Brokers who filed complaint face uphill fight

The five registered representatives who filed a $36 million arbitration claim against National Financial Services LLC, a giant in the clearing industry and business unit of Fidelity Investments, face a daunting task to win their claim, according to industry attorneys. The group was at the center of the collapse of Brookstreet Securities Corp. of Irvine, Calif., last summer. This month they filed the complaint against National Financial of Boston, Brookstreet's former clearing firm. The brokers allege that hundreds of millions of dollars that its clients lost in highly leveraged collateralized mortgage obligations were "directly attributable to [National Financial's] wrongful conduct," according to the complaint.
The registered representatives, Madelyn Betta, William Betta, Alex Dickson, Stephanie Dow and Clifford Popper, will likely have difficulty winning their case, one in--dustry attorney said. A key issue is that many of the clients used margin loans to purchase the CMOs. "The laws and rules governing margin exist for the firm's protection, not the customers'," said David Jarvis, general counsel for GunnAllen Financial Inc. of Tampa, Fla. "These CMOs were collateral for loans, and National Financial is not at fault for the market reacting" and causing any price change in the securities, he said. In general, securities arbitration claims versus. third parties such as clearing firms or accounting firms are "very difficult" for claimants to win, said Brian Rubin, a partner in Washington for Sutherland Asbill & Brennan LLP. The brokers' complaint, filed with the New York- and Washington-based Financial Industry Regulatory Authority Inc. on April 2, also claims that National Financial "acted irrationally, in bad faith and fraudulently when it engaged in the wide-scale, fire sale, forced liquidation" of CMOs from client accounts last June.

LOTS OF ALLEGATIONS

The claim also alleged that National Financial "created profits for its affiliates and close business relationships," as it allegedly "engaged in self-dealing and other less-than-arm's-length deals when liquidating at least some of the CMOs from Brookstreet customer accounts," according to the complaint. The five brokers tried to prevent National Financial from selling the CMOs at that time, according to an e-mail written May 31 by Mr. Popper that Ms. Dow sent to Brookstreet, according to the brokers' attorney, Jeffrey Kaplan of Miami-based Dimond Kaplan & Rothstein PA. "Since we are now emerging from such an extreme and highly compressed market environment, it is highly advisable to allow client bond positions to continue their path toward maturation," the broker wrote in the e-mail. "We therefore ask for a time extension until July 10, 2007, to re-evaluate the necessity of acting on house calls created by a totally subjective pricing model." The broker-dealer then forwarded the e-mail to National Financial, Mr. Kaplan said. Last year, the market for mortgage-backed securities was in tumult due to subprime mortgage problems. But the CMOs that Mr. Popper and his team sold were of a much higher quality than subprime, ac-cording to the complaint, and mostly comprised highly rated mortgage-backed securities. "It's important to note [that] decisions with respect to margin calls were entirely appropriate both under the terms of the margin agreement and in light of circumstances presented in the market at that time," said Vincent Loporchio, a spokesman for National Financial and Boston-based Fidelity. "National Financial used reputable third-party firms to price securities held in brokerage ac-counts," he said, adding that as of last Tuesday morning, his firm hadn't received notice of the complaint. National Financial is a powerhouse in the clearing and custody business, serving 330 broker-dealers and registered investment advisers, and holding in custody $709 billion in client assets. Brookstreet Securities, which had about 600 independent-contractor reps at the time, closed last June. In a message to brokers, it placed the blame for its misfortune squarely on National Financial's pricing of CMOs, as well as an excess of margin accounts (InvestmentNews, June 25). The claim of $36 million is the income the five brokers will lose until they can build a comparable book of business in the coming years, according to the complaint. The claim states that the ex-Brookstreet brokers collectively made $9 million a year. The most prominent broker in the group, which is based in Boca Raton, Fla., is Mr. Popper, who earned about $7 million a year, according to the complaint. He had a large role at the firm, trading for Brookstreet's proprietary account, running his own book of business and helping other brokers with CMO investment strategies. Mr. Popper, who has worked for 18 firms in 25 years, has legal problems of his own. He is named in five customer complaints totaling $8.75 million from the Brookstreet debacle, according to his employment history with Finra. He is now affiliated with Workman Securities Corp. of Eden Prairie, Minn. Clients have also filed arbitration complaints against National Financial in this matter E-mail Bruce Kelly at bkelly@investmentnews.com.