by Howard Haykin

Merrill Lynch, Pierce, Fenner & Smith agreed to pay a $42 million fine and admit wrongdoing to settle SEC charges that it misled customers about how it handled their orders. 

SEC FINDINGS.    Over a 5-year period – from 2008 to 2013 - Merrill Lynch falsely informed customers that it had executed millions of orders internally when it actually had routed them for execution at other broker-dealers and execution venues.  Merrill Lynch called this practice “masking.”

Merrill Lynch would receive equity orders from its “Direct Strategy Access,” or “DSA,” customers - typically financial institutions such as asset managers, mutual fund investment advisers, and public pension funds. Merrill typically would slice them into smaller “child orders" that it routed to various trading centers – including exchanges, Alternative Trading Systems (ATSs) and External Liquidity Provider, or “ELPs.”

To mask the external execution venue, Merrill Lynch programmed a system that provided automated messages to customers regarding each trade to report, falsely, that the execution venue was Merrill Lynch and not an ELP. Merrill Lynch similarly misreported ELP executions in reports provided to customers and in billing invoices. Further, when responding to customer questionnaires and in other communications, Merrill Lynch specifically omitted ELPs from lists of venues to which customer orders were routed.

By masking the broker-dealers who had executed customers’ orders, Merrill Lynch made itself appear to be a more active trading center and reduced access fees it typically paid to exchanges.

By the time it stopped masking in May 2013, Merrill Lynch had falsely reported over 15 million child orders, comprising more than five billion shares.

[For further details, click on SEC Order.]