's up guys and welcome back to wall street millennial on this channel and podcast. Podcast. We cover everything related to stocks and investing the american financial markets are by the largest and most advanced in the world in fact according to elroy dimpson the us stock exchanges account for 56 percent of the total market cap of all stocks in the world. Followed by japan at a distant second place of seven percent accordingly there is a highly developed industry of asset managers traders investment bankers and other professionals that has produced some of the world's richest firms and people according to forbes about 10 percent of the world's 100 richest people alive made their fortunes in the finance industry.

Despite finance being a small fraction of the overall economy and a relatively less productive industry for society. That's because many parts of finance such as asset management require only a very small amount of manpower to run the business. A hedge fund managing a few billion dollars in assets might. Only employ a few dozen people to do their investment research.

And due diligence on the other hand. A similarly sized oil company for example would necessarily employ many times that number of people to do everything from accounting procurement engineering sales etc that means that hedge funds and other investment companies can pay top dollar for the world's best talent and make billions of dollars by playing or enabling. The stock market casino. This also sometimes leads to questionable behavior.

Where finance firms bend or break securities laws to make an extra buck in this video or podcast. If you're listening on spotify or apple podcast. We're going to take a look at three recent cases of the sec busting these firms for breaking securities laws. Including one where an 8 billion hedge fund unlawfully made six million dollars at the expense of ordinary investors we encourage you to read the official sec press releases linked in the description below for the full information about this video's topics.

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To claim this. Limited time offer and break free from acne today. First up. We have a massive 186 million dollar settlement between the sec and subsidiaries of the major retail stock brokerage charles straub.

You're almost definitely familiar with this brokerage and there's even a good chance you may have traded with them as they're one of the so called big four brokerages in the us. According to the sec. Charles schwab. Subsidiaries misled their own clients about hidden fees associated with their robo advisor investment strategies.

Robo advisors are robot financial products whereby clients answer some questions and then the bot makes suggestions and sometimes even automatically invests the client's funds they advertise their robo advisor product as using a quote. Disciplined portfolio construction methodology unquote to seek optimal returns for clients however contrary to these promises the robo advisors allocated client funds in such a way that the brokerage's own data showed was actually sub optimal in general brokerages make money in a few different ways. One. Is by charging commissions or fees on account balances or on trading activities.

In recent years. This revenue source has been declining industry wide due to the rise of zero commission trading in a shift towards low or no fee accounts another way that they make money is by lending out the cash in their clients accounts at an interest rate higher than the interest rate that they paid to their clients for the use of their cash. According to the sec order charles schwab subsidiaries deliberately kept the sub optimally large amount of cash in their robo advisor. Clients portfolios.

So they can make more money by lending out that cash in certain circumstances cash made up nearly 30 percent of the portfolio also the portfolios were set up such that the company would earn at least a minimum amount of revenue from the spread on the cash by loaning out the money they did this while at the same time claiming that these robo advisor products imposed. No advisory. Fees or hidden fees. While in reality.

In many market conditions. This sub optimal allocation would lower client returns by about the same amount as an advisory fee would as a result of the violations. The brokerage's subsidiaries agreed to discourage 52 million dollars of ill gotten gains in interest. Plus.

A 135 million dollar civil penalty. The director of the sec's enforcement division gerbir grewal said the brokerage quote claimed that the amount of cash in its robo advisor portfolios was decided by sophisticated economic algorithms meant to optimize its clients returns when in reality. It was decided by how much money the company wanted to make the conduct was egregious and today's action sends a clear message to advisors they need to be transparent with clients about hidden fees. And how such fees affect clients returns unquote.

This case. Just goes to show that despite how well known and prestigious brokerages may be you can never be sure that they are always acting in your best interest as an investor next up. We have a boston based investment manager. Who recently agreed to pay nearly 7 million to the sec to settle charges against it.

The company engaged in an unlawful trading strategy whereby they would short a stock then using their status as a prestigious investment company gain access to public offerings of the same stock. But at a discounted price they are thus making near arbitrage by shorting. The stock at the higher market value then buying the stock off market at a discounted price. The firm did this seven times within a span of just three months they cumulatively made six and a half million dollars from this activity.

Essentially risk free. The reason that they were able to do this is because companies frequently do follow on offerings of their common stock in order to raise more money from investors. They don't just sell stock into the market. Because of liquidity and other issues.

Instead they find big time investors. Such as hedge funds to sell stock directly too. They usually sell the stock at a small but non trivial discount to the market value perhaps five or ten percent lower than the market price. But in return.

The company is able to guarantee that they'll be able to sell the number of shares that they want to without tanking. Their stock price. A hypothetical arbitrager would love to be able to short the stock at the market price. And then buy the stock through the follow on offering at a discount to the market price for example.

Say that company x.'s stock is trading at 100 hedge fund. Y. Might aggressively short 100 000. Shares.

In the span of just a few days. Putting downward pressure on the stock price. Let's say. The stock ends up at ninety dollars.

And that on the way down. Hedge fund. Wise. Average sale price was ninety five dollars.

Then they participate in the follow on offering and are allocated one hundred thousand shares at a price of eighty dollars per share. They take those shares and use them to cover the short position locking. In a 15 per share. Gain.

Virtually risk free for a total profit in this case of one and a half million dollars easy money as it turns out the asset manager that got busted by the sec did this seven times within just three months. They did it with some stocks that are frequently traded by retail. Investors such as plug power c. Limited and us steel for the plug power trades.

The fund shorted shares of plug power. Just one day before the company filed a public prospectus describing a follow on offering of common stock. The average price of the shares that they shorted was slightly over seventy dollars. They were then allocated stock as part of the offering for a price of just sixty five dollars.

The almost instant gain that they made on this near arbitrage amounted over three million dollars of course such trading is illegal and against us securities laws the whole point of a follow on offering is for companies to be able to raise a large amount of capital by selling stock at a slight discount to institutions not to the open market what these arbitragers do is basically taking advantage of the discount. Provided by the offering and dumping them onto the public market thereby unfairly front running the company and ordinary market investors the sec's so called rule 105 explicitly bans this activity according to the sec. It is unlawful for a person to purchase equity securities from an underwriter broker or dealer participating in a public offering if that person sold short the security during a restricted period. The stated purpose is to quote foster secondary and follow on offering prices that are determined by independent market dynamics and not by potentially manipulative activity unquote.

According to the sec. The fund that got busted had an automated tool that should have let its traders know that participating in the offerings would violate the rule. But their traders simply ignored them the company's legal department incorrectly calculated the restricted period as a result. The firm was ordered to pay approximately 7 million in disgorgement of ill gotten gains.

Interest and penalties. Notably the sec said that because the investment firm was highly cooperative with the sec in its investigation. They did not impose a civil penalty more than 200 thousand dollars finally we have another brokerage firm wis. That violated best interest obligation regulations and victimized retirees and other risk averse investors.

According to the sec. Five of wis agents sold so called l bonds to retail investors with moderate risk tolerances. Many of whom were living on fixed incomes and would not be able to afford large investment losses on the other hand the bonds that they sold to investors were high risk bonds from a company called gwg their business model is to basically buy life insurance policies from people who want to cancel them then continue paying the life insurance premiums and collect the payouts after the insured people's death. The problem is that that business doesn't make steady income and several years ago.

They issued bonds in order to fund a reorientation of the business. They characterized their own bonds as involving quote. A high degree of risk including losing one's entire investment unquote. Some of the brokerage's agents marketed these highly risky investments to investors.

Who are not what you would call highly risk seeking investors for example one person who bought these bonds was a 79 year old retired truck driver whose investment objectives did not include speculation his annual income was just 35 000. At the time. And his net worth was about 300 000. One of the agents convinced him to invest 100 thousand dollars into these risky bonds meanwhile.

The agents selling these bonds were earning commissions on each sale collectively worth thousands of dollars in general about three to five percent of the value of each bond sold was awarded to the brokerage and the agents as a commission this incentivized the agents to sell these bonds aggressively to people who should not necessarily have been investors because of this the sec says that the brokerage and the agents violated best interest obligations care obligation requirement by not exercising reasonable diligence care and skill and recommended these investments in risky bonds to customers. Without a reasonable basis to believe that they were in the customer's best interest. The sec has requested that the brokerage be ordered to discourage ill gotten gains on more than 13 million dollars worth of bond sales plus civil penalties alright guys that wraps it up for this video. What do you think about these modern day financial scandals.

Let us know in the comments section below in the meantime. Thank you so much for watching and we'll see in the next video wall street millennial signing out.