Merriam-Webster defines discretion as “individual choice or judgment.” In the investment arena, discretion similarly refers to the exercise of judgment. When the customer makes all the trading decisions in the account, then the account is non-discretionary. In contrast, a discretionary account is one where the customer has given the broker written authority to buy and sell securities without the customer's consent; that is, the broker can place trades without conferring with the customer. Even in discretionary account, however, the broker must make decisions in keeping with the customer's risk tolerance and investment objectives.
- What if I never initiate trades in my account and always follow my broker's recommendations – is my account discretionary? NO.
- What if I told my broker he can do whatever he wants in my account and doesn't need to consult me regarding trades – is my account discretionary? NO.
Following your broker's lead by uniformly accepting her recommendations does not equate to discretionary authority, nor does giving your broker verbal carte blanche to do as she pleases with your account. Your account is discretionary only if you have provided formal written permission for your broker to place trades without your consent. This should involve completing the brokerage firm's form, which is then approved by firm management. In this regard, FINRA Rule 3260(b) (aka NASD Rule 2510(b)) states:
No member or registered representative shall exercise any discretionary power in a customer's account unless such customer has given prior written authorization to a stated individual or individuals and the account has been accepted by the member, as evidenced in writing by the member or the partner, officer or manager, duly designated by the member, in accordance with Rule 3110.
(FINRA Rule 3260(d) describes the limited exceptions to the Rule.)
One recent FINRA broker discipline aptly illustrates the application of Rule 3260(b). In October 2019, Simon Michel Joseph (CRD #5602157, Alexandria, Virginia) entered into a Letter of Acceptance, Waiver and Consent (“AWC”) in which he was fined $10,000 and suspended from association with any FINRA member in all capacities for 30 business days as a result of unauthorized trading. Without admitting or denying the findings, Joseph consented to FINRA's findings that he exercised discretion in accounts maintained by customers without having written authorization from the customers and without having requested or obtained approval from his member firm.
Specifically, FINRA found that between June 2015 and July 2016, Joseph placed approximately 2,200 discretionary trades in 11 accounts maintained by five separate customers. While the customers granted Joseph verbal authorization to exercise discretion in their accounts, Joseph failed to obtain written authorization from the customers to use discretion in their accounts. Similarly, Joseph failed to request or obtain his firm's approval to exercise discretion in the customer's accounts. FINRA also found that during this same timeframe, June 2015 through July 2016, Joseph attempted to cover his tracks by mismarking order tickets for 126 trades as unsolicited even though he had brought the security to the customer's attention, which meant the trade was solicited. Joseph's suspension was in effect from November 4, 2019, through December 16, 2019. See FINRA Case #2016050914401. Joseph previously was associated with Morgan Stanley (2009-2016), and has been associated with BB&T Securities LLC since 2016.
The facts conveyed in Joseph's AWC demonstrate that giving one's broker verbal authorization to make trades in your account without obtaining your permission for each trade is insufficient. The authorization must be written, and approved by the broker's firm. FINRA's factual findings in Joseph also show that proper marking of order tickets is important. Mismarking tickets can be used to hide misconduct, because “unsolicited” trades may be subject to less scrutiny by the firm's supervisory system.
The decision of whether to grant your broker discretionary authority for your account is a personal, and should be made following careful consideration. Once you have decided to grant the broker discretionary authority, execute the necessary paperwork and make it official.
How can you protect yourself from unauthorized trading in your accounts?
- Regularly monitor your account activity as shown on your account statements and trade confirmations.
- Review trade confirmations carefully to ensure that trades correctly are marked as solicited or unsolicited. Note: Be sure to review the firm's instructions on the confirmation as some firms may conspicuously mark an “unsolicited” trade as such, but absent such identification the trade is presumed to be solicited.
- Take notes of conversations with your broker whether during a meeting or phone call so you have something to which you can refer later if you feel something may be wrong.
What should you do if you have a concern about your account?
- If you see any sign of unauthorized trading or errors, immediately notify your broker or his or her supervisor or compliance department.
- If you make a complaint about activity in your account, do so in writing, keep copies of all communications related to the complaint, and take notes.
- If you feel like you are getting the runaround from your broker, speak to management or the compliance department.
- If you continue to feel like you are getting the runaround from the brokerage firm, then contact FINRA, the SEC, or your state securities regulator. Remember: regulators tend to move slow, and their focus may be big picture, not your specific picture. If you want immediate help, contact Farrar Law, PLLC, and set up a free consultation with Jennifer Farrar, Esq. We accept cases big and small on contingency.