RIA Compliance Blog
In a recently-announced administrative proceeding, the SEC has entered a permanent securities industry bar against Joseph B. Bronson, effectively preventing Bronson from ever again associating with any investment adviser, broker, dealer, or municipal securities dealer/advisor. The SEC Order barring Bronson—consented to by Bronson—comes on the heels of an August final judgment against Bronson and his former RIA, Strong Investment Management, obtained by the SEC in a civil case filed in a California federal district court. This final judgment against Bronson and his RIA was especially harsh as it found him and the firm jointly and severally liable for nearly $1 million in disgorgement plus $100,000 in prejudgment interest. Bronson was also individually ordered by the court to pay a $184,000 civil penalty.
The Bronson case is instructive as it highlights an especially egregious case of fraudulent conduct and fiduciary disregard in the form of a “cherry-picking” scheme that—while invisible to Bronson’s clients—did not go unnoticed by the regulators. In a nutshell, over a four-year period, Bronson utilized his firm’s omnibus trading account at two different broker/dealers to effect a bald-faced cherry-picking scheme, whereby he entered block trades via the omnibus account, waited to see the trades’ intra-day performance, and then disproportionately allocated the winning trades to his own personal accounts and the losers to client accounts.
As explained in the SEC’s complaint, an “omnibus” account is a common tool provided by brokers to RIAs, which allows the RIA to enter “block trade” orders to buy and sell securities for multiple accounts without identifying a specific account with each specific order. Then later, to the extent that the RIA has executed trades for the same security among multiple clients, the trades can be fairly allocated as between all clients. For example, multiple orders to buy a particular stock can be allocated among multiple clients using an average price paid. Indeed, the software provided by many brokers will perform this function automatically.
Bronson essentially circumvented this process designed to ensure a fair allocation with one designed to unfairly allocate winning trades to his personal accounts. Specifically, in cases where a stock price rose on the purchase date, Bronson disproportionately allocated those trades to his personal accounts. In cases where the stock price dropped on the purchase date, Bronson disproportionately allocated those losing trades to client accounts. As noted in the SEC’s complaint, data obtained from the RIA’s brokers shows that of the 50 worst-performing trades executed by Bronson, over 80% were solely allocated to client accounts. Brazenly, Bronson even employed this scheme in conjunction with corporate earnings announcements, waiting to allocate trades until after the release of after-hours earnings reports.
While such a cherry-picking scheme is, as noted by the SEC, “virtually impossible for clients to detect because they are unable to see how the adviser allocates trades,” Bronson’s activities ultimately attracted the attention of his broker’s compliance department. Indeed, after no less than three warnings, this broker terminated Bronson’s RIA trading privileges. Not surprisingly, Bronson’s “repeated” practice of entering block trades via the omnibus account only to allocate such trades 100% to his personal accounts was detectible.
Beyond his fraudulent use of the omnibus account, additional deceptive acts by Bronson were cited in the SEC’s complaint. For example, the RIA’s Form ADV was found to contain numerous materially false and misleading statements relating to the firm’s allocation of trades and personal trading practices. Notable among the statements from the firm’s Form ADV cited in the SEC’s complaint as being deceptive was the following boilerplate language: “We do not favor any account over any other account. This includes accounts of [the RIA] or any of our personnel.”
Though it may be tempting to write this case off as an outlier—and we indeed hope that it is—we do note that, at the time of the fraud, Strong Investment Management had 65 clients and managed over $58 million in assets. This essentially puts Bronson’s RIA at about the midpoint for state-registered advisers. As noted, close to $1 million in disgorgement has been earmarked for investors. However, it is not clear to what extent Bronson and the RIA will have sufficient assets to satisfy this mandate of the court.
Parker MacIntyre provides legal and compliance services to investment advisers, broker-dealers, registered representatives, hedge funds, and issuers of securities, among others. Our Investment Adviser Group assists financial service providers with complex issues that arise in the course of their business, including complying with federal and state laws and rules. Please visit our Investment Adviser Practice Group page for more information.