Fingers Crossed Behind Back

Brokerage Firm Loses Account Churning Arbitration Despite Profits

Fingers Crossed Behind Back

A National Association of Securities Dealers (NASD) arbitration panel ruled that a brokerage firm churned an investor's account - even though the account returned a net profit of over $300,000 during an eleven-month period.

Attorney James J. Eccleston successfully argued that brokerage firm Reliance Capital churned an investor's account to run up excessive commissions. During the arbitration hearing, he presented evidence demonstrating that low-cost index funds would have performed as well, if not better, over the same time period - minus the commissions.

"It is simply irrelevant that an account was profitable despite being churned," said Eccleston.

According to a statement released by Chicago-based Eccleston & Associates, over the eleven-month period, the investor paid $58,000 in commissions, on an average equity balance of approximately $1 million. The equity balance was turned over almost 750% on an annualized basis, with over $7 million in purchases.

The NASD arbitration panel awarded the investor all of her commissions paid, as well as attorneys' fees.

Account "churning" is the dubious practice of unnecessary buying and selling by a broker for the express purpose of racking up commissions. A difficult charge to prove, an investor must first demonstrate that the broker had control over the investment decisions in the account. Then, he or she must show that the broker traded excessively given the investor's stated objectives, with the intent of generating commissions.

Additionally, small investors in particular may have a hard time finding legal representation in cases involving modest accounts, according to Rick Ferri, president of Michigan-based independent investment firm Portfolio Solutions, LLC. However, investors can use the Internet to write a complaint letter regarding brokerage firms to the National Association of Securities Dealers at the NASD website.

We asked Larry Swedroe, author of What Wall Street Doesn't Want You to Know, how investors can protect themselves from account churning.

"Simple - never work with an investment advisor or broker whose fees are based on brokerage commissions from your account," said Swedroe. "Although your broker or advisor may be a person of high principles, in reality there is no incentive to do what is best for the individual investor."