It's Not Just Wall Street You Have to Watch Out For

Ten years ago the world was just learning the extent of the massive fraud perpetrated by Enron. A fraud that former Enron President, Jeffrey Skilling is serving a twenty-four year sentence for. Since then there has been no shortage of financial scandals from corporate America and the world's banking and investment giants. From large-scale accounting frauds and ‘irregularities' at Tyco, WorldCom and others in the early 2000's to the more recent collapses of Lehman Brothers and AIG to the outright multi-billion dollar Ponzi schemes of Bernie Madoff and Allen Stanford. Spurred on by public outrage and a desire for re-election politicians and regulators have gotten smarter about detecting rule breakers and have been given more tools to prosecute them once discovered. A slew of new legislation over the last decade also aimed to provide greater transparency to investors. According to analysis by the Wall Street Journal, a greater percentage of insider trading convictions are resulting in jail time. In the past two years 79% of insider trading convictions came with a jail sentence while that percentage was only 59% in the prior decade and under 50% from 1993 to 1999. Not only are more convictions coming with jail time but the length of the jail sentence is increasing as well. Over the past two years the median jail sentence was two and a half years while similar sentences over the past decade had a median of just eighteen months and less than a year behind bars for those convicted between 1993 and 1999. All data is according to the Wall Street Journal and is based on cases tried in New York federal court. This trend for stiffer sentences seems to be supported by the recent conviction of Raj Rajaratnam, the founder of hedge fund, Galleon Group, who earned himself an eleven year prison term, the longest such sentence handed down for insider trading (but significantly more lenient than what prosecutors were originally hoping for). This conviction is on the heels of the ten year sentence received by Zvi Goffer, a former Galleon trader implicated in related activity. Obviously, these cases draw a lot of national media coverage because they involve billions of dollars of losses for investors, however, there are likely hundreds of much smaller-scale cases that most of us never hear about. Taken in aggregate these cases have the potential to also affect billions of dollars but regulators and politicians seem to be taking a much less aggressive approach because the headline risk is simply not there. The people in question are financial advisors who may be managing your money in a local office not from far-away Wall Street. According to the North American Securities Administrators Association (NASAA) in studies conducted both in 2009 and 2011 the average advisory firm had over 4 deficiencies. The most frequently cited deficiencies were in the categories of 1) registration, 2) books and records, 3) unethical business practices, 4) supervision and 5) advertising. No doubt many of these violations were due to incompetence/ignorance as much as outright intent to deceive, especially in the first two categories. Securities laws do change and most advisory firms lack the knowledge and/or personnel to adjust where appropriate, often becoming aware of the violation only after the deficiency is discovered. This of course is no excuse especially in the case of unethical business practices. More complete details regarding the findings of NASAA are available on nasaa.org or by clicking

. While cases such as the Bernie Madoff scandal, the Raj Ramajathram case and others will continue to garner large-scale media attention, there is also an ongoing epidemic of violations and misdeeds happening on a daily basis by much smaller players, but collectively on an extremely large scale. Much of it is not outright fraud, but it does, in many cases, skirt the boundaries of legality and ethics and often crosses over. We are constantly reminded that we need to be diligent in researching the people and companies we entrust to manage our money.