==========================================START OF PAGE 1====== INITIAL DECISION NO. 76 ADMINISTRATIVE PROCEEDING FILE NO. 3-8531 UNITED STATES OF AMERICA Before the SECURITIES AND EXCHANGE COMMISSION : In the Matter of : : INITIAL DECISION LAURIE JONES CANADY : OCTOBER 31, 1995 : : APPEARANCES: Gregory P. von Schaumburg, Jerrold H. Kohn, and Richard J. Gorman for The Division of Enforcement Peter H. Cantwell, Paul H. Scheuerlein, Adrienne R. Watson for the Respondent BEFORE: Glenn Robert Lawrence, Administrative Law Judge ==========================================START OF PAGE 2====== These public proceedings were instituted by an Order of the Commission dated October 25, 1994 ("Order") issued pursuant to Sections 8A of the Securities Act of 1933 ("Securities Act") and 15(b), 19(h) and 21(c) of the Securities Exchange Act of 1934 ("Exchange Act") to determine whether allegations of fraud made by the Division of Enforcement ("Division") against Laurie Jones Canady ("Respondent") are true and what, if any, remedial action would be appropriate in the public interest, and whether the Respondent should be ordered to cease and desist from committing or causing any violations or future violations of the sections or rules set out below. Additionally, it is to be determined whether an order should be entered requiring an accounting, disgorgement, and reasonable interest. In substance, the Division alleges that from approximately January 1988 through February 1990, the Respondent, a registered representative in the office of a broker-dealer in its Davenport, Iowa branch, embarked on a scheme to defraud her investor clients. In that regard, it is alleged that Respondent, in her dealings with her clients, willfully violated Section 17(a) of the Securities Act and Section 10(b) and Rule 10b-5 of the Securities Exchange Act. The actions complained of are in connection with the purchase and sale of clients' securities and include, among other things: the misrepresentation and omission of material facts; the execution of unauthorized and unsuitable transactions including margin trading; and excessive trading. ==========================================START OF PAGE 2====== The findings and conclusions herein are based upon the preponderance of the evidence as determined from the record and upon my observation of the various witnesses that testified at the hearing that was held in Davenport, Iowa, and Chicago, Illinois, on March 7, 8, 9, 10, 14, 15, 16, 17, 21, and 22, 1994, as well as the arguments and proposals of facts and law of the parties, and the relevant statutes and regulations. Findings of Fact and Conclusions Of Law General Background Respondent is a 36 years old woman and a resident of Solon, Iowa. From at least October 1980 to February 20, 1990, she was employed as a registered representative in the Davenport, Iowa office of Merrill Lynch, Inc. (Merrill), as a registered broker- dealer. (Order Instituting Proceedings dated October 25, 1994, Para. I.A.; Respondent's Answer to Allegations Contained In Order of October 25, 1994, Par. A; Division's Exhibit 17).-[1]- At all relevant times, the Respondent was registered with the National Association of Securities Dealers (NASD). ---------FOOTNOTES---------- -[1]-"Division's Exhibit" will hereinafter be referred to as "Div. Ex." ==========================================START OF PAGE 3====== (Div. Ex. 17; Transcript of Proceedings, pp. 1705- 1706).-[2]- She testified extensively during the hearing in this matter. I find her not credible based on the totality of the record, my observation of her during her testimony, the questions posed to her, including those posed by me, and the responses thereto. (Tr. pp. 291-338, 395-519, 532-705, 1703- 1961). Respondent argues, in substance, that I found her credible. This is taking my statement out of context. (Tr. pp. 525-526). Rather, I had indicated that I was critical of Respondent due to what I perceived as deliberate foot dragging when she was examined as part of the Division's case. I was not considering credibility at that time. At this juncture with the whole record before me, I find, as indicated, that she lacked credibility. Respondent and her husband, John Canady, had joint taxable income in 1988 of $344,000, and in 1989 of $321,000. All but approximately $20,000 of this amount in 1988 and $27,000 in 1989 was earned by Respondent. (Tr. pp. 679-680). The net worth of the Respondent and her husband was approximately $1.2 million in 1988 and 1989, and is currently $1.3 million. (Tr. p. 1928). While she was a registered representative at Merrill, two of ---------FOOTNOTES---------- -[2]-"Transcript of Proceedings" will hereinafter be referred to as "Tr." The transcripts for the first eight days of the hearing, 3/7/95 through 3/10/95 and 3/14/95 through 3/17/95, are numbered pp. 1-2154. The transcripts for the last two days of the hearing, 3/21/95 and 3/22/95, are numbered pp. 1-362 and pp. 1-308, respectively. Cites to the transcripts of the last two days will indicate the date. Those cites where no date is indicated refer to the first eight days of the hearing. ==========================================START OF PAGE 4====== Respondent's customers were William and Josephine Simkins (the Simkinses). On or about December 14, 1990, the Simkinses filed a Statement of Claim ("Claim") against Respondent and Merrill with the NASD. (Tr. p. 459; Div. Ex. 25). In their Claim, the Simkinses alleged that Respondent, while acting as the Simkinses' registered representative, made unauthorized and unsuitable investments; breached her fiduciary duty; made misrepresentations; acted with willful, wanton and reckless misconduct; and violated, among other statutes and rules, 10(b) of the Exchange Act and Rule 10b-5 thereunder. (Tr. pp. 464-465; Div. Ex. 25). Respondent's defenses to the Simkinses' Claim, among others, were 1) that they authorized, consented to, and acquiesced in the transactions in their account; and 2) that they suffered losses as a result of their own conduct. (Tr. p. 465; Div. Ex. 25). In late 1993 and early 1994, an arbitration hearing was held to receive evidence concerning the Claim. The panel stated that the evidence and testimony taken during the arbitration hearing led the panel to believe that Respondent had made unauthorized transactions and unsuitable transactions in the Simkinses' account. (Tr. p. 465; Div. Ex. 25). At the conclusion of the hearing, the arbitration panel, holding Respondent liable, awarded the Simkinses $262,249 in compensatory damages and $56,340 in interest. (Tr. p. 465; Div. Ex. 25). As a result, the panel requested that the matter be submitted to the NASD for disciplinary review. (Div. Ex. 25). Respondent argues in her ==========================================START OF PAGE 5====== Supplemental Proposed Findings of Fact-[3]- (RSPFF p. 3) that NASD refused to take disciplinary action. However, there is no cite to the record supporting this assertion. Respondent was instructed by Merrill that margin trading had to be approved by customers and that customers on margin must understand that they are borrowing money to purchase securities. (Tr. p. 293). However, Respondent argues repetitively and unpersuasively in effect throughout her Proposed Findings of Fact (see, for example, RPFF p. 4) that all the customers on margin here do understand that they were borrowing money and that they must pay interest on that money. (Tr. p. 293). She also argues unconvincingly that there is no way a client can trade on margin without authorization from the client and the broker, and that all margin trading had to be approved by the office manager and subsequently the New York office of Merrill. (Tr. pp. 444, 536). Further, Respondent piously states that margin is a "two-edged sword," and that if customers did not understand margin trading, it would be inappropriate for them to engage in such trading. (Tr. pp. 294-295). Notwithstanding these contentions, the record amply reflects that Respondent made full discretionary use of the investors' accounts. Until she was charged with improprieties, she assumed that for all intents and purposes, she could buy anytime, any security she wished, on margin and debit her ---------FOOTNOTES---------- -[3]-Respondent's Response to the Division's Proposed Findings of Fact and Conclusions of Law will herinafter be referred to as "RPFF." Respondent's Supplemental Response to the Division's Proposed Findings of Fact will hereinafter be referred to as "RSPFF." ==========================================START OF PAGE 6====== customers' accounts. Respondent understood the term "break-even point" as it applied to mutual funds or unit investment trusts (UITs) to mean that a client who sold a mutual fund or UIT would have to recover the sales charge and any margin interest in order to break-even. (Tr. pp. 311-313). She argues (RPFF p. 5) that Robert Barabas, a Merrill Lynch financial consultant, testified that a customer could break even on the purchase of a long-term municipal investment trust (MIT) in one of two ways, either by owning the investment long enough so that the coupon income accumulated in value, or seeing the MIT appreciate in value because of a change in interest rates due to a change in the economy. (Tr. p. 204, 3/22/95). She further argues that Barabas testified that a customer would buy corporate income funds on margin for a couple of different reasons. First, if a customer expected interest rates to drop, the customer would reap the benefit of the price of the bond rising as interest rates fell. Second, as interest rates came down, margin interest rates could fall causing borrowing to decline, so that the customer would have positive cash flow because the amount of financing would be lower than the benefit the customer would receive in income from the funds. (Tr. p. 204-205, 3/22/95). I find that Respondent's attempt at an after-the-fact justification for her churning of customers' accounts and unauthorized use of margin not credible. Merrill issues to its registered representatives a document ==========================================START OF PAGE 7====== known as a Compliance Outline for Financial Consultants.-[4]- (Tr. pp. 295-296, 358-361). Respondent read this document at least once a year. (Tr. pp. 295-296). The Compliance Outline states the following, among other things, regarding opening new accounts: Completion of new account forms is necessary to fulfill regulatory obligations and enable you to make suitable recommendations. You must exercise care in completing them....IT IS YOUR RESPONSIBILITY TO UPDATE ALL REQUIRED DOCUMENTS FOR THE ACCOUNT AS CHANGES OCCUR. OUT-OF-DATE INFORMATION CAN UNDERMINE OUR DEFENSE IF COMPLAINTS OR LAWSUITS ARISE. (Div. Ex. 22, p. II-1 (upper case in original)). The Merrill Compliance Outline states the following regarding churning:-[5]- Churning is a common source of customer complaints, regulatory actions, and lawsuits. There are three primary tests: 1. Were commissions and activity excessive vs. the client's assets and investment objectives? 2. Was the activity designed to benefit the financial consultant rather than the client? 3. Did the financial consultant exercise effective control over the account? Effective control can exist without formal discretionary authority. This can occur even if the client is consulted before every transaction, but, for whatever reason (lack of sophistication, heavy reliance on the financial ---------FOOTNOTES---------- -[4]-Merrill refers to its registered representatives as "financial consultants." -[5]-Respondent appears to have ignored totally these admonitions. ==========================================START OF PAGE 8====== consultant's judgment, etc.), almost always gives approval to proposed trades. The Compliance Outline notes that a churning case can be decided against a financial consultant even if the client made money if it appears that the primary purpose of the activity was for the financial consultant's benefit, rather than the client's. Profitability does not constitute a defense. (Div. Ex. 22, pp. III-1 and III-2). The Compliance Outline states the following, among other things, regarding mutual funds: Financial consultants have a duty to not recommend inappropriate switches of mutual funds. Whether the client redeems directly with the fund's custodian bank, or the financial consultant sells the shares and uses the proceeds for purchasing another fund, this is considered a switch. Switching a client from one fund to another must be in the client's best interest and must make economic sense for the client, giving consideration to tax situations and sales charges. Respondent argues that there are appropriate mutual fund switches and controls. (Div. Ex. 22, p. VIII-6).-[5]- The Compliance Outline states the following, among other things, regarding UITs: the financial consultant must determine suitability in light of the client's tax status and other applicable financial considerations. If proceeds are to be reinvested in another unit investment trust, there must be a ---------FOOTNOTES---------- -[5]-There is ample evidence that Respondent indulged in non-authorized switching to churn the accounts. ==========================================START OF PAGE 9====== reasonable basis for the switch. Respondent argues that there are controls reflecting that orders for more than 100 units require Merrill's Bond Funds Department's approval and that clients must be provided with a prospectus relating to the correct series and other controls. (Div. Ex. 22, p. VIII- 7)-[6]- Respondent's Customers During the period January 1, 1988 through February 20, 1990, Respondent was the registered representative for accounts including the twenty-one listed below belonging to these fourteen sets of investors (Div. Exs. 1-14; Tr. pp. 1510-1512, 1583, 382): 1. Cynthia Christianson Sim (Sim), account No. 665-59363 transferred to 665-96198; 2. Carolyn Campbell (Campbell), account Nos. 665-59153 and 665- 85816; 3. Evelyn M. Fasbender (Fasbender), account No. 665-43340; 4. Richard and Mary Gruhl (the Gruhls), account No. 665-51959 transferred to 665-96207; 5. Tillie M. Boekhoff (Boekhoff), account No. 665-55893; 6. Daniel L. Nagle (Nagle), account No. 665-57523; 7. Jacquelyn R. and Ronald L. Schave (the Schaves), account Nos. 665-58590 and 665- 60554; 8. Gayle L. and Craig D. Leslie (the Leslies), account Nos. 665-60272 and 665-60273; 9. Vernon F. and Esther M. Rasmussen (the Rasmussens), account No. 665-54282; 10. Mary S. Riepe (Riepe), account No. 665-96163; 11. Vernon W. and Barbara C. Thede (the Thedes), account No. 665-96181; 12. Barbara A. Van Hyfte (Van Hyfte), account No. 665-61280 transferred to 665-61263; 13. Richard R. and Alice Cooper (the Coopers), account Nos. 665- 59377 and 665-86018; ---------FOOTNOTES---------- -[6]-Even though Respondent asserts numerous controls on the representative's discretionary use of customers' accounts, the record does not establish that these controls put any brake on Respondent's improper activities. ==========================================START OF PAGE 10====== 14. Robert H. Scheppler, Agnes R. Scheppler, and Jayne Scheppler (the Schepplers), account Nos. 665-54695 transferred to 665- 96200 for Robert and Agnes Scheppler, account No. 665-96164 for Robert and Jayne Scheppler, Account No. 665-80579 for Robert Scheppler, and account No. 665-80601 for Jayne Scheppler. The Division prepared summaries of the activity in these twenty-one accounts, for which Respondent traded UITs and/or mutual funds. These summaries contained the following information, among other things: (1) commissions paid by the customer; (2) a summary of the account statements on a month-by- month basis; (3) the profit or loss in the account; (4) total purchases and sales; (5) monthly equity; (6) interest paid; (7) cash balance; and (8) certain ratios computed from the data in the summaries, including turnover ratio, commission-to-equity ratio, break-even percentage, and percentage of the portfolio on margin. The time period used is January 1, 1988 through December 31, 1989. (Tr. pp. 97-117; Div. Ex. 19a-19n).-[7]- It was testified that most of Respondent's customers loved and trusted her, and that the Respondent developed a social relationship with her customers. For example, she dined socially with several of them. In addition, several clients attended her wedding. (Tr. pp. 719, 375-376, 418, 550, 897, 980, 985, 1141, 1406, 1510-1512, 1583,382). 1. Cynthia Christianson Sim ---------FOOTNOTES---------- -[7]-Respondent objects with respect to every investor as to the time period used by the Division and prefers to use the entire time commencing with the opening of the account. It is considered that there is substantial justification for the period selected by the Division. See discussion infra "Time Period for Churning Computations." ==========================================START OF PAGE 11====== In 1988 and 1989, Sim had a brokerage account at the Davenport, Iowa office of Merrill (Davenport branch). Respondent was Sim's registered representative at that office. (Tr. pp. 427, 1015; Div. Ex. 2). Respondent states that Sim's late husband was an accountant, and he and Sim had many investments, including individual retirement account (IRA) accounts and savings accounts at other brokerage houses, including Shearson and Kemper. (Tr. pp. 1059-1060, 1075, 1093). Sim has an associates degree in computer science and is currently a systems analyst at John Deere & Co. (Tr. pp. 1050-1051). In the spring of 1988, Sim met with Respondent to open her account at Merrill. At that meeting, Sim told Respondent that her husband had recently died, that she had two children ages seven and nine, and that she wanted to invest $180,000 that she had received in life insurance proceeds as a result of her husband's death. Craig Leslie accompanied Sim to this first meeting with Respondent and had input into the conversation with Respondent regarding opening an account for Sim. (Tr. p. 1055). Sim told Respondent that she wanted to invest this money for her children's college educations, that she wanted no-risk investments and steady growth, and that she did not need a quick return on her investment. (Tr. pp. 430, 1016-19). By contrast, I do not find credible Respondent's argument and the testimony cited in support thereof that Sim wanted speculative investments or that Respondent accurately entered investment objectives on ==========================================START OF PAGE 12====== the investor's account sheets. Further, I do not find plausible the implied argument of the Respondent that Sim was a sophisticated investor. (RPFF p. 12). Sim's investment objectives did not change after she initially opened her account at Merrill. (Tr. p. 1022). Respondent argues that when Sim opened her account No. 665-59363 on March 28, 1988, she told Respondent she wanted investment grade, good quality, and speculative investments, but when this account was transferred to account No. 665-96198, she wanted only investment grade and good quality investments. (Div. Ex. 2). This argument depends on the assumption that Respondent accurately made entries on the account sheet. I do not, as indicated, find this a credible claim. Sim did not really know what speculation was and, in fact, Sim never saw her new account form when her account was open at Merrill. (Tr. pp. 1020-1021). The first account Sim opened at Merrill Lynch was a Cash Management Account (CMA). (Tr. p. 1841, Div. Ex. 2). Sim signed the Merrill Lynch Cash Management Account agreement on March 24, 1988. (Tr. pp. 1056-1057). A CMA is automatically a margin account unless a customer checks a box on the account to indicate that he or she does not want to be on margin.-[8]- (Tr. pp. 1670-1671; Div. Ex. 4a, p. 6). Stephen Lyders (Lyders) testified that as the manager at the Davenport branch of Merrill Lynch, when he would approve a CMA ---------FOOTNOTES---------- -[8]-Using this automatic device, Respondent churned the Sim and the other accounts herein described. ==========================================START OF PAGE 13====== account, one of his responsibilities was to take a look at the suitability of the margin feature and whether it should or should not be used for a customer's account. (Tr. p. 880). However, this exercise of responsibility was, as I read this record, not adequate. Sim received account statements from Merrill which she tried to read but did not understand. On several occasions, she asked Respondent for help in reading these statements. (Tr. pp. 1022- 1023).-[9]- Respondent argues that Sim understood her statements. I do not find the argument and the cited testimony credible. It is true that Sim met with Respondent on several occasions for the purpose of reviewing account statements. (Tr. pp. 1027-1028). However, these meetings were unsatisfactory to Sim because Respondent did not reference the account statement to discuss where her money was going. It is my belief that Sim never received straight answers from Respondent, and Sim never left her meetings with Respondent with any greater understanding of her account. (Tr. p. 1024). Sim testified that she did not think Respondent justified her trust. (Tr. pp. 1044-1045). In 1988 and 1989, Sim's account was on margin even though she apparently did not know what margin was. (Tr. pp. 443, 1025; Div. Ex. 2). The word "margin" was never brought up at the meetings between Respondent and Sim. (Tr. p. 1030). Moreover, ---------FOOTNOTES---------- -[9]-Tracy Hansen, who worked at the Davenport branch, testified that most customers could not understand their statements and read them. (Tr. p. 1545). I accepted as a given that most customers cannot read statements. (Tr. p. 1546). ==========================================START OF PAGE 14====== Respondent did not, as indicated, explain to Sim that by opening a CMA, securities could be purchased in her account on margin. (Tr. p. 1026). There were debit balances on Sim's account statements in 1988 and 1989. Sim questioned Respondent about these balances at a meeting with her in 1989. (Tr. p. 1026, 1029-30; Div. Ex. 2). She advised Sim not to worry, that things were going fine and that her account was profitable when, in fact, it was not. (Tr. pp. 1029-30). Further, Respondent stated that a debit will disappear if there is a sale of a security that is enough to cover the debit. (Tr. p. 457). There were other times throughout 1988 and 1989 that Sim was similarly advised over the phone not to worry about these debit balances in her account. (Tr. pp. 1029-30). In March of 1989, Sim owed over $252,000 to Merrill as a result of securities purchased on margin in her account. Sim was never advised of this fact by Respondent. (Tr. pp. 1030-31; Div. Ex. 2, Bates p. 2243). Sim first learned that her account was traded on margin in 1990, after meeting with her husband's accountant. (Tr. pp. 1031-32, 1038-39). Sim never granted Respondent the authority to trade in her account without first contacting her. Respondent concedes this. However, her claim that she did not want discretionary power is not consistent with her treatment of accounts as if she had such power. (Tr. pp. 1033, 1778). She did not contact Sim each time that a trade was made in Sim's account. (Tr. p. 1033). Further, Respondent made purchases in at least 14 ==========================================START OF PAGE 15====== different mutual funds and UITs during 1988 and 1989 for Sim. (Tr. pp. 440-442; Div. Ex. 19b, p. 3). Sim did not know what municipal investment trusts (MITs) were. (Tr. p. 1100). Nevertheless, a substantial portion of her portfolio purchased by the Respondent was made up of MITs. (Div. Ex. 19b, pp. 3-4). Respondent's argument to the contrary-- that Sim did know what MITs were--and her testimony are not credible. (Tr. pp. 328, 533, 603; RPFF p. 19). Further, Respondent sold MITs in Sim's account and used the proceeds to purchase other MITs with virtually identical securities and objectives. (Tr. pp. 437-438; Div. Exs. 2; 19b, p. 3, 24; Respondent's Exhibits 5A and 5B). Respondent then argues that there was economic justification for the trades in the nature of a tax swap and were authorized by Sim. (Tr. p. 440). This is an after-the-fact rationale and I do not believe the trades were authorized. Respondent further stated that Sim's Schedule D on her 1988 income tax return shows a loss of $5,451.00 from Merrill Lynch which was taken as a capital loss of $3,000.00 on line 13 with a carryover of the balance. (Resp. Ex. 102).-[10]- Sim had an accountant with Respondent's help prepare her income tax returns in 1988, 1989 and 1990. Respondent claims that she went over the tax reporting statement with Sim and Craig Leslie. (Tr. pp. 1037-38, 1110-1111). ---------FOOTNOTES---------- -[10]-By implication, Respondent argues that Sims knew this meant she was borrowing money, using a margin account to purchase securities. I am not convinced that Sim understood it. ==========================================START OF PAGE 16====== After Sim learned that Respondent was no longer with Merrill, she met with Lyders, the Davenport branch manager, and reached a financial settlement with Merrill regarding her account. (Tr. pp. 1041-1044). Merrill stated, in the Form U-5 it filed with the NASD, that the use of margin to purchase UITs was of questionable economic value to Sim. (Div. Ex. 17). For the period April 1, 1988 through November 24, 1989, the annualized turnover rate in Sim's account was 4.58. Commissions as a percentage of average equity were 21.29 percent. The annualized break-even for her account was 23.26 percent. (Div. Ex. 19b, p. 1). These computations reflect Respondent excessively traded this account.-[11]- 2. Carolyn Campbell Campbell, who is 76 years old, had two brokerage accounts with the Respondent at the Davenport branch. (Tr. pp. 375, 1139; Div. Exs. 4a and 4b). They have known each other since the Respondent was ten years old. As a child, she lived two houses away from Campbell and her husband. Campbell attended Respondent's wedding in 1988. (Tr. pp. 375-376, 1141). Campbell and her husband opened a joint account at the Davenport branch in 1983. This account was maintained until 1988. Prior to her husband's death in 1988, Campbell had little contact with Respondent concerning her joint account at Merrill. (Tr. p. 1155). Campbell was not a sophisticated investor and ---------FOOTNOTES---------- -[11]-The terms "excessive trading" and "churning" are used synonymously. ==========================================START OF PAGE 17====== completely trusted Respondent to handle her account at Merrill. (Tr. pp. 1143, 1150). Respondent argues, to the contrary, that Campbell was sophisticated inasmuch as she wrote checks on the account and performed other activities. (RPFF p. 23). I disagree. This argument is not based on credible testimony. Rather, the Respondent beguilingly told Campbell that she would be treated like Respondent's own parents. (Tr. p. 1143). She went to Campbell's home a day or so after Campbell's husband died, to review her financial information and solicit funds drawing on Campbell's husband's life insurance proceeds. (Tr. pp. 377-379, 1858-1859). Moreover, Respondent told Campbell that she would place that insurance money in an investment at Merrill yielding 13 percent annually. (Tr. pp. 1141-42, 1158). Campbell invested the proceeds in her Merrill account No. 665- 59153. (Tr. p. 1142; Div. Ex. 4a Bates p. 0269). In 1988 and 1989, Respondent, without informing Campbell, purchased several different unit investment trusts and mutual funds for Campbell's accounts. (Tr. pp. 386, 1171; Div. Exs. 19b-1; 19b-2; 23). While she maintained her Merrill accounts, Campbell did not know what margin was; Respondent's testimony to the contrary is not credible. (Tr. pp. 1145, 1160; RPFF p. 26). Further, Campbell never authorized Respondent to use a margin account or to borrow money on her behalf to purchase securities. (Tr. pp. 1145-46). In response, Respondent repetitively argues that Campbell, among other investors, signed ==========================================START OF PAGE 18====== the CMA agreement that in turn authorizes margin transactions. (RPFF p. 26). However, it is not believed that Campbell and the other investors in this case understood that, by signing the CMA account, they were authorizing margin trading. Further, as indicated, Respondent purchased securities on margin in account No. 665-59153 without Campbell's knowledge or consent. (Tr. p. 1145; Div. Ex. 4a). In August of 1988, Campbell owed over $70,000 to Merrill as a result of securities purchased on margin in her account. (Div. Ex. 4a, Bates p. 0275). She received monthly account statements from Merrill which she tried to read, but did not understand. Campbell asked Respondent for her help in reading these statements. (Tr. pp. 1146-47). In a similar vein, she signed a letter to the manager of Merrill Lynch dated May 23, 1989, which stated that she wanted to know how much she owed on the margin balance in her account as of May 24, 1989. (Tr. p. 1180, Resp. Ex. 111). Respondent advised Campbell to ignore the statements and not to worry, that her account was "doing fine" when, in fact, it was not. (Tr. p. 1147; Div. Ex. 4a)). Respondent further advised Campbell that debits will disappear if there is a sale of a security that is enough to cover the debit. (Tr. p. 457). Campbell received prospectuses for the securities she purchased, but never tried to read them because she was instructed by Respondent to throw them away. (Tr. pp. 1146, 1156). Respondent states that she discussed with Campbell how ==========================================START OF PAGE 19====== much money she wanted to take out of her Merrill IRA account No. 665-85816. Campbell withdrew from her account $250.00 each month from October 1988 through February 1989, and she withdrew $500.00 from this account in March of 1989. (Tr. p. 1149; Div. Ex. 19d-2, p. 2). Not knowing she was using the margin account, Campbell withdrew both principal and interest, substantially reducing the equity in this account. (Tr. p. 1149; Div. Ex. 19d-2, p. 2). Respondent's argument that IRA withdrawals had to be made because of Campbell's age is, in my view, an unjustified digression. (RPFF p. 31). Campbell signed but did not prepare her own income tax returns in 1988 or 1989, and she did not remember whether her accountant, Mr. Huckfeldt, discussed with her deductions for investment interest. (Tr. pp. 1148, 1177-1178; Resp. Exs. 132- 135). Notwithstanding this evidence, urged by the Respondent, I still do not believe that Campbell understood her margin account. (RPFF p. 31). For the period April 1, 1988 through November 29, 1989, the annualized turnover rate in Campbell's account No. 665-59153 was 7.28. Commissions as a percentage of average equity were 26.58 percent and the annualized break-even for her account was 33.03 percent. (Div. Ex. 19d-1, p. 1). For the period July 1, 1988 through March 31, 1989, the annualized turnover rate in Campbell's account number 665-85816 was 3.60 and the annualized break-even for her account was 8.96 percent. (Div. Ex. 19d-2, p. 1). These computations reflect that the Respondent was ==========================================START OF PAGE 20====== excessively trading this account. 3. Evelyn Fasbender In 1988 and 1989, Fasbender, who is retired, had a brokerage account opened in 1981 with the Respondent at the Merrill Davenport branch. (Tr. p. 1214; Div. Ex. 5).-[12]- Fasbender completely trusted Respondent and believed that she had her best interest in mind and that her account was profitable. (Tr. pp. 1225-26, 1261, 1339). On the other hand, Respondent argues that Fasbender told Campbell that she, Fasbender, was losing money at Merrill Lynch, and that at another time in 1988, she told Campbell that her Merrill Lynch account was going down and that the statement showed she was losing money. (RPFF p. 32; Tr. pp. 1268, 1340). I do not find Respondent's argument supported by the credible testimony. Rather, I believe, Fasbender did not understand her account statements and her recollection of her complaints to Campbell, if any, was not clear. Fasbender invested $38,000 and sought steady growth through secure investments at Merrill and wanted security for her future. (Tr. pp. 1214-1217, 1234, Div. Ex. 5). I find the credible evidence indicates that the Respondent never discussed risk factors with Fasbender as they related to her Merrill account. (Tr. p. 1217). Respondent argues (RPFF p. 33-34) that when she opened a new account for her customers, she completed an account ---------FOOTNOTES---------- -[12]-Fasbender bought federal government bonds through Davenport Bank and Trust before Fasbender's husband died. ==========================================START OF PAGE 21====== profile form in order to get as much information as she could from the clients to assess their objectives, their wants and needs, and their risk factors. (Tr. p. 540). Rather I find that Respondent, at the initial interview, mainly assessed how much commission she could earn from customers instead of making a professional analysis for the benefit of the customer. Fasbender received monthly account statements in 1988 and 1989 which she tried to read but did not understand. (Tr. p. 1218). She sought Respondent's assistance during telephone conversations and at meetings with Respondent and was repeatedly advised by Respondent that her account was doing fine and was profitable when, in fact, it was not. (Tr. pp. 1219-20, 1225).-[13]- Fasbender never authorized Respondent to borrow money on her behalf through the use of margin to purchase securities. (Tr. pp. 1221, 1316). Nevertheless, Respondent purchased securities on margin in Fasbender's account without her knowledge or consent. (Tr. pp. 1316, 1221, 1330; Div. Ex. 5). I do not find credible Respondent's arguments and testimony to the contrary. (RPFF p. 36). Respondent never reviewed the margin feature of a CMA with Fasbender. (Tr. pp. 1246, 1330). By contrast, Respondent argues that Fasbender never complained about her monthly account statements. (RPFF p. 37; Tr. p. 1868). ---------FOOTNOTES---------- -[13]-Respondent never advised Fasbender of the commissions that she received as Fasbender's registered representative (Tr. p. 1220), although it is assumed that the account statements showed the amount of commissions. ==========================================START OF PAGE 22====== Respondent further claims that Fasbender never asked her about debit balance or negative numbers that appeared on her account statement, and never asked her about the interest charged to her which appeared on her monthly statements. (Tr. pp. 1221, 1252). In January of 1989, Fasbender owed over $48,000 to Merrill as a result of mainly UIT and mutual fund securities purchased by the Respondent without authorization on margin in her account. (Div. Exs. 5, p. 11; 19e p. 2; Tr. pp. 1222, 1244). Fasbender did not prepare her own income tax returns in 1988 and 1989 and did not discuss her Merrill account with her tax preparer. (Tr. pp. 1222-23). Respondent argues, in effect, that Fasbender understood what was going on in her Merrill account inasmuch as she gathered information for her accountant to prepare her tax return. (RPFF p. 38). I find to the contrary that Fasbender's testimony suggests she was totally unaware as to what was going on in her account and about investing and finance in general. (Tr. p. 1309). For the period January 1, 1989 through November 24, 1989, the annualized turnover rate in Fasbender's account was 3.83. Commissions as a percentage of average equity were 10.07 percent and the annualized break-even for her account was 27.48 percent. (Div. Ex. 193, p. 1). These computations reflect that the Respondent was churning this account. ==========================================START OF PAGE 23====== 4. Richard and Mary Gruhl Since 1983, the Gruhls, a retired couple, had a CMA brokerage account with the Respondent at the Merrill Davenport branch as well as other brokerage accounts. (Tr. pp. 313-314, 395, 1356, 1359; Div. Ex. 1). Historically, it is noted that the Gruhls attended Respondent's wedding in 1988. (Tr. pp. 980, 1406). Further noted is that Richard Gruhl did not retire on a pension. The buyout proceeds from his employer were invested by the Respondent. (Tr. pp. 1358, 1361). Then Richard Gruhl, to the Respondent's knowledge, suffered a stroke in 1986 that left him physically incapacitated and mentally impaired. Mary Gruhl thereafter communicated with Respondent concerning the Gruhls' account, though Respondent testified that Richard Gruhl almost always came to the meetings with Mary Gruhl and Respondent.-[14]- (Tr. pp. 313-314, 1359, 1402-1405, 1881). In 1988, Mary Gruhl met with Respondent to discuss her investment objectives. At that meeting, Gruhl told Respondent that she and her husband wanted conservative investments because her husband did not have a pension and that it was important for them to maintain capital. (Tr. p. 1361). Mary Gruhl was an unsophisticated investor notwithstanding the fact that she did have investments with other brokers and owned Houston Industries, Iowa-Illinois Gas & Electric, Kennametal, and IBM stocks. ---------FOOTNOTES---------- -[14]-The Respondent states that Mr. Gruhl had recovered from his stroke by May 1989, although no medical evidence in the record reflects that recovery. ==========================================START OF PAGE 24====== (Tr. p. 314, 1359-60, 1393-1394). In 1988 and 1989, the Gruhls' account contained MITs, treasury securities, stocks, and two mutual funds known as Eaton Vance High Income Trust and Eaton Vance High Yield Municipal Fund (Eaton Vance funds). (Div. Exs. 1; 19a). The Eaton Vance funds contained high risk securities such as bonds rated lower than BAA. (Tr. pp. 363-376; Respondent's Exhibit 5C). There were numerous purchases and sales of MITs. (Tr. pp. 343-344; Div. Exs. 1; 19a, pp. 3-4). In at least one instance, MITs were sold by Respondent only two months after they were purchased. (Tr. pp. 333-334;. Exs. 1; 19a, pp. 3-4). I find that Mary Gruhl never understood the risk involved in MITs and Eaton Vance funds purchased in their account. (Tr. pp. 1363, 1365). The Gruhls were sent prospectuses, which they did not understand, and Respondent threw them out in their presence. (Tr. pp. 1365- 1366). I reject Respondent's claim that she explained municipal investment trusts to the Gruhls numerous times, from 1983 forward. (RPFF p. 43; Tr. p. 343). I further reject Respondent's claim that the Gruhls were sophisticated. Respondent argues an after-the-fact rationale for these trades. (RPFF p. 111). This argument is not convincing. Mary Gruhl, sometimes accompanied by her husband, went to see Respondent each month after receiving her statement. (Tr. p. 1367). If, as Respondent argues, the Gruhls were sophisticated investors, what was the need for monthly visits? (RPFF p. 44). Rather, I find that Mrs. Gruhl and her disabled ==========================================START OF PAGE 25====== husband did not understand their account. Respondent's protestations to the contrary are not credible. (RPFF p. 45-46). Mary Gruhl requested a meeting with Lyders in November 1989 to review her monthly account statement line by line. (Tr. pp. 751- 52, 1375). She wanted to know what the entries in her statement regarding debit balance meant. Gruhl had been told by Respondent that the debit balance was something to be ignored, an accounting error that would go away. Lyders explained to Gruhl that she had borrowed money from Merrill to purchase securities. Gruhl responded that she did not understand and was unaware how this could happen. (Tr. pp. 752, 1370). Respondent argues that Lyders testified that Gruhl knew she had used margin in her account. (RPFF p. 76; Tr. pp. 752, 1370). This is a quote out of context. Lyders actually indicated that Gruhl's understanding of margin was relatively imperfect. Gruhl told Lyders that "she did not understand" the CMA margin procedure (Tr. p. 752); that it was not explained and that margin trading was not authorized. (Tr. pp. 372-373, 1368-1369; Div. Ex. 1; 19A p. 3). Nevertheless, Respondent had purchased securities on margin in the Gruhls' account in 1988 and 1989. (Tr. pp. 372-373; Div. Ex. 1; 19a, p. 3). On one occasion, Respondent made an unauthorized purchase for the Gruhls of a zero coupon bond. (Tr. pp. 1372, 1401). Respondent's denial of this transaction is not credible. (RPFF p. 50). Further, I find that Sandra Shotwell, a former Merrill employee who had trained in the Davenport branch, attempted to ==========================================START OF PAGE 26====== exculpate the Respondent in this situation, but I do not find her testimony credible. (Tr. p. 78, 3/22/95) When questioned about the purchase of the zero coupon bond, Respondent advised Mary Gruhl that she had made a computer error and that she would correct it immediately. (Tr. pp. 1372, 1401). Respondent's testimony that she discussed the trade with Mary Gruhl in December 1989 and told her that if it was not the bond she wanted, then they could look at another bond, suggests to me that Respondent was churning the account. (RPFF p. 50; Tr. 1888- 1889). If it were otherwise, she would have provided an explanation for the trade and discussed the cost-benefit of exchanging the security for another. About January 1990, Mary Gruhl again met with Lyders, this time telling him how Respondent had purchased a zero coupon bond in their account without their knowledge or authority. Respondent had told Gruhl that the $20,000 bond was worth $80,000. This was misleading.-[15]- (Tr. p. 755). Lyders asked Respondent for an explanation of the purchase of the zero coupon bond in the Gruhls' account. Respondent advised Lyders that it was a mistake and should not have been purchased for the Gruhls. Lyders then canceled the trade. This episode concerning the bond contributed to Lyders's decision to terminate Respondent. (Tr. p. 733). In summary, Respondent did not contact the Gruhls before she ---------FOOTNOTES---------- -[15]-This was a clear misrepresentation by the Respondent. $20,000 was the cost, but $80,000 was the maturity value in about the year 2017. (Tr. p. 758). ==========================================START OF PAGE 27====== purchased or sold securities in their account, nor did she obtain the authority to make the majority of trades made in their account in 1988 and 1989. (Tr. pp. 1371-74). A substantial number of swaps and other trades in MITs and Eaton Vance funds were made in the Gruhls' account in 1988 and 1989. (Div. Ex. 19a, p. 3). As a result, in January of 1989, the Gruhls, without being advised, owed over $245,000 to Merrill as a result of securities purchased on margin in their account. (Tr. p. 1370; Div. Ex. 1, Bates p. 6119). Respondent again argues that she was not given nor did she take discretionary power over any accounts by any of her clients and never wanted discretionary power. (Tr. p. 1778; RPFF p. 49). I do not find this statement credible. Financial statements for the Gruhls' account were sent from Respondent to their accountant for preparation of their income tax returns. (Tr. pp. 1420-21). Nevertheless, Mary Gruhl testified that she did not speak with her tax preparer in either 1988 or 1989 about activity in her Merrill Lynch account. (Tr. pp. 1381-1382, 1417, 1420; Resp. Exs. 119, 120, 121).The Gruhls reached a financial settlement with Merrill regarding their account. (Tr. p. 1381). This settlement is documented in the Form U-5, filed by Merrill with the NASD regarding Respondent, stating that it was questionable as to whether products in the Gruhls' account should have been purchased on margin. (Div. Ex. 17). For the period January 1, 1988 through September 29, 1989, ==========================================START OF PAGE 28====== the annualized turnover rate in the Gruhls' account was 2.62. Commissions as a percentage of average equity were 12.15 percent. The annualized break-even for their account was 12.98 percent. (Div. Ex. 19a, p. 1). I find these computations reflect that the account was churned. 5. Tillie Boekhoff In 1988 and 1989, Boekhoff, a retired widow, had a brokerage account with Respondent at the Merrill Davenport branch. (Div. Ex. 14). Respondent argues that Ms. Boekhoff's son essentially managed the account. (RSPFF p. 17). I do not find this to be true. Boekhoff sought good quality investments in her account. Nevertheless, Respondent purchased and sold high risk mutual funds and UITs for Boekhoff including approximately $230,000 of UITs and mutual funds in 1988 when her average equity was approximately $20,000. These UITs and mutual funds were sold within a few months of purchase. (Div. Exs. 14; 19n, p. 1-3). Respondent argues an after-the-fact rationale for the trades without any substantial showing that these reasons were actually used. (RSPFF pp. 17-18). Rather, the evidence supports the view that the only reason that the Respondent had for the trades was that she wanted to earn a commission. For the period January 1, 1988 through November 25, 1989, the annualized turnover rate in Boekhoff's account was 5.49. Commissions as a percentage of average equity were 15.53 percent. The annualized break-even for her account was 23.79 percent. (Div. Ex. 19n, p. 1). I find Respondent churned this account. ==========================================START OF PAGE 29====== 6. Daniel Nagle In 1988 and 1989, Nagle, a park supervisor seeking good quality investments, had a brokerage account with Respondent at the Merrill Davenport branch. (Div. Ex. 3). Respondent purchased and sold approximately $685,000 in MITs in 1988 and 1989 for Nagle's account when his average equity was approximately $48,000. Several of these MITs were sold within a few months of purchase. (Div. Exs. 3; 19c, p. 1-3). Respondent argues that Lyders testified that from a risk standpoint MITs are suitable for all customers. (Tr. pp. 903-904; RSPFF p. 21). What the Respondent has done is partially quote Lyders, which distorts his testimony. What Lyders actually said was, "From a risk standpoint, they are suitable for all customers, but suitability is more than risk." (emphasis supplied.) (Tr. p. 904). Further, the Respondent provides various after-the-fact justifications for these trades, but offers no credible evidence as to what was the actual basis for the sales. (RSPFF p. 21). Nagle reached a financial settlement with Merrill regarding his account which is documented in a Form U-5 filed by Merrill with NASD regarding Respondent. (Div. Ex. 17). For the period February 1, 1988 through November 24, 1989, the annualized turnover rate in Nagle's account was 3.99. Commissions as a percentage of average equity were 22.76 percent. The annualized break-even for his account was 28.88 percent. (Div. Ex. 19c, p. 1). I find the Respondent churned this account. ==========================================START OF PAGE 31====== 7. Ronald and Jacquelyn Schave The Schaves, husband and wife employed at Deere and Co., had two brokerage accounts with the Respondent at the Merrill Davenport branch in 1988 and 1989. Mr. Schave is a laborer. Mrs. Schave is a data entry clerk. The Schaves sought good quality investments. (Div. Exs. 6a and 6b). Respondent purchased several MITs for the Schaves' account No. 665-58590 in 1988 and 1989, including a purchase of approximately $19,000 in MITs in June 1988 that were sold one month later. (Div. Exs. 6a; 19f-1, p. 3). Respondent purchased several MITs for the Schaves' account No. 665-60554 in 1989. This included a purchase of approximately $49,000 in MITs in January 1988 that were sold less than one month later. (Div. Exs. 6b; 19f-2, p. 3). Respondent argues an after-the-fact justification for the trades and emphasizes that there is no commission on the sale of MITs. (RSPFF p. 26). However, what she fails to discuss is that her sale of MITs released funds so that she could buy more securities for the customer and earn more commissions for herself. For the period June 1, 1988 through January 27, 1989, the annualized turnover rate in the Schaves' account No. 665-58590 was 6.40. Commissions as a percentage of average equity were 13.16 percent. The annualized break-even for their account was 33.33 percent. (Div. Ex. 19f-1, p. 1). For the period January 1, 1989 through October 27, 1989, the annualized turnover rate in the Schaves' account No. 665-60554 was 7.94. Commissions as a percentage of average equity were 27.70 percent. The annualized ==========================================START OF PAGE 32====== break-even for their account was 45.76 percent. (Div. Ex. 19f-2, p. 1). These computations reflect that the Respondent churned this account. 8. Craig and Gayle Leslie The Leslies, husband and wife seeking investment grade and good quality investments, had two brokerage accounts with Respondent at the Merrill Davenport branch in 1988 and 1989. Craig Leslie was a division manager and Gayle Leslie was a secretary at Deere and Company. (Tr. pp. 444-445; Div. Exs. 7a and 7b). Respondent purchased several MITs for the Leslies' account No. 665-60272 in 1988 and 1989, including the purchase of approximately $143,000 in MITs in October and November of 1988. Approximately half of these MITs were sold at a loss one month after they were purchased and the remainder were sold at a loss four months after they were purchased. (Div. Exs. 7a; 19g-1, p. 3; Tr. pp. 446-451). Respondent purchased several MITs for the Leslies' account No. 665-60273 in 1988 and 1989. This included a purchase of approximately $80,000 in MITs in October 1988 which were sold one month later at a loss. (Div. Exs. 7b; 19g-2, p. 3; Tr. pp. 452-456). The proceeds from the October 1988 sale of MITs were used to purchase other, similar, MITs. (Div. Exs. 7b; 19g-2, p. 3; Tr. pp. 452- 456). Respondent argues a number of after-the-fact justifications for these purchases and that the Leslies agreed to the transactions. (RSPFF p. 32). I do not find the argument credible. ==========================================START OF PAGE 33====== The Leslies reached a financial settlement with Merrill regarding their account which is documented in the Form U-5, filed by Merrill Lynch with the NASD regarding Respondent. In that Form U-5, Merrill states that it was questionable as to whether products in the Leslies' account should have been purchased on margin. (Div. Ex. 17). For the period October 1, 1988 through October 27, 1989, the annualized turnover rate in the Leslies' account No. 665-60272 was 6.47. Commissions as a percentage of average equity were 22.90 percent. The annualized break-even for their account was 31.22 percent. (Div. Ex. 19g-1, p. 1.). For the period October 1, 1988 through October 27, 1989, the annualized turnover rate in the Leslies' account No. 665-60273 was 7.31. Commissions as a percentage of average equity were 25.77 percent. The annualized break-even for their account was 38.75 percent. (Div. Ex. 19g-2, p. 1). This account was churned by the Respondent. ==========================================START OF PAGE 34====== 9. Vernon and Esther Rasmussen In 1988, the Rasmussens, husband and wife and retired, seeking investment grade securities, had a brokerage account with the Respondent at the Davenport branch. (Div. Ex. 8). Despite their conservative investment objectives, Respondent purchased numerous high yield UITs and high yield mutual funds for the Rasmussens' account in 1988. (Div. Exs. 8; 19h., p. 3). Respondent argues, citing to the new account sheet, that the Rasmussens wanted intermediate term price appreciation. (RSPFF p. 40). I am not convinced that the notations made in the new account sheets really reflect the wants of the customer. Rather, it appears to be an effort to cover up the churning activities to be initiated by the Respondent. Merrill reached a financial settlement with the Rasmussens documented on the Form U-5 that states that the settlement was because the clients did not fully understand the use of margin in their account. (Div. Ex. 17). Respondent argues inconsistently that Merrill was happy with their account and communicated that fact to Lyders. (RSPFF p. 41). For the period January 1, 1988 through August 26, 1988, the annualized turnover rate in the Rasmussens' account was 5.99. Commissions as a percentage of average equity were 13.72 percent. The annualized break-even for their account was 24.32 percent. (Div. Exs. 8; 19h). Respondent churned this account. 10. Mary Riepe ==========================================START OF PAGE 35====== In 1988 and 1989, Riepe, who is divorced and unemployed, seeking good quality investments, had a brokerage account with Respondent at the Merrill Davenport branch. (Div. Ex. 9). Respondent purchased numerous MITs for the Riepe's account in 1988 and 1989, including a purchase of approximately $37,000 of MITs in February 1989 that were sold two months later. (Div. Exs. 9; 19i, pp. 3-4). For the period January 1, 1988 through June 30, 1989, the annualized turnover rate in Riepe's account was 6.66. Commissions as a percentage of average equity were 31.58 percent. The annualized break-even for her account was 36.64 percent. (Div. Ex. 19i, p. 1). Respondent churned this account. 11. Vernon and Barbara Thede In 1988 and 1989, the Thedes, a retired couple seeking investment grade securities, had a brokerage account with the Respondent at the Merrill Davenport branch. (Div. Ex. 10). The Thedes attended Respondent's wedding in 1988. (Tr. p. 1406). Respondent purchased numerous MITs and, despite their investment objectives, high yield UITs for the Thedes' account in 1988 and 1989, most of which were sold within a few months of purchase, including a purchase of approximately $52,000 of UITs in May 1988 that were sold one month later. (Div. Ex. 19j, pp. 3-4). For the period January 1, 1988 through October 27, 1989, the annualized turnover rate in the Thedes' account was 3.69. Commissions as a percentage of average equity were 21.43 percent. The annualized break-even for their account was 23.03 ==========================================START OF PAGE 36====== percent. (Div. Ex. 19j, p. 1). Respondent churned this account. 12. Barbara Van Hyfte In 1989, Van Hyfte, a laborer seeking good quality investments, had a brokerage account with Respondent at the Merrill Davenport branch. (Div. Exs. 10-11). Respondent purchased and sold approximately $524,000 in UITs and mutual funds for Van Hyfte's account from May through December of 1989 when her average monthly equity was approximately $57,000. (Div. Exs. 10; 19j, pp. 1-3). For the period May 1, 1989 through December 29, 1989, the annualized turnover rate in Van Hyfte's account was 6.98. Commissions as a percentage of average equity were 19.06 percent. The annualized break-even for their account was 37.28 percent. (Div. Ex. 19k, p. 1). I find Respondent churned this account. 13. Richard and Alice Cooper Richard Cooper, a 79-year old dentist, and his wife, Alice, a dental assistant, had two brokerage accounts with Respondent at the Merrill Davenport branch in 1988 and 1989. (Div. Exs. 12a and 12b). Respondent purchased and sold numerous UITs for the Coopers' accounts numbered 665-59377 and 685-86019 in 1988 and 1989. This included a purchase of approximately $40,000 in UITs in April of 1988 that were sold, at a loss, one month later and a purchase of approximately $93,000 in UITs in July of 1988 that were sold, at a loss, one month later. (Div. Exs. 12a, 12b; 191-2, p. 3). Respondent conceded that there was over- trading in the Coopers' accounts. (Tr. p. 647). ==========================================START OF PAGE 37====== Further, Respondent in her argument states that Cooper made some trades in his account that "perhaps she should have held him back from." (RSPFF p. 58; Tr. p. 648). Such a statement is not consistent with Respondent's argument that Cooper was in control of his own account. For the period April 1, 1988 through August 25, 1989, the annualized turnover rate in the Coopers' account No. 665-59377 was 8.12. Commissions as a percentage of average equity were 34.93 percent. The annualized break-even for their account was 38.81 percent. (Div. Ex. 1991-1, p. 1). For the period July 1, 1988 through December 29, 1989, the annualized turnover rate in the Coopers' account No. 665-86018 was 2.41. Commissions as a percentage of average equity were 11.33 percent. The annualized break-even for their account was 7.55 percent. (Div. Ex. 191-2, p. 1). I find that Respondent churned these accounts. 14. Robert Scheppler and Agnes Scheppler Robert Scheppler and his mother, Agnes Scheppler, a retired widow, had a brokerage account No. 665-54695, transferred to No. 665-96200, with Respondent at the Merrill Davenport branch in 1988 and 1989. The Schepplers sought investment grade securities in this account. (Div. Ex. 13a). Nevertheless, Respondent purchased for the Schepplers high risk mutual funds and sold numerous UITs in 1988 and 1989, including a purchase of approximately $195,000 in UITs in May of 1988 that were sold, at a loss, four months later. (Div. Exs. 13a; 19m-1, ==========================================START OF PAGE 38====== pp. 3-4). I do not find credible Respondent's contention that the Schepplers made a number of unsolicited trades. (RPFF p. 64). For the period January 1, 1988 through February 24, 1989, the annualized turnover rate in Robert and Agnes Scheppler's account was 6.29. Commissions as a percentage of average equity were 6.29. The annualized break-even for their account was 30.73 percent. (Div. Ex. 19m-1, p. 1). I find Respondent churned this account. Robert and Jayne Scheppler Robert and Jayne Scheppler, who are husband and wife, had a brokerage account No. 665-96164 with the Respondent at the Davenport branch in 1988 and 1989 and sought good quality investments. (Div. Ex. 13b). They attended Respondent's wedding in 1988. (Tr. p. 985). Respondent purchased and sold numerous UITs for Robert and Jayne Scheppler's account in 1988 and 1989, including a purchase of approximately $42,000 in UITs in February of 1988, most of which were sold, at a loss, two weeks later. (Div. Exs. 13b; 19m-2, pp. 3-4). For the period January 1, 1988 through August 25, 1989, the annualized turnover rate in Robert and Jayne Scheppler's account was 3.63. Commissions as a percentage of average equity were 18.99 percent. The annualized break-even for their account was 29.50 percent. (Div. Ex. 19m-2, p. 1). I find Respondent churned this account. Robert Scheppler had a brokerage account with the ==========================================START OF PAGE 39====== Respondent at the Davenport branch in 1988 and 1989. His IRA was maintained as account No. 665-80579. (Div. Ex. 13c). Respondent purchased and sold several UITs for Robert Scheppler's account in 1988 and 1989 including a purchase of approximately $83,000 in UITs in July of 1988 that were sold, at a loss, one month later. (Div. Exs. 13c; 19m-3, p. 3). For the period May 1, 1988 through August 25, 1989, the annualized turnover rate in Robert Scheppler's account was 3.21. Commissions as a percentage of average equity were 13.39 percent. The annualized break-even for his account was 10.04 percent. (Div. Ex. 19m-3, p. 1). I find Respondent churned this account. Jayne Scheppler had a brokerage account with the Respondent at the Davenport branch. Her IRA was maintained as account No. 665-80601. (Div. Ex. 13d). Respondent purchased and sold several UITs for Jayne Scheppler's account in 1988 and 1989 including a purchase of approximately $20,000 in UITs in July of 1988 that were sold, at a loss, one month later. (Div. Exs. 13d; 19m-4, p. 3). For the period July 1, 1988 through August 25, 1989, the annualized turnover rate in Jayne Scheppler's account was 3.36. Commissions as a percentage of average equity were 12.11 percent. The annualized break-even for her account was 10.38 percent. (Div. Ex. 19m-4, p. 1). I find the Respondent churned this account. Respondent's Resignation From Merrill Lyders, registered as a principal with NASD, was ==========================================START OF PAGE 40====== manager of the Davenport branch between July of 1987 and February of 1994, as well as Respondent's supervisor, chief compliance officer, and recipient of customer complaints. (Tr. pp. 291-292, 380, 707-709). In or about the third week of December in 1989, Lyders made the decision to terminate Respondent, who was allowed to resign in the third week of February 1990. (Tr. pp. 713, 725, 728).-[16]- Respondent argues that she told Lyders that she had been unhappy with him regarding the poison pen letters and that she had looked to Lyders for help to better serve her clients and that he had not provided that. (Tr. pp. 1901-1902; RPFF p. 67). I do not find her testimony credible. Had Respondent not resigned, Lyders would have terminated her.-[17]- (Tr. p. 729). Lyders decided to terminate Respondent because, among other things, she could not or would not provide him with answers as to why she made trades in certain accounts. (Tr. p. 998). He indicated that Respondent was a rogue broker. (Tr. p. 779). On the other hand, Respondent argues that Lyders testified that the term "rogue broker" has a meaning now that he did not intend to impute to Respondent. (RPFF p. 68). However, Lyders clarified his use of the term to mean a broker who could not explain the reason for trades. (Tr. p. 780). Factors Lyders ---------FOOTNOTES---------- -[16]-A delay transpired between Lyders's decision to terminate Respondent and her resignation due to a skiing accident that Lyders suffered on January 1, 1990. (Tr. pp. 733, 959). -[17]-The letters accused Respondent, among other things, of churning customers' accounts. ==========================================START OF PAGE 41====== used in justifying his decision to terminate Respondent included his receipt of two customer complaints, one from a Mrs. Lynn Axtell-[18]- and another from a Mrs. Jacqueline Schwenke-[19]-; the customer inquiry from Mary Gruhl concerning the unauthorized purchase of the zero coupon bond; and the resolution of a canceled trade on behalf of a Mrs. Reidelberger (Reidelberger). (Tr. p. 733). In further explanation, Lyders indicated that Reidelberger was a very unsophisticated investor (Tr. p. 740). It is considered that Respondent's argument that Reidelberger had relatives and in-laws who recommended tax free investments to her does not detract from Lyders's view. (RPFF p. 69). Additionally, Respondent argues that she sent Reidelberger prospectuses in the mail and asked her to review them. (Tr. pp. 816-817). However, this does not limit the basic conclusion that Respondent ---------FOOTNOTES---------- -[18]-Represented by the Respondent for some years, the Axtells called Lyders to complain about substantial losses in their joint account. (Tr. p. 741). After auditing the account, Lyders requested that Respondent provide him with an explanation for trades made in the Axtells' account. Respondent declined. (Tr. p. 741). Respondent reimbursed Merrill one hundred percent of the amount paid by Merrill to the Axtells. (Tr. 748). -[19]-Schwenke and her accountant complained to Lyders in December 1989 concerning mutual fund purchases and sales made in her account by Respondent in the first six months of 1987. (Tr. pp. 776-777). Lyders requested, but Respondent declined, to provide him with an explanation for the purchases and sales of mutual funds made in Schwenke's account. (Tr. pp. 777-778). Lyders indicated to Respondent that Schwenke had lost money in 1987 and was entitled to her money back, interest, and accountant fees. (Tr. p. 1833; RPFF p. 73).A financial settlement was reached between Merrill and Schwenke along those lines. (Tr. p. 778). Respondent reimbursed Merrill one hundred percent of the amounts paid to Axtell and Schwenke without comment or complaint to Lyders. (Tr. pp. 748, 964). ==========================================START OF PAGE 42====== conducted unauthorized trades which she could not justify. In the fall of 1989, Reidelberger deposited $75,000 in her account and Respondent thereupon purchased $75,000 worth of UITs and $66,000 worth of UITs on margin. Several weeks later, the UITs purchased on margin were sold. Reidelberger was left with a loss in her account equal to the amount of commissions resulting from this transaction. (Tr. p. 735-36). By contrast, Respondent argues that Lyders was fairly confident that Reidelberger authorized the original $75,000 purchase. (Tr. p. 877; RPFF p. 70). Of more significance is Lyders's testimony that Reidelberger was "a very, very nervous sort of person, an older lady ... that would have trouble sleeping at night with any sort of even high quality investment that had fluctuation to it ...." (Tr. 876). Given such a customer, there was no justification for the trades made by the Respondent in this account. In response to Lyders's inquiry regarding the Reidelberger sale, Respondent explained to him that she over- bought the UITs, that Reidelberger really did not want to buy them, and that she never should have bought them. (Tr. p. 736). Respondent denies this testimony, but I do not find her denial credible. (RPFF p. 70). In her dealings with Reidelberger, Respondent breached a Merrill policy. Lyders thereafter called for the cancellation of the Reidelberger trade of the UITs purchased on margin. (Tr. p. 736). Respondent appears to agree with this action and states that when she could not make Reidelberger understand the investment, Respondent herself ==========================================START OF PAGE 43====== suggested to Lyders that Merrill cancel the trade. (RPFF p. 71; Tr. p. 1820). Accepting for the purposes of argument Respondent's testimony, one has to ask why was the investment made in the first place if the Respondent was really protecting her client? Merrill reached a financial settlement with Reidelberger documented in a Form U-5, filed by Merrill with the NASD, stating that the use of margin by Respondent in Reidelberger's account was inappropriate. (Div. Ex. 17). Respondent absorbed the cost of Reidelberger's loss in the form of a fine from Merrill. (Tr. p. 736). In addition to the unsolicited complaints regarding Respondent, Lyders also received a solicited complaint about her from Cynthia Sim. (Tr. p. 735). Respondent did not attempt to state her position to Lyders when she learned of his decision to terminate her. (Tr. p. 998). As explanation for her silence, Respondent now argues that when Lyders asked for her resignation, she believed that there was no sense in fighting him about it. (Tr. p. 1901; RPFF p. 68-69). I do not consider this testimony credible. Rather, Respondent was caught making inappropriate trades and faced the inevitable by resigning. Other Settlements with Customers Financial settlements were also reached between Merrill and Respondent's customers Leslies, Nagle, Rasmussens, Boekhoff, Thede, Rudi, Youngberg, Scheppler and Paarman. Lyders was involved in each of these settlements. (Div. Ex. 17; ==========================================START OF PAGE 44====== Tr. pp. 786-88). A majority of the foregoing settlements involved use of margin by Respondent in the purchase of UITs. (Tr. p. 788; Div. Ex. 17). Operative Provisions of The Law Sections 17(a) of the Securities Act and 10(b) of the Exchange Act, and Rule 10b-5 thereunder, prohibit the employment of a fraudulent scheme or the making of material misrepresentations and omissions in and in connection with the offer, purchase or sale of any security. To prove a violation of these provisions, the Division must show: (1) that a misrepresented or omitted fact was made in an offer, attempt to induce a purchase or sale, or an actual purchase or sale of a security; (2) that the misrepresented or omitted fact was "material;" and (3) that the respondent acted with the requisite "scienter." Basic, Inc. v. Levinson, 485 U.S. 224, 240 (1988); Aaron v. SEC, 446 U.S. 680, 701-702 (1980).-[20]- Issues Several questions arise from the parties' arguments in this case. Did the Respondent violate the operative provisions of the law by excessive, unsuitable, and unauthorized trading as well as fraudulent misrepresentations and omissions of materials facts? Did the Respondent owe a general fiduciary duty to her customers and did she fail in fulfilling that duty? What ---------FOOTNOTES---------- -[20]- The parties have stipulated as to the use of interstate commerce. (Stip. H) ==========================================START OF PAGE 45====== review period should be used to determine if excessive trading occurred? Lastly, what is the number of witnesses required to prove the Division's case? Excessive Trading There appears to be no dispute that excessive trading, or churning, constitutes a deceptive act under Section 10(b) and Rule 10b-5 of the Exchange Act. Costello v. Oppenheimer & Co., 711 F.2d 1361, 1368 (7th Cir. 1983); Follansbee v. Davis, Skaggs & Co., 681 F.2d 673, 676 (9th Cir. 1982). Churning "occurs when a securities broker buys and sells securities for a customer's account, without regard to the customer's investment interests, for the purpose of generating commissions." Olson v. E.F. Hutton & Co., 957 F.2d 622, 628 (8th Cir. 1992) (quoting Thompson v. Smith Barney, Harris Upham & Co., 709 F.2d 1413, 1416 (11th Cir. 1983)). To prove churning it is necessary to show that: (1) the broker controlled the account; (2) the trading was excessive in terms of the investor's trading objectives; and (3) the broker acted with scienter. Hotmar v. Lowell H. Listrom & Co., 808 F.2d 1384, 1385 (10th Cir. 1987); Miley v. Oppenheimer & Co., 637 F.2d 318, 324 (5th Cir. 1981); Karlen v. Ray E. Friedman & Co. Commodities, 688 F.2d 1193, 1203 (8th Cir. 1982). Churning essentially involves an improper purpose on the part of the broker to derive profits for herself with little regard for the interests of the client. Stevens v. Abbot, Proctor & Paine, 288 F. Supp. 836, 845 (E.D. Va. 1968). I find that the Division has ==========================================START OF PAGE 46====== proven, by a preponderance of the evidence, that the Respondent's conduct reflects the elements necessary to support a finding of churning. Control The control issue has been a matter of substantial dispute. The Respondent argues, in substance, that the she had no control over the accounts in dispute and cites a plethora of reasons - none of which I find persuasive. She argues, among other things, that the accounts were not "discretionary" so as to give the broker authority to trade without asking for permission from the investor and further that the Davenport branch of Merrill Lynch did not have discretionary accounts. However, as noted in Carras v. Burns, 516 F.2d 251, 258, 259 (4th Cir. 1975): In the absence of an express agreement, control may be inferred from the broker-customer relationship when the customer lacks the ability to manage the account and must take the broker's word for what is happening .... The issue is whether or not the customer, based on the information available to him and his ability to interpret it, can independently evaluate his broker's suggestions. [The customers do] not have to prove both that they lacked the competence to manage the account and also that they gave control to [the broker]. Lack of competence itself may give rise to an inference of control. I find that there is clear evidence supporting the view that the Respondent did have control over the accounts. First, the investor witnesses testified that, for the most part, they had at one time a great affection for the Respondent, had social relations with her, and trusted her implicitly. Second, I believe the investor testimony, over the Respondent's, that ==========================================START OF PAGE 47====== Respondent largely traded the accounts as if she had discretion. Further, the record clearly established that the investors were, for the most part, unsophisticated and deferred to the Respondent almost totally for investment decisions. Lastly, I agree with the Division that the record shows that Respondent violated the securities law in that she: (a) purchased securities in her customers' accounts without their knowledge or consent; (b) solicited risky trades for her customers; (c) advised her clients that their accounts were profitable when, in fact, they were not; (d) borrowed money on her clients' behalf to purchase securities in their accounts without their knowledge or consent; (e) placed trades in her customers' accounts that were inconsistent with those customers' investment objectives; and (f) developed social and personal relationships with her customers. (Division post hearing brief "DPHB" p. 42). As the court has indicated in Mihara v. Dean Witter & Co., Inc., 619 F.2d 814, 821 (9th Cir. 1980), "The account need not be a discretionary account whereby the broker executes each trade without the consent of the client .... [T]he requisite control is met when the client routinely follows the recommendations of the broker." At a minimum, I find the ==========================================START OF PAGE 48====== Respondent had the "requisite control" over the accounts in issue. Proof of Excessive Trading One test for excessive trading is the turnover rate in a customers account. The "turnover rate" is the term used to describe the ratio computed by dividing the aggregate amount of purchases in an account by the average monthly investment. The turnover rate reflects the number of times during a given period that the securities in an account are replaced by new securities. Shearson Lehman Hutton Inc., 43 SEC Docket 1322, 1325-6 (1989). See Shearson, Hammill & Co., Inc., 42 S.E.C. 811, 845, n.72 (1965). The Division established that in twenty-one accounts, of fourteen investors, there was an annualized turnover rate greater than 6. Richard and Alice Cooper, Campbell, the Leslies, Riepe, the Schaves, Schepplers, and Van Hyft had an 8.12 annualized turnover rate. The Rasmussens, Boekhoff, and Sim had annualized turnover rates greater than 4. Seven of the accounts had turnover ratios of 3, while two accounts had ratios above 2. The authorities hold that turnover rates from 2 to 4 are excessive. Higher than 6 is presumptive of churning. See 1 Stuart C. Goldberg, Fraudulent Broker-Dealer Practices, 2.9[b][1] at 2-43 to 49 (1978) ; Stevens v. Abbott, Proctor & Paine, 288 F. Supp. at 842; Samuel B. Franklin & Co., 42 S.E.C. 325, 328 (1964). I find the computed turnover rate reflects that Respondent excessively traded her customers' accounts. ==========================================START OF PAGE 49====== "A primary test for excessive trading is the relationship between the net amount of money invested and the transaction cost incurred." Michael David Sweeney, 50 SEC Docket 59, 64 (1991). The record reflects that the Division using a net equity (break- even) analysis here determined that Respondent's customers needed returns from 7.55 percent to 45.76 percent on their average net equity to pay expenses just to break-even in their accounts. Sixteen of the twenty-one accounts listed in the summaries required returns greater than 22 percent on their average net equity to break-even. The magnitude of these break-even returns reflects excessive trading. A further test of excessive trading is reflected in the amount of commissions paid to the Respondent as a percentage of average equity in her customers' accounts. George Inserra, Fed. Sec. L. Rep. (CCH) [1988-89 Transfer Binder] 84,334 at p. 84,515. In Inserra, the Commission held that it was excessive trading when, among other things, commissions as a percentage of average monthly equity during a three and a half year period ranged between 22.5 percent and 27.0 percent. Here, the record shows that as to the accounts in issue and as to monthly equity, four had commissions that were at least 20 percent, four were 30 percent, and one account exceeded 40 percent. I consider that, by this criteria, in nine of the twenty-one accounts in question there was excessive trading. Mutual Funds Mutual fund switches are dealt with in Russell L. ==========================================START OF PAGE 50====== Irish, 42 S.E.C. 735 (1965), affirmed, 367 F.2d 637 (9th Cir. 1966), cert. denied, 386 U.S. 911 (1967). In Irish, similar to the instant case, the broker induced purchases and redemptions of mutual funds in the accounts of customers that were excessive, in size and frequency, considering the character of such accounts and the sales load charged. The Board held against the broker noting at page 737, "Not only was there excessive switching between mutual funds, but switches were in many instances effected after the first fund had been held in the customers' account for a relatively brief period of time." As the Division correctly points out, in substance, Respondent here frequently engaged in fund and UIT switches, incurring a load fee on the purchase and decreasing her customers' likelihood of earning a profit. (Division's Brief "DB" p. 48). In the Campbell and Leslie accounts, mutual funds and UITs were sold within a month after purchase. There were similar occurrences in the Sim, Gruhl, Riepe, and Thede accounts. I find that there were excessive mutual fund switches in those cases. Scienter of Excessive Trading The trades made for the 14 customers at issue were all performed by the Respondent during the critical period. I find that she knew the probable adverse impact of the excessive trading and churning of the accounts to her clients and the companion benefit to herself by way of commissions. Unsuitable Trades The Respondent made unsuitable trades. "Churning ==========================================START OF PAGE 51====== occurs when a securities dealer abuses his customer's confidence for personal gain (e.g. to create commissions) by inducing transactions in the customer's account which are disproportionate to the size and character of the account. Churning has been held to be a deceptive device under 10(b) ...." Newberger Loeb & Co., Inc. v. Gross, 563 F.2d 1057, 1069 (2nd Cir.1977), cert. denied. 434 U.S. 1035 (1978). Rush v. Oppenheimer & Co., Inc., 592 F. Supp. 1108, 1112 (S.D.N.Y. 1984); Clark v. John Lamula Investors, Inc., 583 F.2d 594, 600 (2nd Cir. 1978); See also Timoleon Nicholaou, 57 SEC Docket 668 (1994) for the proposition that churning is governed by Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, and that recommendations of investments in risky mutual funds were unsuitable for investors who wanted low risk, income producing investments. Additionally, I have concluded that the trades Respondent consummated using margin accounts, without disclosure of the risks to the client, as was done abundantly in this case, reflected unsuitable investments. Troyer v. Karcagi, 476 F.Supp. 1142, 1152 (S.D.N.Y. 1979); Nicholaou, 57 SEC Docket at 670-671, 673. I find that the Respondent, typically using the CMA, was able to sign up customers for margin accounts without their really understanding what they were doing. This occurred in at least four cases. Further, she traded, against the clients' wishes, in high risk UITs and MITs for these clients who ==========================================START OF PAGE 52====== had conservative objectives: Sim, Campbell, Fasbender, the Gruhls, Boekhoff, Rasmussen, the Thedes, and the Schepplers. By Respondent purchasing for these customers on margin, they became liable for the cost and interest. Their profit potential was thus further limited. The customers, for the most part, did not know they were trading on margin and the risks of margin trading. Merrill Lynch, Respondent's employer, after-the-fact questioned the suitability of investors Sim, Gruhls, Leslies and Rasmussens using margin to purchase UITs. Accordingly, I find that Respondent willfully-[21]- violated Section 17(a) of the Securities Act, Section 10(b) of the Exchange Act and Rule 10b-5 thereunder. Respondent Engaged In Unauthorized Trading As has been discussed, Respondent makes the repetitive argument that it was impossible to make unauthorized trades because she did not have formal authority to do so. This argument is unconvincing. Regardless of whether Merrill allowed her to have formal authority over the accounts, she treated them ---------FOOTNOTES---------- -[21]- Willfully means only intentionally committing the act which constitutes the violation. Arthur Lipper Corp. v. SEC, 547 F. 2d 171, 180 (2d Cir. 1967). "All that is required is proof that the broker-dealer acted intentionally in the sense that he was aware of what he was doing ...." Id., quoting 2 Loss, Securities Regulation 1309 (1961); Tager v. SEC, 344 F.2d 5, 8 (2d Cir. 1965). It means "no more than that the person charged with the duty knows what he is doing." Hughes v. SEC, 174 F. 2d 969, 977 (D.C. Cir. 1949). Willfulness does not require proof of evil motive. International Shareholders Services Corporation, 9 SEC Docket 820, 822 (1976). No showing of an intention to violate the law need be made in order to support a finding of willfulness in an administrative proceeding under the Exchange Act. Id.; A.J. White & Co., 3 SEC Docket 550, 551,n. 5 (1974). ==========================================START OF PAGE 53====== as discretionary accounts over which she had control. As indicated, the investor witnesses were not aware that the Respondent was purchasing on margin. Assuming arguendo that they were aware, they did not understand the risk involved. For instance, Gruhl did not know of the purchase of a zero coupon bond and Sim did not know that margin was being used in her account or of the risk thereof. Further, merely advising a customer of a trade, either by an account statement or otherwise, does not relieve the broker from explaining the risk in advance of the trade to an unsophisticated investor. Failing to provide an explanation was tantamount to trading without authority. The record shows that the Respondent not only did not provide adequate explanations, as will be discussed further, but materially misrepresented the trades and the status of the accounts. Accordingly, Respondent having acted without authority, violated Section 17(a) of the Securities Act, and Section 10(b) of the Exchange Act and Rule 10b-5 thereunder. Cruse v. Equitable Securities Of N.Y., Inc., 678 F. Supp. 1023, 1028-9 (S.D.N.Y. 1987); Thomson McKinnon Securities, Inc., Fed. Sec. L. Rep. (CCH) [1985 Transfer Binder] 83,620 at p. 86,810; Karlen, 688 F.2d at 1198; See also Davis v. Merrill, Lynch, Pierce, Fenner & Smith, Inc., 906 F.2d 1206, 1213 (8th Cir. 1990). Assuming arguendo that there was, as Respondent argues, some transactions assented to, it is considered that such assent does not necessarily constitute authorization. In determining whether a customer authorized a particular transaction, "The ==========================================START OF PAGE 54====== question is ... whether [the customer's] apparent assent was given voluntarily and intelligently with full knowledge of the facts." Karlen, 688 F.2d at 1198; Davis, 906 F.2d at 1213. The investors in this case lacked the knowledge required to give voluntary authorization. Respondent's Misrepresentations and Omissions The operative legal provisions make it fraudulent and unlawful, under the circumstances, to make an untrue material statement of fact or omit a statement of material fact. The Respondent deceived her investors on various occasions. She misrepresented to the Gruhls that the margin entries on their account statement were a mistake and would be removed the following month. The Respondent deceived Sim-[22]- into thinking that she should not worry about account debits and that an unprofitable account was profitable. She made other misrepresentations to customers including recommending mutual funds switches as desirable when she knew they were not beneficial. Respondent omitted to state to the Fasbenders that she was receiving commissions from their account. She failed to tell customers that their accounts were on margin and failed to inform them as to the risks involved in a margin account. These failures occurred despite the fact that she should have been aware that the investors were unsophisticated and did not understand margin accounts. Respondent further failed in general ---------FOOTNOTES---------- -[22]- Respondent indicated on Sim's new account that she wished to speculate in stock trades whereas the record reflects that Sim desired to trade in conservative investments. ==========================================START OF PAGE 55====== to advise her customers of large numbers of unauthorized trades that were being made as well as other material omissions. Scienter of Misrepresentation and Omissions These material fraudulent misrepresentations and omissions were performed knowingly with scienter-[23]- by the Respondent and she knowingly made unauthorized purchases and used margins to buy securities. She also was aware that a number of the customers did not understand the trades she was making, and in other instances she bought speculative securities for investors who wished to acquire conservative investments only. Assuming arguendo that Respondent was unaware of what she was doing, than she was extremely reckless in not knowing that she was engaging in an activity that was fraudulently deceptive and damaging to her customers. Time Period for Churning Computations The proper time frame for determining churning calculations is a matter in substantial dispute. Respondent argues that the period should extend during the entire length of the account (Respondent's Post Hearing Brief p. 1). The Division argues, more persuasively in my view, that the period should be based on the time that Respondent was actually engaged in misconduct. To follow Respondent's line of thought, one would have to credit a bank embezzler for those many years he was not caught stealing. Frederick C. Heller, 53 SEC Docket 791, 796 ---------FOOTNOTES---------- -[23]- Respondent was aware from Merrill's Compliance Outline that de facto control over an account together with the generation of trades to earn commission was illegal churning. ==========================================START OF PAGE 56====== (1993); Looper and Company, 38 S.E.C. 294, 299 n. 8 (1958); Davis, 906 F.2d 1206. I find that the Division's computations for the discrete period representing the time that Respondent committed fraud are more persuasive than Respondent's computations extending over the life of the accounts. Further, the evidence presented by the Respondent covering the entire account period was assembled under the direction of Rob Lee who acted both in the capacity of a lawyer and expert for the Respondent.-[24]- He provided questions to the examiner at the counsel table, is a member of the bar, and participated in the tactical strategy to win the case. Further, he was unable to provide substantial authorities to support his opinion and was inconsistent in his views. For instance, he testified that "off the book values" should be considered and yet he left such values out of his own computations. Under the circumstances, one cannot be certain what was really argument on his part and what purports to be objective opinion. Accordingly, I find the greater weight resides in the Division's presentation of proof of churning and excessive trading and that the Division used the proper time frame for its calculations. The Number of Investors Required to Prove Churning Respondent argues that the Division must present all fourteen sets of investor witnesses live at the hearing ---------FOOTNOTES---------- -[24]-Respondent denies that he was her lawyer but he had all the indicia of a lawyer for the Respondent. ==========================================START OF PAGE 57====== rather than a sample of four to be able to establish that Respondent defrauded these investors under the securities law. I do not agree. It is hornbook law and is set out in the Administrative Proceedings Act that cumulative or repetitive evidence is to be excluded. 5 U.S.C.  556(d). See Ellwyn Fischbach, 49 SEC Docket 1895 (1991). Accordingly, I find that the presentation of testimony of four investor witnesses is a sufficient representative sample. Fiduciary Duty The Division argues that the Respondent owed her customers a fiduciary duty under Iowa law. The Respondent argues that the brokerage agreement provides that any disputes are to be adjudicated under the law of New York which does not give fiduciary protection to customers of broker dealers. Assuming arguendo that New York law controls, it is noted that CFTC v. Heritage Capitol Advisory Ltd, 823 F.2d 171 (7th Cir. 1987), cited by the Respondent, stands for the proposition that unless discretionary power is given to the broker, than no fiduciary duty exists. However, in the instant case, I have found that de facto discretionary power was given to the broker. In any event, as indicated, she took such discretionary power and operated her customers' accounts largely without any restraint. Following from these findings, one must conclude that the Respondent did owe fiduciary duties to her customers and that fraudulent acts herein violated those duties. Even assuming that Respondent did not owe any fiduciary duty to her customers, she was in any event ==========================================START OF PAGE 58====== obligated to act as a "shield" to protect her customers' interests. She was required under the "shield" concept to deal with her customers fairly and competently and to provide an adequate basis for such recommendations as she makes to her customers. Charles Hughes and Co. v. SEC, 139 F.2d 434 (2d Cir.1943), cert. denied, 321 U.S. 786 (1944). The record contains abundant evidence that Respondent's primary interest was not to act as "shield" to her customers but rather to defraud them and treat them, for the most part, as a vehicle to generate commission income for herself. Based upon the foregoing, it is determined that the Respondent, willfully violated Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10b-5 thereunder. Notwithstanding Respondent's and her witnesses' testimony to the contrary, which, as I indicated, I do not find credible, it is found that for pecuniary gain and in violation of the law she was instrumental in fraudulently engaging in excessive trading and churning a substantial number of customer accounts to the detriment of numerous investors who incurred large losses. Sanctions Imposition of administrative sanctions requires consideration of: ...the egregiousness of the defendant's actions, the isolated ==========================================START OF PAGE 59====== or recurrent nature of the infraction, the degree of scienter involved, the sincerity of the defendant's assurances against future violations, the defendant's recognition of the wrongful nature of his conduct, and the likelihood that his occupation will present opportunities for future violations. Steadman v. SEC, 603 F.2d 1126, 1140 (5th Cir., 1979), aff'd on other grounds, 450 U.S. 91 (1981). The amount of a sanction depends on the facts of each case and the value of the sanction in preventing a recurrence of the violative conduct. Berko v. SEC, 316 F.2d 137, 141 (2d Cir. 1963); Leo Glassman, 46 SEC 209, 211 (1975); Richard C. Spangler, Inc., 46 SEC 238, 254 n. 67 (1976). I find the highest degree of egregiousness was reflected in Respondent's acts including fraudulent material misrepresentation and omissions and excessive trading and churning. She recognized no wrongdoing on her part and provided no assurances that she would not engage in such conduct in the future. Section 8A(a) of the Securities Act and Section 21C(a) of the Exchange Act provide that the Commission may order any person who has violated any provision of the Securities Act or Exchange Act, respectively, to cease and desist from committing or causing such violation and any future violation of such provision. The evidence establishes that Respondent willfully violated Sections 17(a) of the Securities Act and ==========================================START OF PAGE 60====== Section 10(b) of the Exchange Act and Rule 10b-5 promulgated thereunder. Therefore, I find it proper that the Respondent be ordered to cease and desist from engaging in this conduct in the future. Further, I find that Ms. Canady should be barred from association with any broker or dealer under Sections 15(b) and 19(h) of the Exchange Act. Section 8A(e) of the Securities Act and Section 21C(e) of the Exchange Act provides that the Commission, in any cease and desist proceeding, may order an accounting and disgorgement, including reasonable interest. The Division properly requests that the Respondent be ordered to account and disgorge all ill-gotten gains, including reasonable prejudgment interest, for a total amount of $136,382.28. This amount represents commissions earned on the accounts for the fourteen customers identified herein.-[25]- Respondent argues that ---------FOOTNOTES---------- -[25]-This figure represents disgorgement and interest to and including May 12, 1995. Disgorgement is an equitable remedy designed to deprive a wrongdoer of his unjust enrichment and to deter others from violating the securities laws. SEC v. First City Financial Corp., 890 F.2d 1215, 1230 (D.C. Cir. 1989). Such an equitable remedy can be exercised only over property causally related to the wrongdoing, and may not be used punitively. Id. at 1231. However, the amount of disgorgement need only be a reasonable approximation of profits causally connected to the violation. Id.; see also, Michael David Sweeney, 50 SEC Docket 59, 69 (1991) (payment of disgorgement proper where registered representatives were found to have churned customers' accounts). The Division anticipates that the Respondent will argue that she should be allowed to deduct such expenses as taxes paid and the salary paid to her assistant. However, the Respondent is not entitled to deduct any miscellaneous expenses such as taxes incurred or salaries paid to assistants while the Respondent was the financial consultant for the accounts at issue. Such deductions would allow the Respondent to profit from her fraud. SEC v. Great Lakes Equities Co., 775 F.Supp. 211, 213 (E.D.Mich. (continued...) ==========================================START OF PAGE 61====== the disgorged amount should give her credit for unsolicited trades. I agree and I would expect that in the accounting process such credits will be deducted. ORDER IT IS ORDERED that Laurie Jones Canady be permanently barred from association with any broker or dealer under Sections 15(b)(6) and 19(h) of the Exchange Act. Canady is ordered under Sections 8A(a) of the Securities Act of 1933 and 21C(a) of the Securities Exchange Act of 1934 to permanently cease and desist from committing or causing any violation and committing or causing any future violation of Sections 17(a) of the Securities Act and 10(b) of the Exchange Act and Rule 10b-5 thereunder. Disgorgement and Accounting: Canady is hereby ordered under Sections 8A(e) of the Securities Act and 21C(e) of the Exchange Act to account and disgorge the $136,382.28 consisting of her commissions earned on the accounts for the fourteen customers identified herein less the commissions earned ---------FOOTNOTES---------- -[25]-(...continued) 1991), aff'd without op., 12 F.3d 214 (6th Cir. 1993) (a corporation and its president, which were required to disgorge funds obtained through alleged securities fraud, were not entitled to deduct overhead, commissions and other expenses incurred in the corporation's operation). Accord SEC v. World Gambling Corp, 555 F.Supp. 930, 934-35 (S.D.N.Y. 1983). ==========================================START OF PAGE 62====== on unsolicited trades, plus prejudgment interest.-[26]- Payment shall be made on the first day following the day this initial decision becomes final. The Division of Enforcement shall submit a plan of accounting and disgorgement to this office no later than sixty (60) days after the Respondent has turned over the funds. Pursuant to Rule 17(f) of the Rules of Practice, 17 C.F.R. Section 201.17, this initial decision shall become the final decision of the Commission as to each party who has not, within fifteen days after service of this decision upon the party, filed a petition for review of this decision pursuant to Rule 17(b), unless the Commission, pursuant to Rule 17(c), determines on its own initiative to review this decision as to him. If a party timely files a petition for review, or the Commission takes action to review as to a party, the initial decision shall not become final with respect to that party. ______________________ Glenn Robert Lawrence Administrative Law Judge Washington, D.C. October 31, 1995 ---------FOOTNOTES---------- -[26]-Prejudgment interest shall be computed from the date of the first unauthorized sale of customer stocks until the last day of the month preceding which payment is made. The amount of interest shall be based on the rate of interest established under Section 6621(a)(2) of the Internal Revenue Code (26 U.S.C.  6621(a)(2)), compounded quarterly.