Category Archives: News

Department of Labor Fiduciary 60-Day Rule Delays Financial Industry Crunch Time

By | Business Development Companies, Featured Investigations, News, Non-Traded REITs, Non-Traded Securities | No Comments

The new Department of Labor (DOL) Fiduciary Rule that was enacted and scheduled to begin this month on April 10th has been postponed 60 days to June 9th.  Brokerage Firms and Financial Advisors are responsible for compliance with the rules as they are now written.  Keeping in mind that the requirements may be modified or eliminated based on the what happens during the 60-day delay. Klayman & Toskes, P.A. is monitoring the developments and will keep investors posted and provide further updates as they become available.

Best Interest Contract (BIC)

Brokerage firms and financial advisors who recommend investment of retirement funds into investment and insurance products that provide commission-based compensation are subject to Best Interest Contract disclosure requirements.  The BIC requires the disclosure of compensation to the client and the acknowledgement of the Fiduciary Standards, which are met through the recommended investment.

Fiduciary Standards

Under the current DOL Fiduciary Rule, brokerage firms and financial advisors are considered Fiduciaries for all retirement accounts.  Accordingly, the following fiduciary standards must be met:

Avoid Conflicts of Interest

This primarily refers to receiving Commissions on brokerage accounts or compensation paid by Product Vendors.  The BIC allows the payment of commissions to brokerage firms and financial advisors but requires that all other aspects of the fiduciary standards are followed.

Advice Must Be in Client’s Best Interest

A written explanation and proof of “client’s best interest” will be required for every transaction.

Give Prudent Advice

Financial advice must be prudent and suitable based on the clients’ risk tolerance, in the clients’ best interest, have reasonable expenses and pay no more than reasonable compensation.

The DOL Fiduciary Rule recommends two tiers of investments when giving advice on retirement accounts. The second Tier of investments will be prohibited in retirement accounts unless an exception is provided.  The prohibited investments include, Illiquid and difficult to value securities, such as:

About Klayman & Toskes, P.A.

Klayman & Toskes, P.A. is dedicated to the protection of investor rights and the recovery of investment losses in retirement accounts that are the result of violations of FINRA sales practice rule and regulations.



Texas E&P Partners Expelled By FINRA for Misconduct Related to Chestnut Exploration Partners

By | Featured Investigations, News | No Comments

Released March 2017

Texas E&P Partners, Inc. fka Chestnut Exploration Partners, Inc. (CRD #127228 , Richardson, Texas) and Mark Allan Plummer (CRD #4608699 Richardson, Texas).

The firm was expelled from FINRA® membership. Plummer was barred from association with any FINRA member in any capacity and ordered to pay $ 513,961, plus interest, in restitution to customers. The sanctions were based on findings that Plummer misused customer funds by misusing the portion of a completion assessment (certain assessments that were levied on investors for prospective oil and gas well investments) attributable to a prospective well. The findings stated that Plummer collected funds for one purpose—well completion—following a vote by investors and did not use that portion of the funds pertaining to a prospective well for that purpose. Plummer never received permission to use that portion of the assessed funds for other purposes and to date has not repaid those funds to investors (except for settlement payments made to three investors). The findings also stated that the firm had insufficient written supervisory procedures (WSPs). The firm’s business involved acting as a placement agent in connection with investment offerings involving its affiliates, and its supervisory system failed to address conflicts of interest in such offerings.

The findings also included that the firm produced an altered document regarding prospective oil and gas investments to FINRA during its investigation. Plummer intentionally altered the document prior to providing it to FINRA. The firm’s chief compliance officer (CCO) had witnessed the alteration and nevertheless produced the document to FINRA without disclosing its falsity. Plummer acted unethically or in bad faith by falsifying, and thereby rendering misleading, the document that he knew the firm was going to provide to FINRA in connection with its investigation. Plummer also gave false and misleading testimony concerning the document at his FINRA on-the-record interview, and did so intentionally or, at a minimum, recklessly. The Hearing Panel determined that FINRA failed to prove that the firm and Plummer engaged in fraud and made misrepresentations and omissions in connection with the sale of joint venture interests, or that the firm improperly collected or misused customer funds or otherwise acted unethically. Accordingly, those charges were dismissed. (FINRA Case #2014040501801)

Source: FINRA, Financial Industry Regulatory Authority, Inc. 2017
Full Disciplinary Reports Available to the public at:


Another Investor Lawsuit Filed Over Puerto Rico Bonds

By | FINRA Sales Practice Violations, News, Puerto Rico Bond Funds, Regulator Disciplinary Actions, Securities Arbitration | No Comments
Caribbean News

January 16, 2017
SAN JUAN, Puerto Rico — A securities arbitration law firm on Friday filed a claim against UBS Financial Services Inc. of Puerto Rico and UBS Financial Services, Inc. (collectively “UBS”) for $8.5 million.

According to the claim, the claimant entrusted assets to UBS with the investment objective of capital preservation. However, UBS ultimately concentrated the account in Puerto Rico government bonds (PRGBs) and its proprietary Puerto Rico closed-end bond funds (UBS PR CEBFs), which are leveraged and concentrated in PRGBs.

UBS purchased and held for the claimant PRGBs and UBS PR CEBFs, both of which are closely tied to the performance of Puerto Rico’s economy. The claimant believed the purchases were consistent with their low risk tolerance. However, the over concentration in these PRGBs and UBS PR CEBFs was fraught with excessive risk given the claimant’s investment objective and risk tolerance.

UBS failed to disclose to the claimant the risks associated with over concentrating the account in these securities. Had this information and the true nature of the risk of the recommended allocation been known to the claimant or properly disclosed, he would not have invested his assets in these products.

The law firm representing the claimant, Klayman & Toskes, in conjunction with Carlo Law Offices, is currently investigating, on behalf of their clients, the sales practices of UBS in connection with investment recommendations provided to their customers.



Wells Fargo Advisors Targeted by Plaintiff Attorneys

By | Blog, Featured Investigations, News | No Comments

Published by Financial Advisor IQ

October 12, 2016

Allegations of improper cross-selling methods at Wells Fargo continue to spread into its advisor business following the retail bank’s settlement with and subsequent grilling by regulators. One law firm has launched an investigation into whether cross-selling practices at Wells Fargo Advisors broke Finra rules.

Securities law firm Klayman & Toskes, which represents retail and institutional investors, says it’s looking into possible Finra violations at Wells Fargo Advisors similar to the allegations reported last week in the Charlotte Observer.

The Observer was approached by several former clients and a former manager at Wells Fargo Advisors who said aggressive cross-selling tactics similar to the ones at the bank’s retail division were also in place at the brokerage, as reported previously. Questions about Wells Fargo Advisors’ practices followed revelations that over 5,000 employees in the bank’s retail banking division had opened 2 million fake accounts, which resulted in a $190 million settlement with regulators, as reported previously.

Klayman & Toskes is investigating whether Wells Fargo Advisors engaged in unsuitable recommendations, misrepresentations and omissions of material facts, failure to supervise and breach of fiduciary duty, the law firm says in a press release.

The investigation zeroes in on whether Wells Fargo retail customers were pressured into opening investment accounts with the brokerage arm through high-pressure incentivized sales practices, Klayman & Toskes says in its release. The firm’s founder, Lawrence Klayman, says investors’ rights may have been violated and led to unsuitable recommendations, all at a time when the bank boasted of its cross-selling prowess publicly to shareholders. The law firm has put out a call to investors for information about the brokerage’s sales practices.

Wells Fargo, meanwhile, is now facing a federal class-action lawsuit filed in Minnesota, local ABC affiliate KSTP reports.

The suit alleges that the bank’s executives — who were at fault for the “criminal epidemic” that resulted in the creation of two million fake accounts, according to the suit — also endangered Wells Fargo employees’ retirement plans, the television news’s website writes. Adam Levitt, an attorney with Grant & Eisenhofer, says his law firm’s suit will seek damages tied to losses in the employees’ retirement accounts that were allegedly “largely tied to Wells Fargo stock,” writes.

Finra Suspends and Fines former Wells Fargo advisor

In other news, Finra has suspended a former Wells Fargo advisor who allegedly failed to follow the company’s verification procedures when she transferred $350,000 from a customer account to a fraudster, the regulator says.

Wells Fargo Advisors Financial Network fired Kathleen Kincade in January, after she was apparently duped in a phishing scam by an imposter who had hacked a client’s email account. Kincade has said that she had received verbal verification from the client when in fact she hadn’t, according to the regulator.

Wells Fargo was able to reverse one of the three transfers and reimbursed the client for the remaining funds, Finra says.

Kincade received a 30-day suspension and a $5,000 fine, according to the regulator.

By Alex Padalka

Law and Justice building.

Puerto Rico Residents with Morgan Stanley Brokerage Accounts: The Securities Arbitration Law Firm of Klayman & Toskes, P.A. Continues to Pursue FINRA Arbitration Claim Against Morgan Stanley for Sales Practices Violations

By | Blog, Featured Cases, News | No Comments

San Juan, Puerto Rico (HISPANICIZE WIRE) – September 30, 2016 – The Securities Arbitration Law Firm of Klayman & Toskes¸ P.A. (“K&T”),, continues to pursue FINRA arbitration claim [FINRA Case No. 14-01090] against Morgan Stanley (NYSE: MS) for sales practices violations in light of information disclosed in $4.7M settlement the firm reached with the state of Mississippi evidencing the firm’s mishandling of critical client profile information.

The consent order contains details of the settlement between Morgan Stanley and the state of Mississippi which suggests that client investment objective and risk tolerance information were entered incorrectly while transferring numerous client accounts from Smith Barney to Morgan Stanley. According to the consent order, “in order to transfer the accounts from Smith Barney to Morgan Stanley, new customer information was required to be entered into Morgan Stanley’s system. This information included customer investment objectives, risk tolerances, financial and other personal information used, in part, to aid in the determination of whether certain investments ….were suitable for the customer.”

According to securities attorney Lawrence L. Klayman, “Our investigation is focused on whether Morgan Stanley and its brokers conducted reasonable diligence for its Puerto Rican customers to ascertain their appropriate investment objective and risk tolerance.  The sales practice violations uncovered by the state of Mississippi appear to be consistent with the violations our firm is investigating for Morgan Stanley clients from Puerto Rico.”  Mr. Klayman continues, “We are also investigating whether Morgan Stanley failed to supervise its brokers in conjunction with potentially unsuitable investment advice being made to clients from Puerto Rico, despite incorrect or inaccurate information contained in their investment profile.”

The sole purpose of this release is to investigate, on behalf of our clients, the sales practices of Morgan Stanley in connection with unsuitable recommendations being made by its brokers.  Current and former customers of Morgan Stanley from Puerto Rico who have information related to our investigation are encouraged to contact Lawrence L. Klayman, Esq. or Raymond Gentile, Esq. of Klayman & Toskes at (888) 997-9956, or visit our website at

AEELA throws UBS under the Bus for the Management of Puerto Rico Government Bond

By | Featured Cases, News, Puerto Rico Bond Funds, Securities Arbitration | No Comments
August 4, 2014

From 2010 to 2012 there was an increase of $ 50 million to over $ 300 million in the amount of assets of the Association of Employees of the Commonwealth (AEELA) managed by UBS, among these, bonds of the Corporation for Public Financing (PFC, for its acronym in English).

PFC bonds, maturing in early August, will be the first default in the history of the Government of Puerto Rico.

During that period, UBS AEELA acquired for about $ 179 million in bonds of Puerto Rico, which increased to $ 212 million the amount of related financial instruments of Puerto Rico in AEELA portfolio investments. This increase resulted in an increase in the concentration of assets in bonds AEELA Puerto Rico from 14% in 2010 to 30% in 2012.

The executive director of the organization, Claudio Paul Crespo said in a press release that “part of this additional investment in bonds, UBS was made AEELA acquiring for Puerto Rico bonds that were in your own portfolio. These bonds, which were transferred from the portfolio of UBS AEELA portfolio, remained lower than that of other instruments available in the credit rating market. In addition, UBS recommended AEELA purchase long-term bonds, which increased based on the fluctuation of interest and value of risk assets “.

He added that the investment portfolio by UBS AEELA proposal was substantially more risky than the “Barclays Aggregate Bond Index,” which was the model used for UBS investment AEELA. “UBS recommended to AEELA riskier than those in the investment model that these represented AEELA investments that were to follow,” he said.

The April 18, 2014, the Association lodged a complaint against UBS in the amount of $ 65.7 million. That complaint is based on actions that resulted in UBS alleged false representations, omissions, breach of contract, violation of fiduciary duty, unsuitable investment recommendations, neglect of portfolio diversification, negligent supervision of its employees, fraud, violations of the Financial Industry Regulatory Authority (FINRA), violations of the laws and regulations on investment and violations of the laws of Puerto Rico.

This claim was filed with FINRA in the US through the law Carlo Law Offices, PSC, represented by Mr. Osvaldo Carlo Linares, and Klayman & Toskes, PA, represented by Mr. Steven D. Toskes. “The law considers that the claim of AEELA is solid, it is based on a thorough study of investments and the applicable law,” said the Executive Director.

Association also referred three cases to the Justice Department on events in AEELA during the same period 2010-2012, among these purchases without auctions, possible violations of law and other irregularities linked to the Vacation Center Playa Santa, the program savings and loan origination system.

“As part of our commitment, we have assumed the duty to work for an impeccable administration, consistent with an institutional vision of sound administration. Employees and pensioners of the government of Puerto Rico can be confident that we have taken the steps to provide stability to the association and strengthen its financial position for the benefit of the heritage of all owners partners so that their savings will continue to grow and can receive no problems the services and benefits they so desperately need, “said Claudio Crespo.

AEELA has it taken steps to prevent the fiscal situation of the government affect the financial stability of the institution and its thousands of owners partners cleared.

The Securities Arbitration Law Firm of Klayman & Toskes, PA Announces Investigation into Virtus AlphaSector Funds Managed by F-Squared Investments

By | Featured Cases, News, Securities Arbitration | No Comments

Boca Raton, Florida (GLOBE NEWSWIRE) June 25, 2015 — The securities arbitration law firm of Klayman & Toskes, P.A. (“K&T”),, announced an investigation into sales practices related to investments in Virtus AlphaSector® Funds sold and marketed by brokerage firms and registered investment advisors (RIAs).  Virtus AlphaSector® Funds were managed by sub-advisor, F-Squared Investments.  F-Squared Investment has been the subject of Securities Exchange Commission (SEC) investigations into how F-Squared Investments’ historical performance had been calculated and misrepresented to investors.

According to the SEC, F-Squared Investments as part of a $35 million fraud settlement, admitted to the SEC fraud allegations.  The SEC charged co-founder Howard Present, and former chief executive, with making false and misleading statements to investors.  The SEC findings determined that investors were misled about historical performance and sales literature concerning mutual funds and separately managed accounts (SMA) by sub-adviser, F-Squared Investments recommended by Brokerage Firms and RIAs.

The Virtus Investment Partners Funds that offered investment strategies managed by sub-adviser, F-Squared Investments are as follows:

  • Virtus Dynamic AlphaSector®  (EMNAX),
  • Virtus Allocator Premium AlphaSector® (VAAAX),
  • Virtus AlphaSector® Rotation (PWBAX),
  • Global Premium AlphaSector®  (VGPAX), and
  • Premium AlphaSector® (VAPAX).  

Effective May 14, 2015, Virtus AlphaSector® Funds underwent a name change to Virtus Equity Trend. This change was due to the adviser, Virtus Investment Advisers, Inc., terminating the sub-advisory agreement with F-Squared Investments.

F-Squared Investments advised funds available to investors through mutual funds or SMA accounts were sold and marketed by brokerage firms and RIAs including, but not limited to, the following:

  • Ameriprise SPS Advantage
  • AssetMark, Inc.
  • Ausdal Financial Partners, Inc.
  • LPL Financial
  • RBC Wealth Management
  • Raymond James Financial, Inc.
  • Schwab Institutional
  • Stifel Nicolaus
  • UBS Financial Services
  • Wells Fargo Advisors

According to K&T founding partner, Lawrence L. Klayman, “Investors were misled by sales materials which contained fraudulent information about historical performance to garner investor business.” Mr. Klayman explains brokerage firm and RIA obligations, “In order to make suitable investment recommendations you must have knowledge of the investment manager, if the historical performance numbers are fraudulent, someone needs to be held accountable to investors.”

About Klayman & Toskes

K&T is currently investigating Financial Industry Regulatory Authority (FINRA) sales practice violations of brokerage firms and RIAs concerning Virtus AlphaSector® Funds and SMA accounts advised by F-Squared Investments. If you have knowledge or experience related to sales practices of brokerage firms and RIAs that recommended investments managed by F-Squared Investments, please contact Steven D. Toskes, Esq. of Klayman & Toskes, P.A., at 888-997-9956 or visit us on the web at



National Senior Investor Initiative Report Points To Need For Elder Financial Fraud Protection

By | Blog, Featured Investigations, News, Securities Arbitration | No Comments

A recent report published by securities industry regulators concerning brokerage firm examinations in 2013 that led to important insights concerning brokerage firm sales practices directed towards senior investors.  The information gathered from examinations conducted by SEC and FINRA regulators was published in the National Senior Investor Initiative Report which draws from detailed statistical analysis of brokerage firms and the investment recommendations made by the financial advisors they are charged to supervise.  The staff researchers who compiled the data provided insightful explanation of the economic and securities market conditions since the credit crisis which has created the risks and perils faced by senior investors.

Since the credit crisis in 2008-2009, the Federal Reserve Board has maintained a historically low interest rate monetary policy to stabilize the U.S. economy and financial system. One result of the dramatic decline in interest rates has created a bubble in the price of long-term bonds and greatly reduced the interest paid on liquid deposits, time deposits and intermediate-term bonds, including treasury and municipal issues. As a result, most senior investors have experienced a significant decline in the income from investments they have traditionally relied upon.

Regulatory Staff Members Voice Concern

 The historically low yields paid on conservative income-producing investments has created an environment conducive to the recommendation of more complex, and possibly unsuitable, securities to senior investors as a means of replacing the lost income sources. According to regulatory staff writers, “Staff is concerned that, after a lifetime of accumulated savings, senior investors may meet the financial and risk threshold requirements to invest in more complex financial securities and that broker-dealers may be recommending unsuitable transactions to these senior investors or may not be providing proper and understandable disclosures regarding the terms and related risks of those recommended securities, particularly non-traditional investments.” With the low interest rate environment as an economic backdrop regulators examined whether broker firms were recommending riskier and potentially unsuitable securities to senior investors looking to enhance retirement income or that senior investors may be making financial decisions without full disclosure of all relevant information.

Report Findings

 In connection with the examinations, regulators met with groups interested in the protection of senior investor rights with representatives from the Consumer Financial Protection Bureau; the AARP Education and Outreach Group; and state regulators from Florida, Colorado, California, Texas, and North Carolina. The purpose was to identify risks to senior investors that the industry groups and government agencies had observed, especially in geographic areas known to have large numbers of senior investors. The majority of these groups expressed serious concerns about the unsuitable recommendation of high-risk securities, particularly the sale of non-traditional, complex investments to senior investors.

According to National Senior Investor Initiative Report, the examination results determined the top revenue-generating transactions recommended to senior investors by brokerage firms as follows:

1) Open-end mutual funds at 77% of the firms;

2) Variable annuities at 68% of the firms;

3) Equities at 66% of the firms;

4) Fixed income investments at 25% of the firms;

5) UITs and Exchange Traded Funds at 20% of the firms;

6) Non-traded REITs at almost 20% of the firms;

7) Alternative investments such as options, BDCs, and leveraged inverse ETFs at

approximately 15% of the firms; and

8) Structured products at 11% of the firms.

Fair and Balanced Communications

Brokerage firms must be fair and balanced, and must provide a sound basis for evaluating the facts in regard to any recommended security or type of security, industry, or service. Financial advisors may not omit any material fact or qualification if the omission, in light of the context of the material presented, would cause the communications to be misleading.  According to National Senior Investor Initiative Report, “Staff observed what appeared to be inaccurate or incomplete disclosures primarily related to non-traditional securities such as variable annuities and REITs.”

Suitable Recommendations

Broker-dealers generally have an obligation to recommend only those specific investments or overall investment strategies that are suitable for their customers. The concept of suitability is codified in the FINRA sales practice rules and regulations and is considered a brokerage firm obligation under the antifraud provisions of the federal securities laws designed to address the problem of elder financial fraudAccording to National Senior Investor Initiative Report, “Staff found that firms made more potentially unsuitable recommendations for non-traditional securities such as variable annuities, structured products, and REITs than for more traditional securities such as open-end mutual funds, equities, and fixed income investments.”


In such a low interest rate environment, brokerage firms are recommending non-traditional, more complex investments to senior investors.  Brokerage firms that recommend non-traditional, complex securities to senior investors, such as variable annuities, ETFs, REITs, alternative investments, have heightened responsibility to supervise its financial advisors. Brokerage firms must have a reasonable basis to believe that a recommended transaction or investment strategy is suitable for a senior investor based on the individual’s investment profile.

Klayman & Toskes, P.A. is dedicated to the rights of senior investors and strongly believes that when investors retire and have to decide what to do with their retirement funds, they seek advice from financial advisor with the expectation that the advice they receive will be in their best interests.  Securities industry regulators have enacted laws to protect senior investors against elder financial fraud.  Klayman & Toskes, P.A. represents senior investors in elder financial fraud cases to recovery investment losses.

Proposed Rule Change Protect Investors Retirement Funds From Abusive Brokerage Firm Sales Practices

By | Blog, Featured Investigations, News, Securities Arbitration | No Comments

The proposed rule change proposed by the Department of Labor (DOL) are directed towards a multi-trillion dollar industry IRA Rollover industry from employer sponsored retirement plans to accounts held with brokerage firms. The new rule will afford IRA account holders the same protections when the funds were held in a company 401(k). For financial advisors who receive commissions from investments they sell, the recommendations would be required to meet a higher fiduciary standard.
The higher standard referred to by the DOL rule change is known as the fiduciary standard. A financial advisor who provides investment advice in compliance with the new fiduciary standard is required to act in their client’s best interests, including the avoidance of any conflicts of interest and to provide full disclosure of any business relationships which represent potential conflicts of interest. The DOL’s new proposed rule will create a financial advisor’s fiduciary duty for transactions that include, any recommendation to take a distribution from a company retirement plan as an IRA rollover, or keep the retirement account balance with the company retirement plan because it is in the client’s best interest. Any breach of the fiduciary duty by the financial advisor with result in a Financial Industry Regulatory Authority (FINRA) sales practice violation. The DOL rule will be the first federal regulation to broaden the fiduciary standard to include 401(k) or employee plan rollovers and IRAs. Under current laws commissioned-based financial advisors are only held to the suitability standard rather than the fiduciary duty which provides greater investor protections.
Under the new rule brokerage firms and its financial advisors have to disclose whether putting their money in an investment vehicle, such as an IRA Rollover into a variable annuity would have higher fees. A commission-based financial advisor would require written contracts clearly stating any fees, conflicts of interests and provide information to increase transparency so that clients would know the differences in costs between alternative investments. The most instances, investment recommendations by financial advisors are motivated by differences in compensations which lead to conflicts of interest which must be disclosed to protect investo rights. If it is not in the client’s best interest to move the retirement funds out of the employer-sponsored plan, under the new DOL rules it should be left alone. The profit motives of firms cannot and should not drive the decision to move an investor’s retirement savings out of the employer-sponsored plans. There is a real retirement crisis in the United States with the foundation of Social Security uncertain, IRA accounts are relied upon more than ever. The intention of regulators is to take the money out of financial advisors’ pockets and put the money back into retirement accounts where it belongs.
Klayman & Toskes, PA is dedicated to the rights of investors and strongly believes that when investors retire and have to decide what to do with their retirement funds in their employer-sponsored retirement plan, they seek advice from financial advisor with the expectation that the advice they receive will be in their best interests. Under the new DOL rule, when investors are advised to move their money into IRA rollover accounts managed by a financial advisor, it is essential that the brokerage firms and its financial advisors are held to the highest standards to help protect the retirement savings of Americans everywhere.

Why Puerto Rico Investors Pursuit of Tax Free Income Led to Financial Ruin

By | Blog, Featured Investigations, News, Securities Arbitration | No Comments

UBS Financial Services of Puerto Rico and its financial advisors have placed investors in great peril chasing tax-free income through investments in UBS Puerto Rico Family of Funds without regard to the risks and consequences of their investment advice. This lesson should have been learned by financial advisors during the mortgage meltdown. Before the credit crisis investors flocked to Mortgage Backed Securities (MBS) because of the yield and great credit ratings. How could you lose chasing the higher yields paid by MBS investments? In the pursuit of greater after-tax income, Puerto Rico investors were duped by their financial advisors with a false choice rationale through a comparison between “tax free” vs. “taxable” income. In this instance, tax-free income for Puerto Rico residents meant risky investments in the tiny island economy to achieve the tax free income. How could someone ignore such a risk? Usually, greater after-tax income is a “good thing”, but not at the expense of concentrating your investment portfolio in Puerto Rico issued bonds, this pursuit should have been a “red” flag. This lesson should have been learned from the credit crisis in 2008-2009, but again the risk was completely ignored.

Chasing Yield Is Not A Good Choice

So what made the UBS Puerto Rico Family of Funds such a bad bond fund investment? Any one factor might not have been a cause of concern, but there were enough red flags that UBS Financial Services of Puerto Rico, through its sales force and other brokerage firms with selling agreements, should have known that chasing after-tax yield should not have been the advice given to Puerto Rico investors. In fact, the primary reason given to Puerto Rico investors for the investment recommendations was the high tax rates they faced and that tax-free Puerto Rico bonds was the only way to avoid taxation. For Puerto Rico investors, the proverbial tax tail was wagging the investment dog. The universal bond investor axiom was ignored, “that there is no free lunch”. In other words, there is no “extra” source of return that is not accompanied by greater risk. Sometimes it’s as obvious as credit risk borne by a tiny island Commonwealth reliant on tourism and few industries as a revenue base; sometimes it’s a lack of liquidity. But it’s always exists, unless hidden and obscured by zealous sales pitches by trusted financial advisors. Naturally, Puerto Rico bond funds that yield the most “after-tax” income will attract a lot of Puerto Rico investor attention, unless financial advisors can be trusted to temper this pursuit with suitable investment advice. New lesson here, bond funds that get into the biggest trouble are most often those with the greatest “after-tax” yields.

Geographic Concentration and Lack of Liquidity

What is securities concentration? It exists in a municipal bond fund with exposure to a limited number of issuers, single sectors and single state. UBS Puerto Rico Family of Fund investments were exposed to all of these risk factors. Concerning these UBS proprietary closed-end bond funds, too much of a “good thing” was no different than having “all of your eggs” in one basket. UBS Financial Services of Puerto Rico Puerto lauded the Commonwealth’s good credit ratings, as justification for geographic concentration when in the past such reasoning led many subprime-mortgage investors to financial destruction. Lack of liquidity for the non-traded, illiquid UBS proprietary closed-end bond funds requires, if not demand, limiting the exposure to an investment that cannot be sold. Most brokerage firms place limits on the amount a client can invest in illiquid investments such as non-traded Real Estate Investment Trusts to 10-15% of an investors net worth. Contrary to this standard, UBS Financial Services of Puerto Rico’s financial advisors recommended investing the vast majority of their client’s assets in tax free Puerto Rico bonds through UBS’ proprietary non-traded closed end bond funds.

When Does Leverage in Bonds Fund Make Sense?

Almost never! In past years the use of leverage in bond funds was diametrically opposed to the notion of safety of principal. Why introduce risk into bond fund investments that are supposed to be deemed suitable for conservative investor’s need for current income? Leverage in any investment portfolio, even bond funds, are designed to magnify gains, but also losses, thus making your investment more volatile. Being able to amplify investment returns is not always bad, but the more leverage you use, the more risk you take. Some money managers justify using leverage to skew investment returns during periods of rising markets, but the UBS Puerto Rico Family of Funds employed 50% leverage as a permanent measure which almost certainly assured wild swings in value. While the Prospectus disclosures only illustrated the effects of leverage should the underlying assets decline by only 10%. No wonder everyone including UBS Financial Services of Puerto Rico was in shock when roughly $10 billion in their proprietary closed-end bond funds lost a majority of its value.

Higher Costs Assume More Risks

Compared to most closed-end bond funds, UBS Puerto Rico Family of Funds had operating expenses and management fees that were so high that some argue the use of leverage was necessary to generate the higher yields needed to offset closed-end fund costs. Higher fund costs, in turn,  require exposure to greater risks which made this investment strategy unsuitable for most conservative investors interested in current income.  The domino effect becomes clear when costs are taken into consideration.  Managers who have to cope with higher expense ratios have added pressure to assume more risk.

What Can Be Done to Avoid Investment Mistakes

There are a few pitfalls investors should consider to avoid investment mistakes. First, avoid concentrated investments in any type single type of security. Minimize exposure to any single issuer, sector, geographical region, or type of financial product. Second, avoid leverage justified by any promise of higher returns. The more leverage you use, the more risk you take. Beware of the use of derivatives in lieu of borrowing which magnify gains and losses alike. Third, avoid higher costs whenever possible unless there is an indispensible reason for the strategy to incur the additional fees and costs. The costs of leverage, derivatives and transaction costs all increase the breakeven point for an investment strategy which requires greater investment risk. Fourth, avoid investment strategies that are unconventional to gain incremental investment returns by accepting more risk.

Klayman & Toskes, P.A. is dedicated to the recovery of Puerto Rico investor losses in UBS Puerto Rico Family of Funds that are the result of violations of FINRA sales practice rule and regulations.

Do you have a question or need more information? Get in touch with us