SEC Chairman Jay Clayton’s efforts to clean up the securities market are paying off.
In a statement, the Securities and Exchange Commission (SEC) disclosed, BMO Capital Markets and Cantor Fitzgerald & Co have agreed to pay $3.9 million and $647,000 respectively to settle charges of improper handling of “pre-released” American Depositary Receipts (ADRs).
In an ongoing investigation, the SEC has charged thirteen financial institutions of abusing ADR practices, which, so far has led to monetary settlements worth $427 million.
Previous settlements since 2017, with banks and brokers, include U.S. subsidiaries of Deutsche Bank AG ($74 million), JPMorgan Chase & Co. ($135 million), Wedbush Securities Inc. ($8 million) and Banca IMI Securities ($35 million).
Cantor Fitzgerald and BMO obtained pre-released ADRs indirectly from other broker-dealers when “they should have known that the pre-release transactions were not backed by foreign shares,” said the SEC.
ADR Clean up
Through multi-year efforts, the SEC has managed to clean up common abuses revolving around the use of “pre-release” ADRs.
To ensure that the price of the U.S. shares match those abroad, banks and brokers who deal in ADRs are required to hold a corresponding amount of foreign stock, or ensure that their counterparties or clients do the same. Due to slight differences in the time of international trade settlement times, ADRs are allowed to be “pre-released” which mitigates this time gap. According to the SEC, banks and brokers exploit this to create an undue surplus to hold enough foreign shares.
Many banks and brokers unjustly profited from trafficking in such phantom shares, said the SEC. According to the SEC, the pre-release shares have been used for abusive practices, such as “naked” short selling, which is betting against a company without actually borrowing shares as well as an international tax dodging technique known as dividend arbitrage.
“This is a big win for investors,” said Norm Champ, a senior partner at Kirkland & Ellis LLP and former director of the SEC’s Division of Investment Management. “These cases continue Chairman Clayton’s efforts to maintain U.S. markets as the best in the world by rooting out practices that contribute to mispricing of publicly traded securities.”
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