Investing in stocks is often an effective way to reach financial goals. If you do not have the expertise, time or patience to buy and sell stocks, however, you likely leave these tasks to a stockbroker. While most stockbrokers act in good faith, others engage in impermissible practices. Stock churning is one such practice.
In simple terms, stock churning puts broker profit above the interests of his or her client. That is, even though trades are not good for the investor, the churning broker makes them to generate commissions and fees. Because brokers owe a fiduciary duty to their clients, churning is unethical. The practice is also illegal, as it violates securities law.
Possible churning red flags
While it can happen in other situations, churning typically occurs when brokers have authorization to make discretionary trades. As such, the first warning sign you may see is a large number of trade confirmations.
Remember, your broker must inform you when he or she trades stock. If you are receiving an inordinate number of confirmations, churning may be to blame. Likewise, if the market is generally moving upward while your account remains stagnant, you may be paying an unusual number of commissions because of churning.
Your burden of proof
Clearly, stock churning may cause you to lose a significant amount of money. If you want to fight back, you may have to arbitrate the matter. To prove your broker is churning your account, three facts must be true:
- Your broker must have had control over your account.
- Your account must have had an excessive number of trades.
- The broker must have intended to enrich himself or herself or recklessly disregarded your interests.
You should not have to bear the potentially steep financial costs of stock churning. If you can successfully demonstrate your broker engaged in this type of misconduct, you may recoup the commissions you paid. You may also receive compensation for both the losses you sustained and the gains you would have realized had your broker acted appropriately.