If you are having second thoughts about an alternative ETF sold to you by a ProEquities financial advisor, there may be good reasons! ProEquities recently paid an eye-popping $200,000 fine to the Financial Industry Regulatory Authority (FINRA) for supervisory failures in selling non-traditional exchange-traded funds (ETFS).
To understand the magnitude of ProEquities supervisory failure requires a brief explanation of what ETFs are.
Simply put, an ETF is an investment that is designed to rise and fall in a way that mimics a financial index or benchmark. The most popular ETFs track the Dow Jones Industrial Average or S&P 500. For an ETF that tracks the S&P 500, on a day when that index goes up by 2%, the ETF should also go up by 2%. The ETF’s performance imitates the index. There are ETFs for all kinds of indexes, including bond indexes. Some ETFs fluctuate with the price of commodities like gold or oil.
This is how traditional ETFs work. Traditional ETFs can be a great choice for a retirement portfolio. Depending on the benchmarks they follow, they can provide great diversification for a portfolio, and have very low fees.
ProEquities got in trouble for how it sold non-traditional ETFs. Non-traditional ETFs are leveraged ETFs, inverse ETFs, and leveraged, inverse ETFs. A leveraged ETF still tracks a benchmark or index, but its returns on a daily basis are double or triple the direction that the ETF moves. So, if the S&P 500 dropped by 2% in a day, a leveraged ETF might drop by 4% or 6%. An inverse ETF moves in the opposite direction as the benchmark it tracks. So, an inverse S&P 500 ETF would move up 2% if the S&P 500 index moved down 2%. A non-traditional ETF could be leveraged and inverse at the same time. For example, a 3X leveraged, inverse ETF would go up 6% if the S&P 500 index moved down 2%.
Non-traditional ETFs are useful tools for day-traders and speculators to bet on which direction an index will move on a daily basis, but they are not a good fit for most retirement plans, because their performance tends to not correlate with the indices or benchmarks they follow over the long term. Non-traditional ETFs generally hold swaps, derivatives, and other options.
Because traditional and non-traditional ETFs have such different purposes, a broker-dealer that solicits sales of non-traditional ETFs must have supervisory procedures in place. It must have procedures in place to ensure that these non-traditional ETFs are really a good fit for the investors to whom they are marketed. It should also have procedures in place to identify where these short-term investment products are being held for an unusually long period of time. The financial advisors who sell non-traditional ETFs should also receive special training to ensure that they themselves understand how non-traditional ETFs work! According to ProEquities’ settlement with FINRA, ProEquities’ procedures were inadequate.
If you have questions about investment losses, the securities litigation attorneys at Investor Defense Law LLP may be able to help, and offer free consultations.
Investor Defense Law LLP is a law firm dedicated to helping investors in California, Georgia, and Washington State recover investment losses. We understand investment fraud and know how to sue investment advisors, brokerage firms, and financial advisors. To learn more, contact an investment fraud attorney at 800.487.4660.