Churning

 

Were You the Victim of Churning By a Broker? Contact Us Today for Immediate Help

At Mika Meyers, PLC, our churning lawyers are skilled, experienced, and justice-focused advocates for investors. We are committed to holding brokers and brokerage firms accountable for fraud and negligence—including churning. Churning is a form of excessive trading that can effectively transfer your money to your broker. It is prohibited by FINRA regulations. If you or your loved one suffered financial losses due to churning, we are here as a resource that you can trust. Contact us today for a confidential initial consultation at (616) 632-8000.

What is Churning?

Churning occurs when a stockbroker engages in excessive trading of securities in a client’s account for the primary purpose of generating commissions. In some cases, the churning goes undetected for months and even years. By that time, the damage can be substantial, both in terms of excessive commissions and associated tax liability. It can make it effectively impossible for an investor to generate a positive return on their brokerage account. Indeed, in many ways, churning simply transfers money from the investor over to the broker/brokerage firm in the form of fees and commissions.

Understanding How Churning Undermines Investor Interest Through an Example

As noted above, churning is when an investment advisor excessively trades within a client’s account primarily to generate commissions rather than to meet the client’s investment objectives. It is a practice that can significantly diminish the investor’s portfolio through high costs and minimal growth. Here is a simple example of how much damage churning can do to an investor’s account:

An Example of Broker Churning

Imagine a scenario of a retiree who entrusted her life savings to a financial advisor. She explained that her aim was for a stable, safe income. However, unbeknownst to the investor, her advisor engages in churning. The broker executed over 200 trades in a year. These trades are largely short-term purchases and sales of stock—which is inappropriate given her conservative investment strategy. If each trade carried a $50 commission, the total cost in commissions alone would reach $10,000 for the year. If her initial investment was $100,000, these fees alone represent a 10 percent reduction in her portfolio—not accounting for any losses incurred from the trades themselves. If her portfolio otherwise generated a 9 percent return for the year—well above the historical average for a conservative investment strategy—she would still lose money.

Excessive trading not only can cause a serious financial drain on an investor's resources, it is also a breach of the fiduciary duty (and trust) that financial advisors owe to their clients. It is an unlawful and inappropriate practice that is a serious conflict of interests. By definition, a broker that churns a customer’s investment account is engaged in unsuitable transactions.

Know the Law: Regulation BI and Fiduciary Duties

Financial advisors fall into two categories: brokers or investment advisors. Brokers are paid on commission. They are governed by the SEC’s Regulation BI, which requires that their recommendations be in the best interests of their clients.

Churning violates Regulation BI because it involves transactions that do not comport with the client’s investment goals or risk tolerance. Instead, these transactions are motivated by the advisor’s desire to earn commissions, and are carried out in complete disregard of the client’s best interests.

Advisors must have a reasonable basis to believe that a series of transactions within a client’s account is suitable, considering the client’s investment profile as a whole. They must consider not only the appropriateness of each individual transaction but also the cumulative effect on the client’s portfolio—including costs and the potential impact on investment returns.

Three Red Flag Warning Signs that Your Broker is Churning Your Account

Are you concerned that your financial advisor may be engaged in churning? Gather all of your financial records, including your most recent brokerage statements and check for red flags. Here are three of the biggest red flags that suggest that a broker may be engaged in excessive trading to the point that it is quantitatively unsuitable:

1. There are a High Number of Short-Term Trades

A major red flag of potential churning is an unusually high number of short-term trades within your account. If you notice frequent buying and selling of securities that do not seem to align with a long-term strategic investment plan, it may indicate churning. Such short-term trading often serves the broker’s interest in generating commissions rather than benefiting your investment goals.

2. Your Broker Seems to Be Buying and Selling into Similar Positions

Another warning sign is “in and out” trading, which occurs when your broker frequently exits certain positions only to re-enter similar positions in the same security shortly thereafter. It is a pattern that suggests a possible churn strategy where the broker seeks to create transactions—and thus commissions—without a strategic reason that benefits the customer. Notably, these types of maneuvers can unnecessarily expose you to market risks and transaction costs. Worse, they offer little to no financial benefit to your portfolio.

3. Commissions/Fees are Far Higher than Your Returns

Who is actually making money off of your investment account? Is it you or your broker? If you find that the commissions and fees you are paying are consistently eating into or surpassing the returns on your investment, this is a potential red flag indicator of churning. An advisor’s primary motivation should be to enhance your financial outcome—not diminish it through high fees. Persistent low net returns due to disproportionate costs may suggest excessive trading.

Can I Sue My Broker for Churning?

Investors can bring claims to recover damages when their accounts have been churned. To prevail, an investor is generally required to show:

1. That the broker has engaged in excessive trading in the investor's account;
2. That the broker had actual or de facto control over the account;
3. That the broker received commission- or transaction-based compensation for the trades; and
4. That there was no reasonable or justifiable basis for the trading activity.

Here are key points to know:

Excessive Trading

“Excessive trading” typically occurs when a broker transacts a large number of small trades in a client’s account. It also encompasses less active trading strategies where the products that are being traded carry high commissions. A common way of proving “excessive trading” is to present quantitative evidence in the form of an account turnover ratio and/or a cost-equity ratio.

Reasonable Basis

The “reasonable basis” requirement turns on whether the broker reasonably believed that the trading activity in the account would benefit the investor. When a reasonable belief is lacking, it is clear that the broker was acting out of pure self-interest. A blatant example of this abuse is when the broker engages in a practice known as “in and out” trading, which is buying and selling the same stock over and over again, often in quick succession, in order to generate commissions.

Why Trust the Investment Fraud Attorneys at Mika Meyers for a Churning Case

As an investor, you should be able to put your trust in the hands of your financial advisor and your brokerage firm. Unfortunately, that is not always the case. Churning of an investor’s account is a serious violation of that trust. At Mika Meyers, PLC, we have the experience that investment fraud victims can trust. Daniel J. Broxup is a top-tier churning lawyer with experience handling churning cases across the country. With a proven record of case results, we put investors first. Along with other things, our broker churning attorneys are prepared to:

• Hear your story and answer your legal questions;
• Conduct a thorough investigation of your investment fraud case;
• Handle all settlement negotiations with brokers/brokerage firms; and
• File claims to get you justice and compensation for churning losses.

Contact Our Churning Attorneys Today

At Mika Meyers, PLC, our churning lawyers are standing by, ready to protect your rights. If you suspect that your account has been churned or that you have been charged excessive commissions, Mika Meyers may be able to help you. We regularly evaluate and bring claims on behalf of investors whose accounts have been churned. If you wish to discuss your claim with an experienced attorney, call investor claims attorney Daniel J. Broxup at (616) 632-8000 or contact us online. Consultations are strictly confidential.

Broker Churning: Frequently Asked Questions (FAQs)

Is Churning Illegal?

In addition to being fraudulent and unethical, churning is specifically prohibited under securities laws and regulations, including the SEC’s Regulation BI.

What Number of Trades Counts as Churning?

The number of trades that constitutes churning depends entirely on the specific situation and the investor’s profile. Factors such as the client’s account value, investment objectives, risk tolerance, and the overall trading strategy must be considered. While there is no specific threshold, certain turnover ratios can suggest churning. For example, an annual turnover ratio exceeding 6 in an account may be indicative of churning, but this can vary based on the investor’s circumstances and investment goals.

Will My Churning Case Go to FINRA Arbitration?

Churning cases generally go to FINRA arbitration. Our firm helps investors seek justice for churning losses through FINRA arbitration.

Can a Brokerage Firm Be Held Liable for Churning By a Specific Financial Advisor?

Yes. A brokerage firm can be held liable for the actions of its financial advisors, including churning. If the broker is acting within the scope of his employment or agency, the firm will be derivatively liable. A firm can also be directly liable under FINRA regulations, which make broker-dealers responsible for supervising the conduct of their financial advisors. If it can be shown that the firm failed to adequately supervise the advisor, or did not enforce compliance with regulatory standards, the firm can be held directly liable.

How Much Compensation Can I Expect to Get in a Churning Case?

The compensation in a churning case varies and depends on the specifics of the case, including the extent of the losses suffered and the overpayment of fees and commissions. Successful claims typically result in the recovery of lost funds due to unsuitable trading. This may include:

• Excessive commissions paid
• Losses incurred due to unsuitable trades
• Potential gains that were missed due to the churning activity
• In some cases, punitive damages may be awarded

The exact amount will be determined based on the evidence presented and the specific circumstances of your case.

Can I Consult With an Attorney About Churning Losses?

Yes. You always have the right to consult with an experienced attorney. Indeed, if you are concerned that your broker or broker-dealer may be churning your investment account, it is imperative that you speak to one of our churning lawyers as soon as possible. We will review your account statements and help you determine if you have been the victim of churning. If so, our firm is ready to take action to help you get justice.