OptionsXpress Inc., a unit of U.S. brokerage Charles Schwab Corp., and its former chief financial officer helped to facilitate sham transactions that violated U.S. securities laws, an administrative court ruled.
OptionsXpress and Thomas E. Stern helped a client, Jonathan I. Feldman, conduct trades designed to fake compliance with laws prohibiting so-called naked short sales, where investors sell a stock they don’t possess in hope of profiting from declines, according to the ruling by Brenda P. Murray, the chief administrative judge for the Securities and Exchange Commission. She said OptionsXpress should pay OptionsXpress $3,574,599 and Feldman $4,656,377. Stern, who was fired in 2012, was ordered to pay $75,000 and banned from the securities industry.
Feldman’s use of so-called buy-write transactions, where a share purchase is immediately offset by selling an in-the-money call option, to cover short positions broke rules requiring all short sales to be backed by deliverable shares, the judge said in a 105-page initial decision issued June 7. OptionsXpress and Stern allowed the trades knowing the shares would never be delivered and knowing other rulings indicated the practice was illegal, the judge said.
“To put it bluntly, no one had any skin in the game,” Judge Murray wrote. “By not performing its responsibility and closing out fail-to-deliver positions, OptionsXpress allowed Feldman and others to continue what, in effect, was naked short selling.”
Stephen Senderowitz, a lawyer representing OptionsXpress, disputed Judge Murray’s interpretation of the events, and said OptionsXpress is reviewing the decision for the purposes of an appeal.
“We believe the evidence at trial demonstrated that OptionsXpress at all times acted consistent with all regulations and bought in the shorts and delivered securities as required,” said Senderowitz in an e-mailed statement. “The firm was in touch with regulators regarding the transactions, no one was harmed, and the transactions were neither novel nor exotic.”
Gregory Lawrence and Daniel McCartin, lawyers for Feldman, did not return calls seeking comment.
The action was initiated by the SEC. In a short sale, an investor borrows a stock and sells it, with the goal of profiting from a price decline. The SEC’s Regulation SHO requires investors and their brokers to deliver shares within three days of making a short sale and bars firms from executing further bets until previous ones are settled.