Pershing LLC, a subsidiary of The Bank of New York Mellon Corporation (BK), was held accountable for violating the Customer Protection Rule and maintaining inadequate supervisory system by the Financial Industry Regulatory Authority (FINRA). The clearing firm with more than $1 trillion in assets will have to shell out a fine of $3 million for the breach of rule and supervisory shortfalls.
The Customer Protection Rule
The Customer Protection Rule was formed by the Securities and Exchange Commission (SEC) to ensure safety of customers' funds and securities. The rule calls for availability of sufficient assets on the brokers’ side to protect customers in case of declaration of bankruptcy by the broker handling their accounts.
Also, the rule restricts the dealers from utilizing customer funds for making investments in any business other than servicing securities customers. Further, it is necessary for the brokers to retain control over customers' fully paid and excess margin securities and maintain either a cash reserve or a reserve of qualified securities of an amount equal to the net cash to be repaid to customers.
Violations by Pershing
Pershing, as a clearing firm, was found to be violating the SEC rule during the period from Nov 2010 to Aug 2011 in an investigation carried out by the Department of Enforcement. The company’s administrative methods were not in compliance with the Customer Protection Rule.
FINRA discovered that assets of Pershing’s customers were vulnerable to the firm’s inadequate procedures as well as deficient reserves. While the failure to implement an effective system caused the firm’s reports to contain errors during the period between Jul 30, 2010 and Aug 31, 2011, the company also fell short to meet the requisite deposit reserves by the range of around $4 million to $220 million.
Further, the firm failed to acquire and maintain physical control over fully paid and excess margin securities of certain customers from Jul 2010 to Sep 2011 as required under the rule. This resulted in 47 new possession or control deficits during that period, which heightened the risk exposure of the customers.
Our Take
After the financial downturn of 2008, several rules and regulations were reformed by the U.S. regulators to provide enhanced protection to investors. This stringent supervision and monitoring hamper the operational competence and reduce the risk-taking ability of the banks and other financial firms. On the other side, effective regulatory compliance benefits businesses across a broad array of performance metrics and increases technical efficiency.
Currently, BNY Mellon carries a Zacks Rank #3 (Hold). Some better-ranked financial stocks worth considering include Meridian Bancorp, Inc. (EBSB), Monroe Capital Corporation (MRCC) and Provident Financial Holdings, Inc. (PROV). All these stocks hold a Zacks Rank #1 (Strong Buy).
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