Stock Brokers, Securities and Cold Calling

Edited and Prepared by: Prof. Mentz

The telephone rings . . .It happens to all of us. The telephone rings as you're sitting down to dinner, relaxing with family or friends, or putting the kids to bed. A stranger is selling something.. . . is there help or trouble on the line?

It's known as "cold calling." For many businesses, including securities firms, cold calling serves as a legitimate way to reach potential customers. But sometimes serious trouble and financial losses await you at the other end of the line. Dishonest brokers may pressure you to buy a bad investment. Or the investment might be a scam.

Whether the calls are annoying, abusive, or downright crooked, you can stop cold callers. The law protects you by requiring cold callers to follow several rules. But you need to take steps to take advantage of these rules and to protect yourself.

This brochure tells you about your legal rights, how to deal with cold calls, how to stop them, and how to evaluate any investment opportunity that comes your way over the telephone.

Cold Callers Must Follow These Rules

When people from the securities industry call to sell you something, they must:

Call Only Between 8:00 a.m. and 9:00 p.m. 

These time restrictions do not apply if you are already a customer of the firm or you've given them permission to call you at other times. Cold callers may call you at work at any time.

Say Who's Calling and Why 

Cold callers must promptly tell you

their name, their firm's name, address, and telephone number, and that the purpose of the call is to sell you an investment.

Put You on Their "Do Not Call" List, If You Ask 

Every securities firm must keep a "do not call" list. If you want to stop sales calls from that firm, tell the caller to put your name and telephone number on the firm's "do not call" list. If anyone from that firm calls you again, get the caller's name and telephone number, note the date and time of the call, and complain to the firm's compliance officer, the SEC, and your state's securities regulator. Further below, you'll find information on how to make a complaint.

Treat You With Respect 

Cold callers can't threaten, intimidate, or use obscene or profane language. They can't call you repeatedly to annoy, abuse, or harass you.

Get Your Written Approval Before Taking Money Directly From Your Bank Accounts 

Before investing, you should always get answers to the questions below and written information about the investment. If you do decide to buy from a cold caller, do not give your checking or savings account numbers to the broker over the phone. Brokers must get your written permission - such as your signature on a check or an authorization form - before they can take money from your checking or savings account.

Tell You the Truth 

People selling securities must tell you the truth. Brokers who lie to you about any important aspect of an investment opportunity violate federal and state securities laws.

What Are Signs Of Trouble? 

Honest brokers use cold calling to find clients for the long term. They ask questions to understand your financial situation and investment goals before recommending that you buy anything. While you may find their cold calls annoying, honest brokers who follow the cold calling rules are acting within their rights.

Dishonest brokers use cold calling to find "quick hits." Some set up "boiler rooms" where high-pressure salespeople use banks of telephones to call as many potential investors as possible. These strangers will hound you to buy stocks in small, unknown companies that are highly risky, or sometimes, part of a scam.

Watch for these signs of trouble. 

High-Pressure Sales Tactics 

Aggressive cold callers speak from persuasive scripts that include retorts for your every objection. As long as you stay on the phone, they'll keep trying to sell. And they won't let you get a word in edgewise. "You'd hammer them. I always remember this one guy, I mean, I just stayed on the phone for almost an hour, and he finally bought."

- A "boiler room" broker

Beware of brokers who pressure you to buy before you have a chance to think about - or investigate - the "opportunity." "Stop right there! You're a businessman and you make decisions every day. You didn't get where you are by being stupid . . . Let's confirm the order now. OK?"

- A "cold calling" script

Watch out for dishonest brokers who tell you about a "once-in-a-lifetime" opportunity, especially when the caller bases the recommendation on "inside" or "confidential" information. "My broker said the company was in the process of buying this 100,000 watt radio station . . . The information wasn't on the street yet, but once the information did go out, the stock was going to double or triple."

- An investor in Virginia

Don't fall for brokers who promise spectacular profits or "guaranteed" returns. If the deal sounds too good to be true, then it probably is. "My broker was speaking of the AIDS epidemic and how much work was going into it with the laboratories and so on. And this particular company, working so close with it . . . he said the stock would go through the roof. And he said it was absolutely a sure thing . . . It would just continue to rise. Maybe as high as $20 or $30 per share."

- An investor in Virginia, who lost
$70,000 while his broker made
over $15,000 in commissions

Don't deal with brokers who refuse to send you written information about the investment. "I asked the broker not once but three times to send me some information. 'Ed McMahon's been sending you information for years; he hasn't made you any money,' was his reply."

- A reporter for the
Washington Post

The "Three-Call" Technique 

Some cold callers wait before turning up the heat. In their first call - the "warm-up" - they'll try to build your trust by describing their firm's past successes and the high quality of its research. The callers might ask permission to call again if an "exciting" deal comes along, but won't pressure you to buy. "I am invariably told these are not sales calls!! They assure me that all they want to do is pass along some information concerning their firm and track record, and will get back to me if and when something hot' comes along. When asked about such esoteric things as appropriateness, risk levels, risk tolerance, asset allocation and/or diversification, the topic is immediately changed back to their history of high returns for clients."

- An investor in Illinois

In their second call - the "set-up" - they'll whet your appetite, telling you about a fabulous deal they "think" they can get you into. In their third call - the "close" - they'll urge you to "buy now" or miss out.

 

Bait and Switch 

Dishonest brokers lure new customers by encouraging them to purchase well known, widely traded "blue chip" stocks. After you take the bait, they may pressure you to invest in small, unknown companies with little or no earnings. These stocks tend to be very risky and thinly traded, leaving more investors with losses than profits.

 

Paying Too Much 

Although they may not say so, dishonest brokers who push you to invest in a small, unknown company often work for firms that own large amounts of the stock. Their firm may have been involved in the company's initial public offering. Or the firm may "make a market" in the stock, which means it buys and sells the stock - sometimes called a "house stock"- for its own account. If only one firm or a small group of firms makes a market in the stock, the price can be manipulated and may not reflect the true value of the company. Dishonest brokers often pump up the prices of their house stocks until they get rid of their own holdings at high prices. But when they stop promoting the stock, the price falls, and investors lose their money.

 

If you're not careful, you may pay too much for "house stocks." Some dishonest brokers overcharge their customers by adding an undisclosed "mark-up" to the price the firm paid for the stock. Although it's illegal for brokers to charge excessive mark-ups, some dishonest brokers mark up the prices of the stocks they sell by as much as 100% or more.

 

Finding It Hard to Sell 

Many investors find that once they buy a "house stock," they can't get what they paid for it, even if they decide to sell right away. Or they find that their brokers simply won't sell the stock at all. Some firms follow "no net sales" policies where brokers can't execute orders to sell "house stocks" unless they find a customer to buy an equal number of shares. Other firms discourage brokers from selling "house stocks" for their customers by offering low - or no - commissions on those sales.

 

Dishonest brokers often refuse to take - or return - phone calls from customers who want to sell. "Whenever I call my broker, I am told that he is in a meeting or out of the office."

- A common investor complaint

These brokers will use high-pressure tactics to persuade you to keep the stock. Or they will simply refuse to sell it. "When I told my broker to sell my portfolio, he said I can't do it . . . I can't explain why, but what I'll do is send you the stock and you sell it through another broker."

- An investor in New York

Portrait of a "Boiler Room" 

The SEC and state securities regulators have investigated - and taken action against - numerous firms and brokers who use high-pressure tactics to sell securities. In a recent case, "boiler rooms" were described this way:

The firm was operating a classic boiler room. The brokers sat "cheek by jowl" in a room the size of a basketball court. All of their desks were lined up side by side in rows. The firm held mandatory sales meetings every morning at 8:30 a.m. at which time sales techniques were demonstrated and scripts for the firm's "house stock" . . . were distributed. Brokers were expected to follow the scripts and only give customers the information they contained. Brokers were discouraged from doing any outside research, and were told to rely on the firm's research and representations. . . .

 

After the morning sales meeting, brokers were expected to spend the entire day (except for a lunch break) on the telephone. The firm expected a high volume of sales, and if brokers did not stay on the phone, they were fired. . . .

 

One broker conceded that he falsely identified another salesman . . . as the firm's research analyst, and gave a fictitious description of the purported analyst as "fat, bald, and badly dressed." He stated that the reason for the firm's policy of discouraging customer sales was its desire to avoid negative price pressure on house stocks, a circumstance that he did not disclose to customers.

- From an opinion in a recent SEC enforcement case

Brokers in one boiler room defrauded investors by

lying about the firm's reputation and expertise, claiming it had a "research department" that analyzed stocks when it didn't, refusing to say anything negative about the stocks they pushed, including the "risk factors" discussed in the prospectus, making baseless price predictions, promising that certain stocks would double in price within a short time period, impersonating other salespeople at the firm, and discouraging customers from selling the stocks they recommended without regard to the customers' best interests.

Knowing how boiler rooms operate, you should be extremely skeptical when considering any investment opportunity a stranger tries to sell over the phone.

Please go to the ww.sec.gov for further information or consult with your compliance department before promotions or aggressive marketing techniques are used.