by Howard Haykin

Wells Fargo Securities agreed to pay a $3.25 million fine and to review its supervisory systems and processes to settle FINRA charges that, among other things, it failed to report all of its reportable conventional (OTC) options positions for an unknown but significant period of time and then, after determining that the firm would begin reporting these positions, it failed to develop and implement a Large Options Position Report (LOPR) system.

The OTC options market differs from the listed options markets in several respects. The most significant distinction is that listed options transactions clear through a central source - i.e., The Options Clearing Corporation - so that trade and position information is readily available for comparison, while there is no independent source of data for comparison with OTC options transactions. OTC derivative transactions are written directly between 2 parties, are not listed on any exchange, and are not cleared through the OCC. Since January 2010, firms have been required to submit large options positions to the OCC for inclusion in the LOPR file submitted to the exchanges, as specified in FINRA NTM 09-47.

BACKGROUND.    Wells Fargo Securities (“WCHV”), a Charlotte, NC-based FINRA member since 2003, has no relevant disciplinary history.

FINRA FINDINGS.    The review period in this case runs from at least January 2008 through March 2017.

NOTE:   FINRA points out that, in early 2008, the firm conducted a review of OTC LOPR obligations, and ultimately decided to develop the necessary systems for the reporting of the OTC options trades that WCHV intermediated and had not been, reporting. However, following certain business combinations in the fall of 2008, the Firm's OTC LOPR project was never fully developed or implemented, and WCHV's reporting of OTC options positions did not occur until after the Firm became self-clearing in mid-2014.

FINANCIALISH NOTE:   The business combination to which FINRA refers was the acquisition of Wachovia Corporation, including Wachovia Securities, by Wells Fargo & Company. The acquisition was necessitated by the credit crisis of 2008, which hit Wachovia Corporation extremely hard.  

►    Reporting of Options Positions.    During the Review Period until August 2014, WCHV failed to report all of its reportable conventional options positions due to the Firm's failure to develop and implement an LOPR system after determining that the Firm had been failing to report certain options positions for an unknown but significant period of time because of the Firm's erroneous belief that the positions were not reportable. During a sampled period between January 2010 and August 2014, WCHV failed to report 60,808 conventional options positions in 18,868,889 instances to the Long Options Positions Report (“LOPR”).

Additionally, after identifying and remediating the Firm's failure to report reportable conventional options positions to the LOPR, the FINRA staff determined that, during the Review Period, WCHV still failed to accurately report an unknown but significant number of conventional options positions to the LOPR. Specifically, as a result of staff’s extensive review and information provided by the Firm, it was estimated that the Firm had additional errors when reporting such options positions in a variety of the required LOPR data fields, totaling at least 73,026 instances during a sampled period between August 2014 and July 2015, and the Firm self-detected that it had failed to report certain exotic or complex conventional option positions from June 2014 through February 2016.

►    Position Limits.    During the Review Period, WCHV and a customer exceeded the OTC position limit by 25% for at least 461 trading dates in options related to one security, and by 40% for 2 trading dates in options related to another security. These violations had not been detected by the Firm because of its LOPR-related deficiencies.

►    Supervision.    During the Review Period until 2014, WCHV failed to maintain any type of system of supervision, including systems of follow-up and review, which were designed to achieve compliance with the rules governing the reporting of conventional options positions to the LOPR system. WCHV also lacked any relevant WSP’s requiring relevant reviews.

During the Review Period, after implementing supervisory systems and WSPs pertaining to the reporting of conventional options to LOPR, WCHV still failed to adequately supervise by failing to detect errors in numerous conventional options positions reported to the LOPR.

During the Review Period, the Firm also did not have an adequate system of supervision, including systems of follow-up and review and relevant WSPs, reasonably designed to achieve compliance with rules related to the exercise of physically settled OTC options.

This case was reported in FINRA Disciplinary Actions for August 2017.

For details on this case, go to ...  FINRA Disciplinary Actions Online, and refer to Case #2014040326101.