What Is Illegal Churning or Excessive Trading?
Many of us have a basic understanding of how the buying and selling of securities works, and some of the different types of investments we might make. For this reason, we often entrust decisions regarding our investment accounts to professional organizations and brokers. But sometimes those professionals make investment decisions to benefit themselves rather than their clients. One such practice is known as “churning.” The article below describes churning in more detail, as well as related federal and industry rules, and how to spot churning committed by your own broker.
What Is Churning?
When brokers buy and sell securities, they usually make a commission from that transaction. Churning occurs when a broker conducts excessive or frequent buying and selling of securities in order to increase his or her commissions rather than acting in the best interests of the client. This takes place when the broker has actual or effective (because of the customer’s lack of investment sophistication) control over the investment decisions of the client’s account. Churning is both unethical and illegal and can affect the accounts of novice and experienced investors alike.
Churning: A Prohibited Practice
The area of law that covers illegal churning is called “securities law.” Some of the federal and industry rules related to churning include the following:
- SEC Rule 15c1-7: States that a broker acts in a manipulative, deceptive, or fraudulent way when he or she has discretionary power over a customer’s account and effects transactions that are excessive “in view of the financial resources and character” of the customer’s account.
- FINRA Rule 2111: This rule requires brokers and agents (who are covered by the Financial Industry Regulatory Authority) to have a “reasonable basis” to believe that a transaction or recommendation is suitable for the customer based on the customer’s investment profile (which includes factors like their age, other investments, financial needs, investment objectives and experience, and risk tolerance).
- NYSE Rule 408(c): Prohibits members of the New York Stock Exchange and their employees from exercising discretionary power to effect securities transactions which are excessive in size or frequency in light of the customer’s financial resources.
How to Detect Illegal Churning
Detecting illegal churning can be difficult, because brokers are in the business of buying and selling securities every day. But they still have many responsibilities in executing those duties. To detect churning, it helps to look at the resources and investment goals of your account, because churning involves transactions that are excessive in size or frequency in light of those resources and goals. According to the Securities and Exchange Commission (SEC), “Frequent in-and-out purchases and sales of securities that don’t appear necessary to fulfill the customer’s investment goals may be evidence of churning.” If you suspect that your broker is participating in churning at your expense, you can file a complaint with the SEC or with FINRA’s Investor Complaint Center.
Pursue Your Churning Claim with the Help of an Attorney
If you’ve been a victim of churning, you may be able to receive damages for your losses and the commissions your broker received by excessively trading on your account. However, securities law is a complex legal field that requires knowledge of many rules and industry standards. Therefore, it’s often wise to consult with an attorney who has experience litigating these types of securities issues. Contact a local securities attorney today to discuss your options.
Contact a securities lawyer to assist with any issues related to securities laws and financial instruments.