GWG bond debacle reveals limits in investor protection

The defunct Titan Securities, a small broker-dealer based outside of Dallas that closed its doors in June, exemplifies how poorly vetted and potentially dangerous investment products wind up in the hands of mom and pop investors, and how the mission of securities regulators to protect investors needs to improve drastically, and right away.

The products at the center of this latest industry debacle are bonds from GWG Holdings Inc., an out-of-business life settlement firm that is now in bankruptcy. About 40 broker-dealers over the past decade sold close to $1.6 billion in GWG L bonds, so-called because they were backed by life settlements, before the firm declared bankruptcy last year, leaving investors in the lurch.

At the moment, no one knows what the GWG bonds are worth, with some executives and attorneys fearing they could be valued close to pennies on the dollar.

The brokerage industry has a rich history of product failures and blowups, and GWG bonds are now a part of that long list. Investors recently have won arbitration claims from broker-dealers and executives who sold them the bonds, and those firms need to pay up if they want to remain in good standing in the securities industry.

In the case of Titan Securities, not so much. Hardly an industry giant with just $70 million in client advisory assets, the firm, one of the sellers of GWG bonds, opened its doors in 2004 but shut down over the summer.

That means clients who bought GWG bonds from Titan Securities financial advisors and now want to file claims against the firm are out of luck.

Adding to the lunacy of the GWG story, one state regulator recently filed an order against Titan Securities, two months after the firm went out of business, requiring it to repay $20,000 in commissions to clients who had bought GWG bonds.

That will not happen. Titan Securities is already among the departed. It's not footing the bill for its own funeral.

It's one of the absurdities of the securities industry — a securities regulator, in this instance the Texas State Securities Board, telling an out-of-business, potentially penniless broker-dealer to pay clients back the commissions it charged them for a worthless investment. If the tenants have already left the building, who is around to pay to keep the lights on?

Clients unable to collect claims, resulting in unpaid arbitration awards, has been a perennial thorn in the side of the securities industry. The GWG bond claims are likely to be a very prickly issue for regulators over the next 12 to 18 months.

"Several firms that sold GWG bonds have filed for bankruptcy, and we've filed a lot of these claims on behalf of investors," said August Iorio, a plaintiff's attorney. "And two or three we brought claims against have either filed for bankruptcy or simply closed their doors. The regulators are interested in these firms because it appears the evidence is very strong that a lot of them didn't keep up-to-date with changes at GWG."

A key shift in GWG bonds occurred in 2019, when Beneficient Company Group acquired GWG Holdings, according to several attorneys. Beneficient's stated mission was provide liquidity to investors who owned alternative assets, a notoriously illiquid asset class.

Many broker-dealers dropped the ball on their due diligence of GWG bonds after that transaction, according to several attorneys. But where were the regulators?

"We do know the Securities and Exchange Commission was investigating broker-dealers about GWG in early 2021, and state regulators were slow to react to this as well," Iorio said.

According to the Texas Securities Commissioner, Titan Securities in September was assessed an administrative fine of $20,000 and ordered to comply to pay to certain clients an amount equaling the commissions Titan received in connection with clients’ investments in L Bonds issued by GWG Securities.

The Texas order found that Titan failed to follow its firm-imposed requirements that clients indicate a risk tolerance of “aggressive/speculation” to invest in L Bonds and that a client’s investment in L Bonds not exceed certain limits. The firm also bungled its obligations under the new industry sales standard Regulation Best Interest, according to the Texas order.

Clint Edgar, deputy securities commissioner of the Texas State Securities Board, said in an email that he couldn't discuss the Titan Securities matter because it was confidential. The fine the firm was assessed in September was due in 10 days, but Edgar said he couldn't comment on whether Titan Securities had paid it or not.

"Caveat emptor," or buyer beware, remains the guiding rule for all investors. But when it comes to risky alternative investments, securities regulators should start thinking this way as well.

Texas regulators' efforts related to sales of a risky, illiquid alternative investment sound way too little, way too late. Securities regulators must take a more proactive approach to vetting such products. If not, investors will continue to see their retirement savings disappear.

Editor's note: Texas Securities Commissioner Travis Iles confirmed after this column was published on Nov. 14 that clients did see their commission dollars returned from Titan Securities.

“The commissions to two dozen Texas investors have in fact been returned and the separate penalty sum was deposited to the Texas Comptroller,” Iles wrote in an email on Nov. 21. “One could say we robbed the grave.”