NYSE Regulation, Inc. Fines Van der Moolen Specialists USA, LLC $3.5 Million For Stock Loan Violations

NYSE Regulation, Inc. announced today that it has censured and fined Van der Moolen Specialists USA, LLC (“VDM”), a member firm, $3.5 million for the misconduct of its stock loan department, which has since been closed, and for related supervisory deficiencies and books and records violations. During the relevant period, the stock loan department engaged in numerous transactions at away-from-market rebate rates, and made payments to finders who performed no legitimate business function.

“Van der Moolen’s complete lack of supervision of its stock loan business resulted in millions of dollars in fees being improperly channeled to finders who did nothing to earn them,” said Susan L. Merrill, chief of enforcement, NYSE Regulation, Inc. “Firms must ensure that services are being engaged for bona fide business purposes, and must have independent controls to verify that services paid for have actually been performed.”

This disciplinary action concerned violations of Section 17(a) of the Securities Exchange Act of 1934 and Rules 17a-3 and 17a-4 thereunder, and NYSE Rules 342, 440 and 476(a)(6).

In a typical stock loan transaction, financial institutions that borrow and lend securities communicate directly, obviating the need for a third party to assist in locating securities (a “finder”). The insertion of a finder in a transaction where his services are not required, and where none are rendered, has the effect of unjustifiably and inappropriately increasing the cost of the transaction to the borrower, and/or depriving the lender of income to which it is entitled on the transaction. See also: NYSE Information Memo 05-32, “Stock Loan Finders"  (Apr. 29, 2005).

From January through December 2004, the co-department heads and employees of VDM’s Stock Loan Department borrowed securities from complicit counterparties at rebate rates significantly below the prevailing market rebate rates for those securities, and then loaned those securities to third parties at higher rebate rates including market rates. The difference between the below-market rates at which the securities were borrowed and the higher rates at which the securities were loaned represented the firm’s gross revenues on these transactions.

The firm retained a portion of these revenues and paid significant portions to purported finders who performed no function in those stock loan transactions and in most instances were relatives or friends of employees at the complicit counterparties.

The firm generated revenues on virtually every away-from-market stock loan transaction and every other stock loan transaction in which it made a payment to a finder. The firm was selected as the counterparty in these transactions because it was known that certain employees of VDM’s Stock Loan Department were willing to engage in away-from-market stock loan transactions and make unjustified payments to finders.

The firm cumulatively paid millions of dollars in unjustified finders fees to friends and family of complicit counterparties. In some transactions, finders were paid as much as 1,400 basis points on contracts when most finders would normally receive 25 basis points or less. The firm routinely paid finders hundreds of basis points on each contract and in many instances the amount paid far exceeded the firm’s retained revenue on the transaction.

The firm did not have any written agreements with finders defining the services to be provided by the finders or the fees to be paid for those services, nor did the firm receive invoices for services rendered from any finders. Nonetheless the firm paid approximately 29 finders a total in excess of $2.65 million in connection with stock loan transactions.

The firm failed reasonably to supervise the activities of its Stock Loan Department, and the firm’s books and records were inaccurate in that they misrepresented the purpose of the payments to the purported finders. The Hearing Board Decision (No. 06-91)  also noted the immediate remedial actions taken by the firm, including the cessation of employment of those involved in this activity and those with supervisory responsibilities.

The violations were first detected by the Member Firm Regulation Division of NYSE Regulation during special examinations, and then referred to the Division of Enforcement for further investigation.
In settling these charges brought by NYSE Regulation, Van der Moolen Specialists USA, LLC neither admitted nor denied the charges.