FINRA fines broker-dealer for failure to comply with close out rules

The Financial Industry Regulatory Authority (FINRA) FINRA has fined Morgan Stanley Smith Barney for its repeated failures to timely close out failed inter-dealer municipal securities transactions.

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The $1.6 million fine is also for the firm’s failure to take steps to obtain physical possession or control of municipal security positions that are short more than 30 calendar days, as well as related supervisory failures.

This is the first time FINRA has charged a firm with violating the close-out requirements of Municipal Securities Rulemaking Board (MSRB) Rule G-12(h) and related supervisory failures. Previously, FINRA sanctioned Morgan Stanley in 2015 for supervisory failures regarding short positions in municipal in 2015.

“Member firms must establish and maintain controls and procedures for detecting, resolving, and preventing the consequences of municipal short positions and fails to receive. That includes strictly adhering to the close-out requirements under MSRB Rule G-12(h) and timely identifying and addressing short positions and fails to receive in municipal securities under Exchange Act Rule 15c3-3,” Bill St. Louis, executive vice president and head of enforcement at FINRA, said.

MSRB Rule G-12(h) requires that failed inter-dealer municipal securities transactions be canceled or closed out no later than 20 calendar days after settlement date. Also, Rule 15c3-3(d)(2) requires a broker-dealer to take prompt steps to obtain physical possession or control of securities it failed to receive for more than 30 calendar days.

In this case, FINRA found that Morgan Stanley failed to timely cancel or close out 239 inter-dealer municipal transactions aged over 20 calendar days after settlement date. These transactions had a total value of approximately $9 million from December 2016 through August 2021. In addition, from January 2016 through August 2021, the company failed to take the required steps to obtain possession or control of 247 municipal securities with a total value of approximately $9.4 million that it had failed to receive for an average of approximately 177 days.

Further, it failed to establish and maintain a supervisory system and written procedures reasonably designed to achieve compliance with the close out requirements and the possession or control requirements. In fact, the firm did not modify its system and processes for addressing municipal fails-to-receive until June 2021 or update its written supervisory procedures until September 2021.

Morgan Stanley consented to FINRA’s findings without admitting or denying the charges. FINRA allocated $1.2 million of the $1.6 million fine to the MSRB.