FINRA released regulatory notice 21-03, FINRA Urges Firms to Review Their Policies and Procedures Relating to Red Flags of Potential Securities Fraud Involving Low-Priced Securities, discussing issues with these securities offerings and fraud. Specifically, including those involving COVID-19 and cannabis related businesses, which appear to have been part of potential pump-and-dump or market manipulation schemes that target unsuspecting investors.

In the notice, FINRA states that “Low-priced securities tend to be volatile and trade in low volumes. It may be difficult to find accurate information about them. There is a long history of bad actors exploiting these features to engage in fraudulent manipulations of low-priced securities. Frequently, these actors take advantage of trends and major events — such as the growth in cannabis-related businesses or the ongoing COVID-19 pandemic — to perpetrate the fraud.”

Areas to Focus on

FINRA highlights 4 major areas that firms should focus on strengthening and improving, as well as providing information on how to do so to mitigate potential fraud involving low-priced securities. These 4 areas are as follows:

  • Detection: The Notice describes possible red flags of potentially fraudulent low-priced securities activity;
  • Monitoring: The Notice describes selected effective supervisory and other control practices FINRA has observed firms implement;
  • Suspicious Activity Report (SAR) filing: The Notice describes firms’ SARs filing obligations; and
  • Fraud Reporting: The Notice describes additional avenues for firms to report potential fraud involving low-priced securities.

Detection

The notice provides examples of potential red flags intended to help inform firms about activity associated with potential fraud involving low-priced securities, including, but not limited to, schemes involving COVID-19 claims.

Monitoring

In this section, FINRA reviews some of the measures they observed firms implementing in effective supervisory systems to mitigate risks associated with fraud involving low-priced securities. While its not an exhaustive list, it does cover some important areas such as supervision of associated persons, account and share acceptance, account monitoring, and a couple of other controls they felt were worth sharing.

Suspicious Activity Report (SAR) Filing

FINRA Rule 3310(f) and 31 CFR 1023.210(b)(5) require that member firms’ AML programs include appropriate risk-based procedures for conducting ongoing customer due diligence, including procedures for conducting ongoing monitoring to identify and report suspicious transactions to FinCEN using SARs.

Fraud Reporting

Beyond the filing obligations discussed above, FINRA urges firms to protect customers and other firms by immediately reporting potential fraud involving low-priced securities to one or more of the following:

For firms that engage in low-priced securities business, FINRA recommends reviewing a SEC Staff Bulletin, Risks Associated with Omnibus Accounts Transacting in Low-Priced Securities. This bulletin highlights various risks arising from illicit activities associated with transactions in these securities through omnibus accounts, particularly transactions effected on behalf of omnibus accounts maintained for foreign financial institutions for broker-dealers.

For assistance developing and maintaining controls for safely engaging in low – priced securities business, please contact us. MasterCompliance provides expert consulting, outsourcing, and implementation tools in planning and budgeting your firm’s compliance responsibilities.