Unauthorized Trading

Unauthorized trading involves the purchase or sale of a security by a broker without the prior consent of the customer in a non-discretionary account. Unauthorized trading allegations are common in securities arbitrations.

Many customers/investors do not realize that when they open a brokerage account, their broker is supposed to talk to them before each and every trade. And I don’t mean to simply say, “Hi, I’m going to buy X security in your account today”. The broker must explain how much he recommends you buy (in both dollar and share amounts) and why he recommends the purchase, including any negatives material facts. The same is true for a sale recommendation. If these conversations do not take place just prior to the execution of the trade, then the trade is unauthorized.

The obligations of the stockbroker before making a securities recommendation are great. The broker must investigate the security and its risk, must understand his clients financial situation and investment objectives and risk tolerance, and then determine based on these two factors whether a recommendation should be made. The results of this analysis are what should be discussed with the client before each trade.

The only situations where a brokerage firm can make trades in a customer’s account without first speaking to the customer is if there is a written discretion form on file signed by the customer or if there is a margin account that falls below the margin requirements. In this latter scenario, referred to as a “margin sellout”, the brokerage firm is permitted to sell securities to cover its risk.

To obtain authorization for a trade before making it is a bedrock course of conduct that every broker knows must take place. And it is a very serious violation for a stockbroker to violate this rule. It is FINRA Rule 2010 that prohibits brokers from making unauthorized transactions in their customers’ accounts. In a March 2017 News Release, FINRA barred a stockbroker for unauthorized and unsuitable trading in an elderly customer’s retirement account. FINRA’s Head of Enforcement Susan Schroeder wrote, “There is no place in this industry for brokers who take advantage of elderly customers. Protecting senior investors from predatory behavior such as unsuitable and unauthorized trading is part of our core mission and will always be a priority for FINRA.

”Elderly people are particularly susceptible to unauthorized trading, because many elderly people don’t want any involvement in their brokerage accounts and are all too happy to hear the broker say, “Don’t you worry – I will handle everything that happens in your account.” If the broker did not obtain written discretionary authority from the customer, then the broker has no right to handle everything that happens in the account, without first speaking to the customer.

Accounts with written, discretionary authority are rather uncommon. Brokerage firms do not like them because they pose more risk to the firm and thus require significantly more supervisory resources to handle them.

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