SEC Slaps State Street

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September 13, 2017
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State Street pays $35 Million (!) to settle fraud charges + disclosure failures!

This is a cautionary tale to remind all compliance professionals to STAY ON YOUR TOES! Just because Robert Cook, Financial Industry Regulatory Authority (FINRA) CEO was called to testify before the House of Representatives’ Financial Services Subcommittee earlier this month to address questions on FINRA’s operations, regulatory programs, the allocation of fines it collects, its $1.6 billion reserve fund, and executive pay doesn’t mean the regulators are scaling back…

In the first week following Labor Day, the Securities and Exchange Commission (SEC) announced that State Street has agreed to pay more than $35 million to settle charges that it fraudulently charged secret markups for transition management services and also omitted material information about the operation of its platform for trading U.S. Treasury securities. $35 million.

At issue was State Street’s “scheme” to overcharge transition management customers, which generated approximately $20 million in improper revenue for the firm. To accomplish this goal, State Street used false trading statements, pre-trade estimates, and post-trade reports to misrepresent the firm’s compensation on various transactions, especially those involving the purchase and sale of bonds and other securities trading outside large transparent markets. And then State Street’s employees “lied” about it. When a customer noticed the hidden markups and questioned them, State Street’s reps falsely said the overcharges were a “fat finger error” and “inadvertent commissions” to conceal the fraud.

Regulators were not amused

According to Paul Levenson, director of the SEC’s Boston Regional Office, “Agreeing to a fee arrangement and then secretly tucking in hidden, unauthorized markups is fraudulent mistreatment of customers.”

The SEC then found more questionable conduct, reporting that State Street also failed to inform subscribers that its government securities trading platform called GovEx was not all it was marketed to be. Despite marketing the system as “fair and transparent,” it didn’t exactly work as described. In fact, GovEx provided one subscriber with a “Last Look” trading functionality offering a brief window in which to reject a match to a submitted quote.  The subscriber used GovEx’ Last Look function to reject 57 matches with a $1 million face value each.  What it failed to do is inform the counterparties that their orders had been rejected with Last Look. Moreover, during the function’s development, State Street even told one subscriber that the platform did not have that functionality at all.

“Firms that run trading platforms cannot mislead subscribers about their order handling operations,” said Kathryn Pyszka, associate director of the SEC’s Chicago Regional Office.

Money talks: “Ouch!”

For its GovEx-related disclosure failures, violating Section 17(a)(2) of the Securities Act of 1933, State Street Bank and Trust Company agreed to pay a $3 million penalty.

State Street Global Markets LLC, State Street Global Advisors Funds Distributors LLC, and State Street Bank and Trust Company agreed to pay a $32.3 million penalty to settle the fraud charges for the hidden transition services markups, which violated Sections 17(a)(1) and (3) of the Securities Act of 1933 as well as Section 15(c)(1) and Section 10(b) of the Securities Exchange Act of 1934 and Rules 10b-5(a) and (c).

State Street Corporation and certain foreign subsidiaries previously agreed to pay separate penalties to U.S. criminal authorities and the United Kingdom’s Financial Conduct Authority.

Compliance is so much cheaper!

So was the potential upside worth the risk? Hmmmm…Let’s think a minute. Okay. The answer is, “No!” $35 million is not exactly chump change. Conversely, keeping your organization on the “straight and narrow” can be. Let’s talk (212-233-1155). Ask about Patrina’s cost-effective and comprehensive, 8-module compliance solution and compliant data capture, file storage, and records archiving specifically designed for the financial services community. Be smart. Be covered.

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