FINRA has censured and fined UBS Financial Services Incorporated of Puerto Rico (UBS PR) $7.5 million for supervisory failures related to the suitability of transactions in Puerto Rican closed-end fund (CEF) shares. In addition, FINRA ordered UBS PR to pay approximately $11 million in restitution to 165 customers who were forced to realize losses on their CEF positions.
According to their News Release, FINRA found that for more than four years, UBS PR failed to monitor the combination of leverage and concentration levels in customer accounts to ensure that the transactions were suitable given the customers' risk objectives and profiles. The firm failed to implement a reasonably designed system to identify and prevent unsuitable transactions in light of the unique Puerto Rican economy, in which retail customers typically maintained high levels of concentration in Puerto Rican assets and often used those highly concentrated accounts as collateral for cash loans. Despite UBS PR's knowledge of these common practices, it failed to adequately monitor concentration and leverage levels to identify whether certain customers' CEF transactions were suitable in light of the increased risks in their existing portfolio.
In this case, UBS PR solicited certain customers to open lines of credit (LOCs) collateralized by their securities accounts. If the customer's account value fell below the required collateral level, the customer received a "maintenance call" and was required to deposit additional assets or liquidate securities to meet the call. Where an LOC is collateralized by a diversified account, a customer may have a variety of securities that s/he can liquidate to meet a maintenance call. However, the risk of investor loss is increased when an LOC is collateralized by a highly concentrated account – and due to the unique benefits of Puerto Rican assets for Puerto Rican residents, UBS PR customer accounts were typically highly concentrated in CEF shares. The market events of Aug. 2013 caused the value of many CEF shares to plummet, and customers who received maintenance calls were forced to realize substantial losses in order to meet them.
The Securities and Exchange Commission (SEC), also filed action against UBS PR for the firm's failure to supervise a former broker who had customers invest in CEFs using money borrowed pursuant to lines of credit. UBSPR agreed to settle SEC's charges by paying $15 million in disgorgement, interest, and penalties, which will be placed into a fund for harmed investors.
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