Clearing firm fined for surveillance lapses related to potentially manipulative trading

FINRA outlined failure to implement effective supervisory and surveillance practices for trading and business communications recordkeeping.

Velox Clearing LLC agreed to pay a $500,000 fine and retain a third-party consultant to review the reasonableness of its policies, systems, and procedures relating to the detection and prevention of potentially manipulative trading activity, which FINRA said were in violation of various FINRA rules and sections of Nasdaq General Rule 9.

The charges in the acceptance, waiver and consent order signed by the firm were based on FINRA’s findings that the firm failed to implement a system of supervision and surveillance to identify potentially manipulative trading.

Citing its violations, FINRA said the Miami, Fla-based Velox has been censured and fined $1.3m, and it has agreed to retain an independent consultant.

Background

Velox is a clearing and executing broker for correspondent and institutional customers, including US broker dealers and foreign financial services firms.

Since January 2019, Velox failed to establish and implement an anti-money-laundering (AML) program reasonably designed to detect and cause the reporting of suspicious transactions, causing it to violate FINRA Rules 3310 and 2010.

As a result, FINRA said, the firm failed to detect or investigate red flags of spoofing, layering, bid support, and marking the close, and failed to retain and review business communications on non-firm communications platforms, in violation of Exchange Act § 17(a), Exchange Act Rule 17a-4 and FINRA Rules 3110, 4511, and 2010.

Additionally, between January 2019 and February 2024, the firm failed to reasonably supervise outside brokerage accounts in violation of FINRA Rule 3110(d), FINRA stated. Several of these alleged violations are detailed more below.

An effective AML program

FINRA Rule 3310 requires each member to develop and implement a written AML program reasonably designed to achieve and monitor the firm’s compliance with the requirements of the Bank Secrecy Act (BSA) and implementing regulations promulgated by the US Treasury Department.

That rule requires a firm’s AML compliance program to include appropriate risk-based procedures for conducting ongoing customer due diligence that include:

  • understanding the nature and purpose of customer relationships for the purpose of developing a customer risk profile; and
  • conducting ongoing monitoring to identify and report suspicious transactions and, on a risk basis, to maintain and update customer information.

Beyond that rule, FINRA has issued several money-laundering and AML surveillance-oriented regulatory notices, with one in 2019 specifically outlining the suspicious activity reporting obligations firms have and a list of red flags that could be helpful to firms in looking for indicia of money laundering.

“The firm failed to utilize alerts or any other surveillance to monitor for layering, spoofing, pre-arranged trading, or trading indicative of pump-and-dump schemes in low-priced securities.”

FINRA’s consent order with Velox Clearing, LLC

FINRA said Velox’s AML procedures were not in any way customized to the firm’s business for several years, and they stated that the firm would monitor for suspicious trading activity using exception reports.

“But neither those procedures nor any other written guidance at the firm described what exception reports the firm would use or how the firm would review those reports to identify red flags of suspicious trading. Furthermore, while the firm’s procedures set forth a list of red flags of potential money laundering, the procedures did not provide any guidance regarding how to detect or investigate those red flags, either through the use of exception reports or otherwise,” FINRA said.

And the company’s staffing and resource allocations in the AML program were inadequate, FINRA alleged, particularly since the AML compliance officers (which were an ever-revolving set of people) had many other compliance and operational tasks that consumed their time.

Trade surveillance

FINRA said the firm failed to have a reasonable trade surveillance system, despite what written supervisory procedures (WSPs) stated. FINRA said Velox did not use any exception reports to monitor for potentially suspicious trading activity until July 2023, when it implemented a single wash trade report.

“The firm failed to utilize alerts or any other surveillance to monitor for layering, spoofing, pre-arranged trading, or trading indicative of pump-and-dump schemes in low-priced securities,” FINRA stated.

Supervising and preserving off-channel comms

Under FINRA rules, the firm’s supervisory procedures must include processes for the review of incoming and outgoing written (including electronic) correspondence and internal communications relating to the member’s investment banking or securities business. And they must preserve for a period of at least three years the originals of all communications received, and copies of all communications relating to the member’s business, including emails and other electronic messages.

FINRA said that Velox’s WSPs provided that business communications must be through firm-provided platforms and prohibited unapproved communication platforms. Despite this prohibition, Velox personnel routinely used unapproved text messaging and WeChat for core business communications internally and with clients.

For example, the firm’s trade desk and sales team had group WeChat message chains dedicated to discussions of business-related topics, and the firm’s CEO and operations staff also routinely engaged in WeChat communications with customers, FINRA alleged.

“These communications involved discussions regarding the firm’s operations as well as requests by the firm’s customers to move securities, wire funds, and place orders to be executed by the firm.

The firm was aware that its personnel used WeChat but failed to take any steps to implement a system to capture, retain or review these business-related communications, FINRA said. As a result, the agency said Velox failed to review and retain more than 10,000 off-channel communications.

Sanctions

In addition to the $13m penalty, Velox must retain an independent consultant to conduct a comprehensive review of the adequacy of its compliance with the FINRA rules noted above, and the requirements of the BSA. The consultant cannot be terminated without FINRA’s explicit approval and their written report of recommendations must be reviewed – and any proposed alternatives to what the consultant has suggested must be presented to the consultant and to FINRA for their input.

FINRA adds: “In the event the Third-Party Consultant and Respondent are unable to agree, Respondent must abide by the Third-Party Consultant ultimate determination” and the company “must adopt and implement” those recommendations deemed appropriate by the consultant.