Stock Lawyer Stock Broker Fraud Lawyer 2 — Questions and Answers
Question 1: Which FINRA rule requires broker-dealers to have a reasonable basis for believing a recommended investment is suitable for the customer?
- Rule 2111 (Correct answer)
- Rule 4512
- Rule 3110
- Rule 2010
Correct answer: Rule 2111
FINRA Rule 2111 (Suitability) requires broker-dealers to have a reasonable basis to believe a recommended transaction is suitable for the customer based on their profile.
Question 2: What is 'reverse churning' in the context of stockbroker fraud?
- Placing a client in a fee-based account and then making no trades, collecting fees without activity (Correct answer)
- Executing too many trades to generate commissions
- Reversing unauthorized trades after discovery
- Buying back securities previously sold to manipulate prices
Correct answer: Placing a client in a fee-based account and then making no trades, collecting fees without activity
Reverse churning occurs when a broker places a client in a fee-based account but generates little or no trading activity, earning fees without providing corresponding service.
Question 3: Under SEC Rule 10b-5, which of the following is NOT an element a plaintiff must prove?
- The defendant acted with scienter (intent or recklessness)
- The defendant made a material misrepresentation or omission
- The plaintiff suffered an actual financial loss
- The defendant held a Series 7 license at the time of the fraud (Correct answer)
Correct answer: The defendant held a Series 7 license at the time of the fraud
Rule 10b-5 claims require proof of a material misrepresentation, scienter, connection to a securities transaction, reliance, and damages — a Series 7 license is irrelevant to liability.
Question 4: What is a 'Ponzi scheme' and which famous case is considered the largest in U.S. history?
- Using new investor funds to pay existing investors; Bernie Madoff (Correct answer)
- Front-running client orders for personal gain; Ivan Boesky
- Manipulating stock prices through false press releases; Enron
- Excessive trading of client accounts; Charles Keating
Correct answer: Using new investor funds to pay existing investors; Bernie Madoff
A Ponzi scheme uses money from new investors to pay earlier investors; Bernie Madoff's scheme defrauded investors of approximately $65 billion, making it the largest in U.S. history.
Question 5: Which document must broker-dealers provide that discloses conflicts of interest, compensation, and the nature of their relationship with the client?
- Form CRS (Customer Relationship Summary) (Correct answer)
- Form U4
- Form BD
- Regulation T statement
Correct answer: Form CRS (Customer Relationship Summary)
Form CRS (Customer Relationship Summary) must be provided to retail investors and discloses the nature of the firm's relationship, services offered, fees, and conflicts of interest.
Question 6: In a stockbroker fraud arbitration, what is the significance of a 'clawback' provision?
- It allows a firm to recover compensation paid to a broker who later caused customer losses (Correct answer)
- It permits customers to recover funds paid in commissions
- It requires brokers to return licenses upon termination
- It enables arbitrators to impose punitive damages beyond compensatory amounts
Correct answer: It allows a firm to recover compensation paid to a broker who later caused customer losses
A clawback provision allows a firm to recoup bonuses or compensation paid to a broker whose conduct later results in regulatory sanctions or customer losses.
Question 7: What legal standard applies when evaluating whether a broker's recommendation was 'unsuitable' under the traditional FINRA framework?
- Whether the recommendation was reasonable given the customer's investment profile, including risk tolerance and financial situation (Correct answer)
- Whether the investment was profitable within 12 months
- Whether the broker disclosed the investment to the SEC before recommending it
- Whether the customer had a net worth exceeding $1 million
Correct answer: Whether the recommendation was reasonable given the customer's investment profile, including risk tolerance and financial situation
Suitability is evaluated by examining whether the recommendation was reasonable in light of the customer's investment profile, including their age, risk tolerance, financial situation, and investment objectives.
Stock Lawyer Stock Broker Fraud Lawyer 2
Which FINRA rule requires broker-dealers to have a reasonable basis for believing a recommended investment is suitable for the customer?