Cantor Fitzgerald & Co and BMO Capital Markets on Friday agreed to pay $647,000 and $3.9 million respectively to settle claims that the broker dealers mishandled the trading of American Depository Receipts (ADRs).
The Securities and Exchange Commission (SEC) accuses both firms of failure to supervise its securities lending desks which caused to be issued while not backed by actual shares, leaving them ripe for potential market abuse.
The probes were related to the prerelease of ADRs, where banks issue depositary receipts without first having the underlying shares in their custody.
The regulator explains that Cantor Fitzgerald and BMO obtained ADRs, which are certificates representing ownership of a foreign stock, from other broker-dealers without ensuring they would be backed by the actual shares. The SEC said that the were used for abusive practices, including “inappropriate short selling and inappropriate profiting around dividend payouts.”
The SEC has probed and fined several Wall Street banks including Bank of New York Mellon, Citigroup, Deutsche Bank, and J.P. Morgan as it examines whether they have broken controls designed to prevent market abuse and tax fraud.
SEC’s enforcement action no.13
Last year, the SEC’s New York regional office fined Deutsche Bank $75 million to settle claims related to the same case.
BMO Capital, which didn’t admit or deny the claims, agreed to pay $1.2 million in penalties and interest and forfeit $2.2 million in profits, the commission added.
The practice, while intended to smooth trading, could be abused for betting against a company’s stock by selling shares they don’t own, without borrowing or locating the shares needed to cover the sale. The regulator also says such receipts are being used to illegally arbitrage between different tax regimes.
Brokers who sell or transfer ADRs are typically responsible for ensuring that a matching number of foreign shares has been deposited with a custodian.
“The SEC continues to hold accountable parties that abused the ADR markets over an extended period of time. U.S. investors who invest in foreign companies through ADRs have a right to expect that market professionals aren’t gaming the system,” said Sanjay Wadhwa, Senior Associate Director for Enforcement in the SEC’s New York Regional Office.