When the market is volatile, some brokers may recommend investments in exchange-traded products (“ETPs”) designed to protect the investor against losses. Such investments, called “volatility linked investments,” can be risky. The Financial Industry Regulatory Authority (“FINRA”) has warned that investors could risk major losses if they trade volatility-linked ETPs without fully understanding them. Some may believe, for example, that the products could be used as a long-term hedge on equity positions in the event of a market downturn. In fact, FINRA has stated,  most volatility-linked ETPs are generally short-term trading products that can degrade significantly over time and are not designed to be used as a long-term buy-and-hold investment.

On November 13, 2020, the Securities and Exchange Commission (“SEC”) announced settlements with three investment advisory firms and two dually registered firms for unsuitable sales of complex volatility-linked exchange-traded products to retail investors.  The settling firms were American Portfolios Financial Services/American Portfolios Advisors Inc., Benjamin F. Edwards & Company Inc., Royal Alliance Associates Inc., Securities America Advisors Inc., and Summit Financial Group Inc. 

As part of that settlement, more than $3 million will be returned to harmed retail investors. The SEC’s actions each involved sales of volatility-linked exchange-traded products designed for the short term, but which were sold to clients as long-term holdings.  Offering documents for the exchange-traded products showed that the short-term nature of these investments made investors in them more likely to experience a decline in value when held over a longer period, the SEC said. The sales dates vary by firm, and collectively occurred between January 2016 and April 2020. 

The SEC stated in its announcement of the settlements that “Contrary to warnings in offering documents, and without understanding the products, representatives of the firms recommended their customers and clients buy and hold the products for longer periods, including in some circumstances for months and years.” Further, the SEC focused on the firms’ supervision of such sales noting that “[i]t is important for firms to put the appropriate protections in place to ensure complex products are properly evaluated and understood by their representatives. Failing to do so puts investors at risk.” 

The SEC issued individual cease and desist orders against the five firms. The SEC alleged that American Portfolio Financial Services Inc and affiliate American Portfolios Advisors Inc. failed to reasonably supervise certain brokerage representatives who recommended their customers buy and hold iPath S&P 500 VIX Short–Term Futures ETN, a volatility-linked product (“VXX”). The SEC’s order against Summit Financial Group Inc. also alleged improper supervision relating to the recommendation to buy and hold iPath S&P 500 VIX Short–Term Futures ETN. The order against Benjamin Edwards finds that the firm failed to reasonably supervise certain brokerage and advisory representatives who recommended their clients buy and hold iPath S&P 500 VIX Short–Term Futures ETN and ProShares VIX Short-Term Futures ETF, which traded under the ticker symbol VIXY (“VIXY”).  The SEC’s order against Securities America Advisors finds that the firm’s representatives either bought or recommended the unsuitable purchase and holding of VelocityShares Daily Inverse VIX Short Term ETNs linked to the S&P 500 VIX Short-Term Futures Index (“XIV”) and ProShares VIX Short-Term Futures ETF.  Royal Alliance was also charged with unsuitable recommendations in iPath S&P 500 VIX Short–Term Futures ETN. 

When recommended properly, these complex exchange-traded products can be useful in a client’s portfolio to manage short term volatility. However, they must be thoroughly understood by financial advisors or the brokers who recommend them. The SEC’s actions make clear that firms must have systems in place to ensure that such products are properly sold for their intended investment objectives, including short-term holding.

If you or a loved one has lost money due to an unsuitable recommendation to buy or hold complex volatility linked investment, or have been the victim of any other type of investment fraud or broker negligence, contact the offices of Investment Fraud lawyer Melanie Cherdack for a free consultation. Because she has been in the trenches as a former Wall Street attorney, Melanie Cherdack and her team of experienced attorneys have seen just about every type of investment fraud or investment scam. While almost every investment carries a degree of uncertainty and risk, you may have been unnecessarily exposed to such risk. Former Wall Street securities attorney Melanie S. Cherdack and her team of lawyers represent individual and institutional investors who are unwitting victims of investment fraud and broker negligence. She heads up a group of attorneys who represent investors across the United States. Contact us by filling out our online contact form, or calling 888-768-2499 or 305-349-2336.