No doubt you have certain goals in mind if you own stocks and bonds. You may also have mutual funds and annuities in your portfolio.
You may not engage in frequent buying and selling, a stance that might lead to the practice of churning. What is this and what are the consequences?
An illegal and unethical activity, churning refers to the excessive trading of assets in a brokerage account that results in more commissions for the broker. It does not take long for churning to destroy the net value of the targeted account.
The form of churning that is most common involves excessive trading in stocks and bonds. However, brokers can also churn annuities and mutual funds and even life insurance policies. Additionally, investors can be the victims of “reverse churning.” This occurs when brokers put clients who do not trade frequently into fee-based accounts.
How to recognize churning
An investor may find he is paying higher commission fees without seeing accompanying results; he may pay more in commission fees than he is earning on his investments. Churning is often seen when the broker trades the investor’s entire portfolio of assets at least once a month.
The Securities and Exchange Commission (SEC) establishes the rules against churning:
- The SEC finds brokers’ actions fraudulent if they use their power over an investor’s account to make transactions that are excessive with respect to the financial resources of the account
- The Financial Industry Regulatory Authority (FINRA) states that brokers must act in the best interests of the investors
- A New York Stock Exchange (NYSE) rule prohibits investment firms from allowing churning
If you suspect churning with regard to your investments, seek legal guidance to determine your next steps. The consequences of churning include sanctions and severe fines.