The Securities and Exchange Commission on May 16 announced that it settled charges against broker-dealers Chardan Capital Markets and Industrial and Commercial Bank of China Financial Services for failing to report suspicious sales of billions of penny stock shares. Chardan’s chief compliance officer was also charged.

“As gatekeepers to the securities markets, brokerage firms, including clearing firms, must take their anti-money laundering obligations seriously,” Marc Berger, director of the SEC’s New York Regional Office, said in a statement. “The failure to file SARs in the face of numerous red flags is unacceptable.”

According to the SEC order, Jerard Basmagy, the chief compliance officer and anti-money laundering (AML) officer for Chardan, “willfully aided and abetted and caused” Chardan’s AML violations. As a result, Basmagy must pay civil penalties of $15,000. He also agreed to be barred from the securities industry and the penny stock business for at least three years.

In a separate SEC order, the SEC charged Chardan with failing to file Suspicious Activity Reports (SARs) when it knew, suspected, or had reason to suspect that certain penny stock transactions it executed on behalf of its customers involved the use of its firm to facilitate fraudulent activity or had no business or apparent lawful purpose.

From at least October 2013 through June 2014, Chardan’s AML policies and procedures stated that Chardan would file SARs “for transactions that may be indicative of money laundering activity,” including, among other things, “heavy trading in low-priced securities” and “trading that constitutes a substantial portion of all trading for the day in a particular security.” The policies listed several specific examples of “red flags” of suspicious activities related to heavy trading in low-priced securities and large volume trading that should have triggered internal reviews and, in some instances, SAR filings.

Specifically, the policies required Basmagy in his role as CCO and AML officer to investigate potential red flags, monitor trading for patterns of suspicious activity, and file SARs. Despite having policies that set forth red flags of suspicious activities and the requirement to review those red flags, Chardan did not conduct the requisite review of significant penny stock liquidations that occurred through seven customer accounts during the relevant period, the SEC order stated.

Chardan also knew, suspected, or had reason to suspect that some of the seven customers were engaged in fraudulent activity based on other red flags listed in their policies. These included the background and identity of the customers, trading suspensions in certain issuers that were the subject of prior trading by the customers, and numerous regulatory inquiries received after May 2014 regarding certain customer trading.

Despite the suspiciousness of its customers’ transactions, the related red flags, and the requirements of its written policies to review those red flags, Chardan never investigated these red flags or filed a SAR during the relevant period related to its customers’ suspicious penny stock transactions.

ICBCFS charges

Chardan’s clearing firm ICBCFS raised multiple concerns to Chardan about certain of Chardan’s customers and their trading in low-priced securities. Nonetheless, ICBCFS did not file SARs related to these transactions “when it knew, suspected, or had reason to suspect that these transactions involved the use of ICBCFS to facilitate fraudulent activity, or had no business or apparent lawful purpose,” the SEC stated.

ICBCFS also “failed to promptly produce certain documents missing from its production during the SEC’s investigation, despite repeated requests by the staff of the Division of Enforcement,” the SEC order stated. “During its investigation, the staff issued several written requests to ICBCFS for required records.”

“Upon discovering chronological gaps in the e-mails and other records produced by ICBCFS, the staff informed ICBCFS’s counsel of the staff’s concerns that the firm’s production was incomplete,” the order stated. “It ultimately took ICBCFS 15 months to produce the requested records.”

In June 2014, ICBCFS ceased clearing penny stock trades, and Chardan withdrew from the penny stock business, the SEC order stated.

Without admitting or denying the SEC’s findings, the parties agreed to settlements requiring Chardan to pay a $1 million penalty and ICBCFS to pay $860,000.  Both firms consented to censures and to cease and desist from similar violations in the future. 

FINRA charges

The SEC’s investigation was conducted in conjunction with a broader inquiry by FINRA into ICBCFS’s AML program and alleged financial, recordkeeping, and operational violations.  FINRA today announced a related settled action against ICBCFS, in which the firm agreed to pay a $5.3 million penalty and to retain an independent compliance consultant.

Susan Schroeder, FINRA executive vice president, Department of Enforcement, said, “Member firms are obligated to implement an AML program that is reasonably designed to address the unique money laundering risks posed by their business.  Firms that engage in high-risk activities such as penny stock clearing are the gatekeepers to the market and must establish a reasonable supervisory system to detect and report suspicious trading activity.”