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Lack of Supervision ...

Brokerage firms have long had procedures in place to monitor the activities of individual brokers. These include periodic monitoring of trades undertaken for customer accounts for suitability, as well as exception reporting for accounts that exceed a certain number of trades per month, or a certain level of commission generation relative to the equity in the account. The branch office manager is responsible for monitoring both activities, as well as other compliance relating to industry or firm rules.

Inadequate supervision of branch office managers themselves by brokerage firms was brought into stark relief by the infamous 2002 Gruttadauria case, in which a branch office manager of a major national firm was discovered to have misappropriated several tens of millions of dollars of customer funds without the knowledge of the firm. Because of the scale and notoriety of the case, NASD (now FINRA) proposed a series of rule changes (Supervisory Control Amendments) to the Securities and Exchange Commission to prevent future occurrences of such behavior. The regulations embodying these changes (Rules 3010, 3012 and 3012) became effective on January 31, 2005, and complement other broker supervisory requirements by the New York Stock Exchange and state regulators.

In aggregate, the regulations require very specific procedures and regular examinations of broker activities to ensure compliance with all applicable rules. In practice, questionable or inappropriate broker actions that result in customer losses can often be shown to have flouted one or more such safeguards. The effect of this “lack of broker supervision” has the practical result that the firm itself, with its presumably far greater resources, can become culpable for the actions of brokers whose problematic behavior has harmed the investor.