SEC Fines Morgan Stanley $8 Million for Inverse ETF Sales Violations
(Corrects eighth paragraph to indicate that Morgan Stanley admitted to the SEC’s findings.)
The Securities and Exchange Commission said Tuesday that it fined Morgan Stanley’s retail brokerage unit $8 million for failing to ensure clients understood risks involved with purchasing inverse exchange-traded funds.
Morgan Stanley solicited customers in non discretionary advisory accounts to purchase single inverse ETFs in their retirement and other accounts from mid-2010 through mid-2015 without determining their suitability for each client, the regulator said in a cease-and-desist offer signed by the firm. It also charged the firm with failing to give brokers appropriate sales training for the complex product.
”Morgan Stanley recommended securities with unique risks and failed to follow its policies and procedures to ensure they were suitable for all clients,” Antonia Chion, the SEC’s associate director of the enforcement division said in a prepared statement.
Morgan Stanley also failed to obtain signed disclosure notices from “several hundred clients” to acknowledge their understanding of the risks involved with inverse ETFs and failed to monitor the ETF positions on an ongoing basis, the SEC said.
Inverse ETFs essentially “short” the performance of an index or other benchmarks. Their returns increase as a benchmark performance measure declines, making the instrument complex for many advisers to explain to unsophisticated customers. Performance of the ETFs can be volatile since they offer include swaps, futures contracts, and other derivative instruments, according to an SEC alert.
The instruments are typically unsuitable for investors who plan on holding them for longer than one trading session, unless they are part of an active trading or hedging strategy, the SEC said.
“We are pleased to have resolved this matter,” a Morgan Stanley spokeswoman said.
The SEC said Morgan Stanley Smith Barney’s violations were willful, noting that its parent was sanctioned in 2012 and 2013 by the Financial Industry Regulatory Authority and the state of New Jersey for inappropriate sales practices related to “non-traditional” ETFs, including singe-inverse funds. In contrast to its declaration of neither admitting nor denying the earlier regulatory charges, the firm admitted the facts cited by the SEC.
The federal regulator in a separate ruling last month fined Morgan Stanley $13 million for overcharging 149,000 clients who were formally Smith Barney customers more than $16 million due to accounting and billing errors. The firm reimbursed the customers.
In December, the SEC and the Financial Industry Regulatory Authority cumulatively fined Morgan Stanley $10.3 million for margin and customer cash segregation violations.