Massachusetts Takes on Risky Broker-Dealers That Offer Private Placements

Broker-Dealer Compliance + Regulation

On July 2, 2018, the State of Massachusetts announced that it was investigating 10 broker-dealers that have 15% or more of their agents with current disciplinary incidents and that offer private placements to individual investors.

According to the announcement, the investigation arises in large measure due to a recent Wall Street Journal investigation into these types of firms, which targeted senior investors in particular. The Wall Street Journal’s article on the subject can be found at the following link: In addition, it should be noted that the State of Massachusetts has a reputation for aggressively pursuing brokers that it believes may have engaged in improper sales practices.

Private placements encompass a broad range of financing transactions, including venture capital investments made by “angels,” bespoke complex securities offered to hedge funds and equity offerings made by private companies and small public companies targeting higher net worth individual investors. The Massachusetts initiative appears to be focused on the last category of private placements, where brokers may be incentivized to offer these securities with commissions as high as 10% of the offering price. Due to the higher potential fees and the lack of liquidity generally associated with securities offered through private placements, and because they tend to be less transparent than public offerings, it is not a surprise that such transactions are a focus for regulators.

The fact that a broker-dealer employs agents with a disciplinary history does not necessarily mean that private placements are being sold through improper sales practices or to accounts for which such investments may not be suitable. However, these types of employees, combined with the higher commissions and greater risks often associated with these securities, together could perhaps be viewed by some as “circumstantial evidence” of improper practices. The Wall Street Journal review provides empirical support for this proposition.

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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