NASAA Identifies Notes, Real Estate, Ponzi, Oil and Gas, Affinity Fraud, and Variable Annuities as Biggest Investor Threats

Attorney Advising Disclaimer

The North American Securities Administrations Association (NASAA) announced the top threats to investors, identifying the most frequent sources of current investor complaints or industry investigations. The top current threats are promissory notes, real estate investments, Ponzi/pyramid schemes, oil and gas investments, affinity fraud, and variable annuities.

1) Promissory Notes

Identified by 74% of state securities regulators as a leading source of complaints/investigations, promissory notes are written promises to pay or repay a specified sum of money or loan at a future date, generally with interest. NASAA points out that short-term promissory notes comprise most note-related fraud, noting that unregistered notes (including those with less than nine month durations) are especially susceptible to fraudulent manipulation.

In California, the SEC is investigating real estate developer Woodbridge Group of Companies and its CEO Robert Shapiro for alleged promissory note misconduct; In 2016, FINRA sanctioned ex-Royal Alliance Associates broker Frank John Capuano for selling Woodbridge notes to RAA clients without firm approval, resulting in $34,000-worth of unauthorized commissions.

Related: Recent Promissory Notes posts.

2) Real Estate Investments

The Woodbridge investigation leads us to threat number two: real estate investments. Identified by NASAA as "a perennial investor trap," not all real estate investments are sold as promissory notes; real estate investments can be marketed as hard-money lending through other investment vehicles such as a pooled investment, or sold as part of a property flipping strategy (e.g., purchasing a run-down property for the purpose of refurbishing and reselling the real estate at a significant markup).

NASAA writes that real estate investments are susceptible to misappropriation schemes, while another category of related investments, real estate investment trusts (REITs), derives income from owning or investing in multiple properties. For example, former Ameriprise Financial broker Mark Francis Speakman pleaded guilty to defrauding clients out of $1.1 million by pretending to invest in a REIT called "Centrax," which prosecutors argued was a fake REIT. Speakman then allegedly used later clients' investments to pay off an earlier REIT customer instead of investing in the business he marketed.

Related: Real Estate Investment Trust (REIT) posts.

3) Ponzi and Pyramid Schemes

Speakman's fraudulent misconduct in using funds from later investors to pay off a jilted early investor bears similarity to a Ponzi scheme, which is defined as a fraud wherein earlier investors are repaid through funds deposited by subsequent investors. The Ponzi scheme can give rise to a pyramid scheme when recruitment efforts attract more and more later investors, which may effectively pay off earlier customers while expanding the pyramid's base, but which leave the later investors in the lurch when the base reaches a critical mass and there are no more investors left to recruit.

Another REIT-related Ponzi scheme concerned Texas' United Development Funding IV, which FBI agents raided in 2016 and whose product was sold by firms such as Berthel Fisher & Co. Financial Services Inc., Centaurus Financial Inc., IMS Securities Inc., Realty Capital Securities (RCS Capital Corp) and VSR Financial Services Inc. (Cetera Financial Group). An additional concern pertained to suitability and overconcentration when brokers sold the UDF REIT to clients whose risk tolerances and investment objectives made the sales unsuitable, or where the REIT was inappropriately overconcentrated in their brokerage accounts.

In July 2017, ex-Bright Trading (Las Vegas, Nevada) broker Stephen Skeffington Eubanks earned a 30-month prison sentence and $437,609 restitution order for his role in a Ponzi-like scheme, with a US District Court finding that Eubanks and his firm, Eubiquity Capital LLC, defrauded more than 20 people by collecting $700,000 in investments and then using "a significant portion" of the investments to pay personal expenses, while using other money deposited by newer investors to pay returns to earlier investors.

Related: Ponzi Scheme posts.

4) Oil and Gas Investments

Oil and gas investments comprise a subset of the larger energy sector, and the NASAA wrote that oil and gas investments specifically are susceptible to fraudulent practices. NASAA cautioned that investments structured in one state, but with operations and physical presence in a second state (e.g., the UDF REIT) can prove especially problematic.

FINRA recently barred two Wells Fargo Advisors (Irvine, CA) reps for unsuitably overconcentrating customer funds in speculative oil and gas securities, resulting in significant customer losses for their elderly, retirement-aged, and conservative-to-moderate investors who did not consent to risky and speculative products, such as Halcon Resources Corp and Magnum Hunter Resources.

Other problematic energy investments over the past few months include Breitburn Energy Partners (BBEPQ), which dropped 99% in value, Seadrill Limited (SDRL), another 99% loss, and Linn Energy (LINE). Prominent underwriters for Linn Energy's LINE master limited partnership (MLP) included well-known firms Raymond James & Associates, Barclays Capital, Citigroup Global Markets, Credit Suisse Securities, JP Morgan Securities, Merrill Lynch, Morgan Stanley, and RBC Capital Markets.

Related: Oil and Gas posts.

5) Affinity Fraud

Affinity fraud occurs when an scammer targets a certain group or uses a common bond with the victim in order to solicit an investment, often with the fraudster posing as a member of the group (legitimately or otherwise). Ponzi schemes can delve into the world of affinity fraud because it is often easier for scammers to recruit new victims and investors that belong to the same group. Some of these groups can be religious (e.g., a church), ethnic, or age-based (e.g., a retirement home, and can also comprise elder abuse).

For instance, FINRA sanctioned former Questar Capital Corporation (Westminster, CA) and Client One Securities (Garden Grove, CA) Tommy Huy Mai for forgery, falsification, and for operating an unapproved television program on two Los Angeles-area Vietnamese-language stations that occasionally featured "misleading" securities-related content. FINRA wrote that the TV program occasionally made improper promissory and/or unbalanced statements or claims; it is often more difficult for regulators to monitor foreign-language communications in real-time because of the language barrier.

In 2016, FINRA barred Thrivent Investment Management ex-broker Miguel Angel Hernandez for allegedly defrauding an elderly woman he met at church, promising a 12% return for a business he never established, and, instead, converting the client's $25,000 "investment" for personal use.

In 2015, regulators charged Securities America's Barry Graham Armstrong with running a "grossly deceptive" radio campaign aimed at vulnerable senior citizens called "Alzheimer's Campaign." Regulators said Armstrong and Securities America Advisors attempted to solicit or obtain clients by misleading investors under the Alzheimer's Campaign banner.

6) Variable Annuities

The final "top threat" pertains to variable annuities and variable annuity (VA) sales practices. VAs contain both securities and insurance features, and have long appeared on FINRA's radar, with the regulator writing in an Investor Alert that VA marketing techniques, or sales practices, "deserve scrutiny." FINRA found, for instance, that VA sales pitches may attempt to scare or confuse investors, while others portray VAs as a too-good-to-be-true solution to financial or legal troubles.

From FINRA barring Henry Mark Werner for fraudulently churning a 77-year-old blind widow's account and unsuitably recommending she switch from a Hartford VA to a Nationwide VA to fining specific firms—such as Summit Equities, VOYA Financial, Cetera, First Allied Securities, Summit Brokerage Services, and NEXT Financial Group, to name a few—for VA-specific failures and violative sales practices, it's clear that VAs pose a particular challenge and opportunity for shady sales practices.

NASAA pointed out VAs' high commissions and fees as a possible motivation behind VA-related churning, excessive trading, or unsuitable recommendations, while noting that variable annuities' tax-deferred status provides some unscrupulous brokers with an excuse to recommend VAs where they would otherwise be inappropriate or unsuitable. For instance, NASAA warns investors that a recommendation to hold a VA inside a qualified retirement plan (401(k) or IRA) is especially suspicious, as these retirement accounts already benefit from tax deferment.

In the case of Legend Equities broker Walter Joseph Marino, a broker's unsuitable recommendation to replace non-qualified VAs—Jackson National Life Insurance VA JNL Perspective II—purportedly caused a 78-year-old retired widow client to suffer financial harm when she incurred surrender charges and tax liabilities when Marino allegedly failed to utilize an applicable tax-free exchange procedure.

In others, such as MetLife Securities brokers Christopher Birli and Patrick Chapin, brokers simply sold unsuitable VAs with the express purpose of generating commissions and fees. In Birli and Chapin's case, FINRA found that the pair recommended switching out MetLife VAs held in retirement accounts in favor of new VAs held in other IRAs (recall NASAA's warning about IRA-related VA recommendations). In the end, FINRA charged Birli and Chapin with generating excessive commissions and fees through their unsuitable recommendations that customers switch $21 million-worth of VAs.

Related: Variable Annuities posts.

If you have invested with a broker, financial advisor, or firm in promissory notes, real estate investments, oil and gas investments, or variable annuities that were unsuitably recommended, overconcentrated, or improperly marketed and solicited, or you have suffered from involvement in a Ponzi/pyramid scheme or affinity fraud, and this unscrupulous or fraudulent conduct has proven harmful to your investments or interests, please call The Law Offices of Jonathan W. Evans & Associates at (800) 699-1881 for an investigation and consultation.

Related Posts
  • After $13 Million in Penalties for 'Widespread Failure,' Oppenheimer Fined $500,000 for Supervisory and Suitability Gaps Read More
  • FINRA barred former Independent Financial Group (IFG) broker Brett Arthur Hartvigson of San Diego, California for refusing to cooperate with its investigation into allegations that were part of a complaint. In 2021, while associated with IFG, Brett Harvgi Read More
  • Stifel Nicolaus Failed to Detect Unsuitable Recommendations Despite Risk Policy, Says FINRA Read More