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FINRA

FOR RELEASE:
CONTACT:
Thursday, February 20, 2003
Nancy A. Condon 202-728-8379



 

NASD Fines J.P. Morgan for Sharing in Profits from Hot IPOs

Washington, DC — NASD announced today that it censured, fined, and ordered J.P. Morgan Securities, Inc. to pay $6 million for unlawful profit sharing activities that took place at Hambrecht & Quist LLC prior to its acquisition in 2000.

 

NASD found that Hambrecht & Quist received millions of dollars in inflated commissions from more than 90 customers who sought and received allocations of "hot" initial public offerings (IPOs) from the firm. Customers paid the inflated commissions on agency transactions in highly liquid securities, with commissions as high as $1.25 per share when an ordinary charge on these trades would have been 6 cents per share.

 

From November 1999 to March 2000, Hambrecht & Quist was the lead manager of 12 IPOs and was responsible for allocating the vast majority of shares offered. Most of these IPOs showed gains of over 60 percent on the first day of trading, with one hot IPO trading at 215 percent over its offering price. The immediate increase in aftermarket price provided substantial first-day profits to customers who received the allocations. Hambrecht & Quist profited by receiving inflated commissions from IPO customers on unrelated agency trades. For example, the firm's commission revenue increased from $590,000 on the day before one IPO to $2.2 million on the day of the IPO.

 

"Managers of hot IPOs are not entitled to capitalize on the immediate increase in the market price of those shares by receiving inflated commissions and sharing in their customers' profits. Our rules prohibit profit-sharing, and engaging in the practice seriously undermines the integrity of the capital raising process," said Mary L. Schapiro, NASD's Vice Chairman and President of Regulatory Policy Operations. "NASD will continue to look at all aspects of the IPO allocation process to ensure that it is both efficient and fair to all market participants."

 

NASD found that the profit sharing was shown by the pattern of trading in the customer accounts. For example, one customer paid over $685,000 in inflated commissions in two trades after receiving IPO shares that were worth $2.9 million in potential first-day profits. Another account paid inflated commissions with rates as high as 80 cents per share, to generate more than $575,000 to the firm, when commissions would have been less than $85,000, had the customer paid the typical 6 cents per share commission. While the large majority of profit-sharing accounts were serviced by Hambrecht & Quist's Institutional Sales Department, the firm also shared profits with accounts serviced by the high net worth retail Executive Financial Services Department.

 

The institutional sales traders and sales brokers were aware of the payment of inflated commissions on the same day hot IPO allocations occurred.

 

One sales broker wrote to a senior syndicate manager:

 

"[Customer has] a consistent pattern of rewarding the firm with commissions when they are given [IPO] stock and I anticipate they will do the same here."

 

In another instance, a sales assistant listed two trades with commission rates of 50 cents per share and noted to her supervisor, "Can you tell I'm smiling…[Customer] has done it again!! My baby's going to college!"

 

Evidence of profit sharing was also shown through offsetting trades done by at least 20 accounts. In these situations, a customer purchased a highly liquid security through Hambrecht & Quist and paid an inflated commission. At another brokerage firm, the customer sold the security at an ordinary commission rate. These purchase and sale trades resulted in an immediate loss to the customer, but generated high profit-sharing commissions for the firm. In fact, the firm's Compliance Department was concerned about the possibility of this type of trading occurring at Hambrecht and Quist and noted in an internal email:


"The concern is that these accounts may appear to have trading volume that justifies hot issue allocations in each account, but what if they have many such accounts all over the street, and their 'trades' are really washes, where they buy here, sell elsewhere, and never assume any market exposure."

 

J.P. Morgan neither admitted nor denied the allegations, but consented to the entry of findings.

 

Investors can obtain more information and the disciplinary record of any NASD-registered broker or brokerage firm by calling (800) 289-9999 or by sending an e-mail through NASD's web site at www.nasd.com.

 

NASD is the leading private-sector provider of financial regulatory services, dedicated to bringing integrity to the markets and confidence to investors through effective and efficient regulation and complementary compliance and technology-based services. NASD touches virtually every aspect of the securities business - from registering and educating all industry participants, to examining securities firms, enforcing both NASD rules and the federal securities laws, and administering the largest dispute resolution forum for investors and member firms. For more information, please visit our web site at www.nasd.com.