trades.
- Intent: A churning claim will also require you to prove that the broker intended to conduct excessive trades for an improper purpose rather than as part of a good-faith strategy to grow the client’s account. A broker may engage in excessive improper trading when they do so solely to generate additional commissions and fees for themselves.
Churning claims may employ various methods to determine whether a broker has engaged in an excessive number of trades. For example, a lawyer might examine the turnover ratio (the frequency with which the account buys and sells holdings within a year) or the commission-to-equity ratio.
The following evidence could help establish churning:
- Account statements, including historical records and statements from the alleged period of churning
- Market performance records showing a disconnect between trades and stock market movement
- Financial analysis of indicators of excessive trading, such as turnover or commission-to-equity ratios
When the Brokerage Firm Is Also Liable
Even though an individual broker may engage in churning practices to enrich themselves at their clients’ expense, the broker’s firm may still be held financially liable to the clients. Brokerage firm liability in churning may arise in circumstances where a brokerage firm breached its duty to supervise an individual broker’s activity. Firms should have reasonable monitoring systems in place to detect warning signs of churning by individual brokers, such as sudden increases in trading activity without documentation authorization. Firms may also bear liability for individual brokers’ churning if they have such monitoring systems in place but fail to act on red flags. Finally, a firm can also bear liability for broker churning if it has a corporate culture that tolerates, encourages, or even mandates churning.
When a brokerage firm also bears liability for churning, an experienced attorney from our firm can file a claim under the FINRA arbitration process. Our attorneys have extensive experience handling over one thousand FINRA arbitration cases. Our churning attorneys can examine your situation to determine whether your broker excessively traded on your account and whether the brokerage firm is responsible for your investment losses.
Consequences for the Broker
There is a range of professional, financial, and legal consequences for brokers caught “churning” client accounts. Broker responsibility for excessive trading includes regulatory actions from FINRA, the U.S. Securities and Exchange Commission, and/or state securities regulators. FINRA-registered brokers can have their licenses suspended or canceled. Federal and state securities regulators can also impose fines on brokers for churning, suspend or bar them from certain activities in the public securities markets, or, in certain circumstances, refer brokers to the U.S. Department of Justice or state attorney general’s office for criminal investigation.
Stockbrokers and the brokerage firms that employ them may also owe compensation to clients for churning, including for unnecessary commissions and fees they earned, as well as losses incurred by the clients due to the churning. In order to obtain compensation, you need to file a FINRA arbitration case and use an experienced securities litigation firm like Erez Law PLLC to improve your opportunity for recovery.
Finally, brokers who are caught churning client accounts may suffer considerable reputational harm, which can jeopardize their careers. Even when a broker can retain their license, they may lose clients who become aware of the broker’s past churning practices. Firms may also decline to hire a broker who has faced regulatory action or civil liability for excessive trading on client accounts.
Your Legal Options as an Investment Loss Victim
If you suspect that your stockbroker engaged in churning on your investment account, you may have legal options for seeking financial recovery for your losses. You are likely contractually obligated to submit your legal claim to arbitration, particularly if your broker is registered with FINRA.
Arbitration operates as a more streamlined alternative to traditional court litigation while retaining many trial-like processes. Parties may conduct limited discovery before a hearing before one or more neutral, third-party individuals called arbitrators who decide the case. At an arbitration hearing, parties can present evidence, witness testimony, and legal arguments to the arbitrator(s).
The securities law attorneys of Erez Law PLLC can represent you through these complex processes. Contact us now for a confidential consultation with a churning investment account attorney, and let us help you demand accountability and compensation from an unscrupulous broker or brokerage firm.