When a Registered Representative makes an investment recommendation to an investor, that recommendation must be suitable to that investor's needs. Determining suitability is not an exact science. However, it can be achieved by analyzing many different factors unique to that particular investor. Factors such as age, investment experience, time horizon, employment status, net worth, risk tolerance, and others combine to give the Representative a picture of what investments are suitable to that particular investor. When losses occur because recommendations are made without having obtained this necessary information, or if the recommendations are not suitable from an objective standpoint, investors have the right to file a claim to attempt to recover their losses from the unsuitable investments.
Overconcentration in a single stock, industry or sector can lead to increased volatility (fluctuation) in the investor's portfolio. Failing to diversify this over concentrated position can also increase the amount of risk that the particular portfolio is exposed to in contrast to a properly allocated portfolio. It is crucial that the Representative properly diversify the investments so as to minimize the overall risk of the portfolio.
In hindsight, this is perhaps the most obvious form of abuse among Registered Representatives, although not always apparent while it is occurring. When Representatives buy and sell investments on behalf of a client in a brokerage account, typically they receive a commission for executing these transactions. If the amount of the transactions are unreasonable or unsuitable for that particular investor's account, the presumption arises that the Representative made these trades in order to generate a commission, not for the investor's best interest. This self-dealing may or may not be obvious while it is occurring, but looking at the commissions charged over a 6-12 month period of time can reveal evidence of its occurrence.
Put simply, Registered Representatives are not authorized to make trades in an investor's account prior to obtaining that investor's approval with respect to each and every individual purchase or sale of securities in that account. If the Representative has not contacted the investor prior to placing a trade, does not have discretion to make trades in the account, or did not receive instructions directly from the investor on an unsolicited basis, that Representative may be liable for Unauthorized Trading.
Misrepresentations and Omissions
When a Representative intentionally gives an investor misleading information regarding that investor's stocks, bonds or other securities, that Representative is liable for losses in the account caused by that misrepresentation or omission. Examples of this type of fraud include guarantees regarding stock or mutual fund performance, failure to accurately disclose an individual security's risk, failing to disclose commissions generated or fees charged, etc.
It is management's responsibility to supervise each and every Representative and each and every investment account. In order to keep track of the many customers and multitude of accounts that a typical Representative oversees, management must have compliance and oversight procedures in place. Failure of management to generate, follow or enforce these procedures will cause management to be responsible for the losses in addition to the individual Representative. While multiple recoveries are not awarded, a panel of arbitrators will consider the role of management in preventing the losses in the first place, and will hold management liable for failing to supervise the account.