Source: https://www.sec.gov/litigation/opinions/34-44357.htm
Timestamp: 2019-04-19 14:23:42+00:00

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Person associated with member firm entered fictitious limit orders, prevented the execution of customer limit orders in violation of the limit order protection rule, and caused transactions that were not bona fide to be reported. Held, association's findings of violation and sanctions it imposed are sustained.
Anthony W. Djinis and William D. Edict, of Pickard and Djinis LLP, for Michael B. Jawitz.
Michael B. Jawitz, formerly a trader with Mayer & Schweitzer, Inc. ("MASH" or the "Firm"), 1 a member of the National Association of Securities Dealers, Inc. ("NASD"), appeals from NASD disciplinary action. The NASD found that Jawitz entered fictitious limit orders, improperly prevented the execution of customer limit orders, and caused transactions that were not bona fide to be reported to the Nasdaq Stock Market, in violation of Conduct Rules 2110, 2120, and 3310 and an NASD rule interpretation, IM 2110-2. 2 The NASD censured Jawitz, suspended him from association with a member for a total of one year, fined him $50,000, and required him to requalify by Series 55 examination before entering the industry again as anequity trader. 3 We base our findings on an independent review of the record.
Jawitz, as a MASH trader, made a market in thirty securities traded on Nasdaq. His compensation, which included a bonus that could exceed his salary, was highly dependent on his ability to control his trading positions and on the profitability of the proprietary account he managed. According to Jawitz, the limit order protection function of MASH's order routing and execution system prevented Jawitz from controlling his inventory. The operation of the system resulted in the Firm's taking a trading position opposite to the one that Jawitz wanted for his proprietary account. Thus, in the previous example, MASH's attempted purchase of 1,000 XYZ shares for Jawitz's proprietary account was offset by its obligation to sell 1,000 XYZ shares to fill the existing customer limit order. To the extent Jawitz wanted to reduce a short position in XYZ stock, his efforts were frustrated.
Jawitz began to explore ways to avoid the operation of the Manning Rule and MASH's system. Initially, Jawitz attempted to reprogram his trading computer to "pay-up", i.e., to offer to execute market orders at prices that improve upon the limit-order prices and thereby outbid them. 9 He claimed, however, that he could notreprogram his computer terminal quickly enough to avoid buying or selling, at the price-improved level, a greater quantity of securities than he sought. According to Jawitz, the single time that he attempted to reprogram his terminal to pay up, he lost $4,000 for MASH's proprietary account.
Jawitz then determined that he could circumvent the Firm's routing system by entering fictitious limit orders in the name of other firms and then canceling any resulting trades. 10 For example, on August 11, 1995, at 10:29, MASH accepted a limit order to sell 300 shares of Zing Technologies, Inc. ("ZING") at a price of $14 per share. Roughly two minutes later, Jawitz entered on behalf of Wilson-Davis & Company, another broker-dealer, a limit order to sell 3,000 shares of ZING at $13.875 per share. Wilson-Davis neither knew about nor authorized the entry of this limit order. At 15:04, while both of the earlier limit orders to sell remained unfilled, Jawitz had MASH sell 1,000 shares of ZING at $14.125 per share from its proprietary account.
Had Jawitz not entered the fictitious limit order, MASH would have been required to buy, from the customer that had placed the legitimate limit order, 300 of the 1,000 ZING shares that it had just sold, partially undoing Jawitz's apparent goal of reducing MASH's inventory position. Moreover, by preventing the execution of the legitimate limit order, Jawitz avoided having to make the order flow payment that would otherwise have been required if the limit order had been executed. The customer limit order to sell 300 ZING shares at $14 expired without being executed.
On May 25, 1995, at 10:11, a customer entered a limit order to sell 12,000 shares of Churchill Technology Inc. at $.75 per share. At 10:36, Jawitz entered a limit order to sell 15,000 Churchill shares at $.72 per share purportedly on behalf of Wilson-Davis, without Wilson-Davis's authorization or knowledge. At 10:44, a customer entered a second limit order to sell 12,000 shares of Churchill at $.7343. In five trades between 10:37 and 10:45, Jawitz sold from MASH's proprietary account a total of 12,100 Churchill shares at $.75 per share. As a result of these later trades, MASH's trading system partially executed Jawitz's fictitious limit order by buying 12,100 Churchill shares from Wilson-Davis at $.72 in four transactions on May 25, 1995, between 10:37 and 10:45. These four transactions were reported to the public, through ACT, between 10:45 and 10:48. At 10:48, Jawitz canceled these later transactions.
As a result of Jawitz's machinations, MASH's inventory was reduced by 12,100 Churchill shares. If the fictitious limit order had not been entered, Jawitz's proprietary account would have remained long 12,100 shares because MASH would have been required to buy the shares offered in the legitimate limit orders to sell at $.75 and below, when it sold 12,100 Churchill shares at $.75. Moreover, MASH was relieved of the obligation to provide payment for order flow that it otherwise would have been required to make in connection with the execution of the legitimate limit orders. Both legitimate limit orders, at $.75 and $.7343, were canceled at 10:43 and 10:54, respectively.
Between May 25, 1995 and March 19, 1996, Jawitz entered 184 fictitious limit orders on behalf of other firms. These firms were unaware of Jawitz's actions and never authorized Jawitz to place such orders. By placing these fictitious orders, Jawitz prevented the execution (either partial or complete) of approximately 75 customer limit orders placed in MASH's trading system.
In addition to affecting the proper execution of existing limit orders, Jawitz's actions resulted in false trading information being disseminated to the market. MASH's trading system entered approximately 309 partial executions of fictitious limit orders into ACT. 12 Of these, approximately 236 transactions that were not bona fide were automatically reported, through ACT, to the public.
B. Conceding that he made an "enormous mistake," Jawitz does not dispute that he engaged in the conduct described above. He also concedes that he violated NASD Conduct Rules 2110 and 3310 and IM-2110-2. 13 The evidence supports the NASD's findings of violation of those provisions.
Jawitz disputes, however, the NASD's determination that he violated Conduct Rule 2120, which prohibits NASD members and their associated persons from effecting securities transactions "by means of any manipulative, deceptive or other fraudulent device or contrivance." As support, Jawitz notes that the NASD's Market Regulation Committee ("MRC"), which conducted the initial hearing, found that, while Jawitz knowingly entered fictitious orders into MASH's trading system, he did not do so "with an intent to manipulate or defraud." Jawitz further notes that the MRC expressly credited Jawitz's testimony that, in acting as he did, he was attempting to manage his trading positions.
The NASD's National Adjudicatory Council ("NAC") reversed the MRC's dismissal of the allegations regarding Rule 2120, finding thatJawitz's conduct was "intentional and deceptive" and, hence, done with scienter. We agree with the NAC.
Jawitz acted to prevent execution of limit orders that were entitled to execution. In fact, as a result of Jawitz's actions, seventy-five limit orders that should have been executed by MASH were not. These limit orders were later canceled or expired.
Jawitz used deceptive and fraudulent means to control his inventory, increase the profitability of MASH's proprietary account, and avoid the execution mandated by the Manning Rule and MASH's own policy concerning competing limit orders. 17 Although Jawitz equates what he did to the permissible practice of "paying up," 18there are important distinctions between the two. Paying up results in the contra party getting price improvement on its order, while the practice Jawitz engaged in need not have that result. 19 Moreover, paying up does not involve the injection of false order (and potentially false trading) information into the market, as does the entering of fictitious limit orders.
Jawitz contends that the NAC violated "principles of due process and fundamental fairness" because the NAC reviewed the MRC's dismissal of allegations that he committed fraud. Jawitz argues that, because he did not appeal the MRC's dismissal of these allegations and the NAC did not call for review those findings within the 45-day period specified in Rule 9312 of the NASD's Code of Procedure, the NAC lacked the authority to consider them on appeal. 23 Jawitz cites Rule 9348 of the NASD's Code of Procedure, whichprovides that "[i]n any appeal or review proceeding . . . the [NAC] may affirm, dismiss, modify, or reverse with respect to each finding, or remand the disciplinary proceeding with instructions . . . ." He claims that this provision precludes the NAC from reviewing any findings not challenged on appeal or called for review. We disagree. Rule 9312 authorizes the NAC to call "decisions," not findings, for review if the decision has not otherwise been appealed.
Regardless of whether a decision is called for review by the NAC or whether it is appealed by an affected party, once that decision is on appeal, the NAC, pursuant to Rule 9348, has broad discretion to review any finding within that decision provided it gives the parties notice that it is doing so. 24 Thus, the NAC, in a letter dated several months before the hearing was held, advised the parties that they "should be aware that the NAC may affirm, reverse, or modify any of the findings made by the [MRC] and/or affirm, increase or decrease the sanctions imposed by the [MRC]."
Jawitz further claims that the NASD staff acted improperly in addressing the MRC's dismissal of the fraud charges in its brief before the NAC. He argues that, under the procedural rules in effect at the time of this proceeding, the MRC staff did not have the authority to challenge a decision by the MRC. In addition, Javitz notes that Rule 9347 of the Code of Procedure provides that the briefs of the parties must be "confined to the particular matters atissue." 25 He asserts that whether his conduct constituted fraud was not "at issue" when the staff's brief was filed.
The NAC rejected Jawitz's claim that it could not consider the fraud allegations, 26 but granted Jawitz's requests to postpone the hearing and the briefing schedule to afford Jawitz sufficient time to prepare his response. Both parties thereafter filed briefs discussing the merits of the staff's antifraud allegations.
We believe the NAC acted within its authority in reviewing the MRC's dismissal of the fraud allegations, and we conclude that Jawitz was not prejudiced by the staff's efforts to raise this issue. The NAC clearly could have determined to review the MRC's dismissal of the fraud allegation based solely on its review of the complaint and the hearing transcript (which included the staff's opening and closing statements mirroring many of the arguments made in the challenged brief). 27 We therefore find no unfairness in Jawitz's treatment by the NASD.
Jawitz claims that the sanctions the NASD imposed are excessive and should be vacated or significantly reduced. He contends that, in calculating the fine it imposed, the NASD improperly failed to deduct restitution and other amounts Jawitz already had paid in connection with this matter. 28 Jawitz further claims that, in light of his age, 29 the length of the suspension effectively amounts to a permanent bar from the industry, and is punitive rather than remedial. Additionally, Jawitz asserts that he cooperated with MASH and the NASD during the investigation of this matter, that he has admitted his misconduct, that he has an otherwise unblemished disciplinary record, and that he has shown "genuine remorse."
The regulatory obligations involved in this case are important. As we previously have held, when a firm accepts a customer's limit order, it assumes "certain fiduciary obligations," 30 and the manner in which it handles limit orders "affects the fundamentals of the broker-dealer-customer relationship." 31 Jawitz's actions had the effect of depriving customers on over seventy occasions of the trade execution to which they were entitled.
Jawitz's misconduct occurred over an extended period. Although he ultimately cooperated with the investigation of this matter, hiscooperation did not begin until after MASH discovered what he was doing. Jawitz's misconduct was highly improper, particularly in light of his roughly 30-year career in the industry. Considering his experience, Jawitz clearly should have known better than to place his own interests ahead of the interests of customers and of the integrity of the market.
Jawitz blamed his actions primarily on regulatory and computer system changes, i.e., the Manning Rule and MASH's automated trading system, that made it difficult for him to manage his trading positions and generate a profit. Technological and regulatory change, however, is endemic to the securities industry, especially today. The industry cannot tolerate securities professionals who respond to change by circumventing their regulatory obligations.
By the Commission (Acting Chairman UNGER and Commissioners HUNT and CAREY).
ORDERED that the disciplinary action taken by the National Association of Securities Dealers, Inc. against Michael B. Jawitz, and the Association's assessment of costs, be, and they hereby are, sustained.
1 Jawitz resigned from MASH in early April 1996 following discovery of the conduct at issue in this case. Jawitz subsequently was hired as a trader by Wien Securities Corp, where he currently is employed.
2 Rule 2110 requires that members "observe high standards of commercial honor and just and equitable principles of trade." IM-2110-2, Trading Ahead of Customer Limit Order, defines conduct inconsistent with just and equitable principles of trade to include a firm accepting and holding limit orders in a Nasdaq security when it "continues to trade the subject security for its own market-making account at prices that would satisfy the customer's limit order, without executing that limit order . . . ." Conduct Rule 2120 provides that "[n]o member shall effect any transaction in, or induce the purchase or sale of, any security by means of any manipulative, deceptive or other fraudulent device or contrivance." Conduct Rule 3310 prohibits the reporting of non-bona fide trades or quotations. Conduct Rule 0115 provides that associated persons "shall have the same duties and obligations as a member under" the Conduct Rules.
3 The NASD also assessed costs.
The NASD stated that it apportioned the suspension and fine as follows: six months and $25,000 for entering fictitious limit orders; three months and $10,000 for the publication of non-bona fide transactions; and three months and $15,000 for the limit order protection rule violations. The suspensions are to run consecutively.
4 See n.2, supra, and Order Approving Proposed Rule Change by the National Association of Securities Dealers Relating to Handling of Customer Limit Orders, Sec. Exch. Act Rel. No. 34279 (June 29, 1994), 57 SEC Docket 39.
The term is a reference to E.F. Hutton & Co., 49 S.E.C. 829 (1988), in which the Commission held that a firm violated its fiduciary duties to a customer, William Manning, who had placed a limit order to sell a security, when the firm sold shares of that security at prices above the limit price. IM-2110-2 was adopted following this decision.
5 During the period at issue, May 1995 through March 1996, MASH's policy was to provide limit order protection to all orders the Firm accepted, whether placed by its own customers or the customers of other NASD members, although, until June 21, 1995, IM-2110-2 required only that MASH provide such protection to MASH's own customers. See Order Approving Rule Change by National Association of Securities Dealers, Inc. Relating to Limit Order Protection and Nasdaq, Exchange Act Rel. No. 35751 (May 22, 1995), 59 SEC Docket 1185.
6 The Manning Rule required only that the protected limit order be executed for the number of shares that MASH had traded for its own account. For example, if MASH held a limit order to buy 500 shares of XYZ at $20.25 and purchased 200 shares of XYZ at $20.125 in its market-making capacity, it needed to execute only 200 shares of the limit order at $20.25. See Special NASD Notice to Member 95-43 (June 5, 1995) at 309.
7 See generally Special NASD Notice to Members 95-43 at 305-6.
8 According to Jawitz, "buying at 5 and paying three cents and selling at 5 and paying three cents, you're going to owe personally at the end of the month a fortune."
9 See Special NASD Notice to Members 95-43 at 308 and NASD Notice to Members 97-57 (Sept. 1997) at 459-60. For example, if, in a market where the inside quotations are $10 bid and $10.25 offer, one customer enters a limit order to buy 500 shares of stock at $10 per share and another customer enters a marketorder to sell 500 shares, a firm can execute the market order anywhere within the inside market (between $10.00 and $10.25) and avoid having to execute the limit order in accordance with the Manning Rule.
10 In his brief to us, Jawitz seems to challenge the NASD's use of the term "fictitious" to describe the limit orders he entered into MASH's trading system. However, at the beginning of the NASD's hearings, his attorney stated that Jawitz would not contest the complaint's allegation that he entered "184 fictitious limit orders."
11 ACT is an automated system operated by Nasdaq, among other things, to transmit trading information to ACT participants for clearance and settlement purposes, and to disseminate such information to the public. See NASD Systems and Programs Rule 6110.
12 The NASD noted that, although cause one of the complaint in this case stated that Jawitz caused 309 partial executions to be reported to ACT, it did not specifically allege the ACT reporting as a separate violation. The NASD therefore made no finding of violation with respect to MASH's reporting to ACT of the 309 partial executions. We also make no finding of violation with respect to that aspect of the case.
14 Although we are not rejecting the MRC's credibility finding, we note that, while such findings are "are entitled to considerable weight," Anthony Tricarico, 51 S.E.C. 457, 460 (1993), they may be rejected where there is "'substantial evidence' for doing so." Valicenti Advisory Services, Inc., 53 S.E.C. 1033, 1039 (1998) (rejecting law judge's finding, based on credibility assessment, that respondent acted in good faith), aff'd, 198 F.3d 62 (2d Cir. 1999).
15 Cf. Newton v. Merrill, Lynch, Pierce, Fenner & Smith, Inc., 135 F.3d 266, 273 (3d Cir. 1998) (noting that a broker-dealer, by accepting a market order, impliedly represents that the order will receive "best execution," and that a broker-dealer who accepts such an order while intending to breach that duty makes a misrepresentation that is material to the purchase or sale).
16 See Basic v. Levinson, 485 U.S. 224, 240 (1988) ("materiality depends on the significance the reasonable investor would place on the withheld or misrepresented information); Hollinger v. Titan Capital Corp., 914 F.2d 1564, 1570 n.12 (9th Cir. 1990) (information is material if a reasonable investor would consider it important to her decision to do business with a registered representative), cert. denied, 499 U.S. 976 (1991); SEC v. Rogers, 790 F.2d 1450, 1458 (9th Cir. 1986)(deeming information material if "there is a substantial likelihood that a reasonable investor would consider the information important in making an investment decision." (quoting Caravan Mobile Home Sales, Inc. v. Lehman Bros. Kuhn Loeb, Inc., 769 F.2d 561, 565 (9th Cir. 1985)). See also TSC Industries, Inc. v. Northway, Inc., 426 U.S. 438, 450,(1976) ("materiality may be characterized as a mixed question of law and fact, involving asit does the application of a legal standard to a particular set of facts"). We conclude that a reasonable customer placing a limit order would want to know whether Jawitz was attempting to defeat the limit order protection the customer otherwise would receive.
17 Jawitz testified, during the NASD's investigation, that he entered "erroneous orders" to "cut [his] position." He was then asked whether he acted to "avoid the obligation to fill" limit orders, to which he responded: "That's exactly what I did. And that's exactly why, I guess, we're here."
18 See n.9 and accompanying text.
19 The record indicates that contra parties received price improvement on their orders as a result of Jawitz's entry of fictitious limit orders in fewer than ten percent of the transactions at issue in this case.
20 MASH withheld $80,000 of Jawitz's salary and bonus after discovering his misconduct. MASH paid $64,680.50 to affected customers, and retained the remainder.
21 "Scienter may be shown through intentional or reckless conduct." Coastline Financial, Inc., Exchange Act Rel. No. 41989 (Oct. 7, 1999), 70 SEC Docket 2444, 2449, and the authority there cited.
22 See Basic v. Levinson, 485 U.S. at 246 (noting that Congress, in enacting the Exchange Act, sought to "facilitate an investor's reliance on the integrity of [the securities] markets").
Jawitz argues that this case is distinguishable from Walter T. Black 50 S.E.C. 424, 426 (1990). In that case, we found that a trader who entered fictitious trade reports in five Nasdaq securities to deceive his firm committed fraud despite lacking an intent to manipulate the market. Jawitz argues that, unlike Black, he had no intent to mislead market participants regarding the state of the market. However, Black, sought to mislead his employer regarding his performance as a trader, as did Jawitz. Our decision to hold Black liable was based on the fact that he, like Jawitz, was aware that his actions caused false trading information to be disseminated to the public.
Jawitz also argues that we declined to find a violation of Exchange Act Section 10(b) in Peter Martin Toczek, 51 S.E.C.781 (1993), where the respondent was "managing his position." Toczek, however, was charged solely with manipulation. We concluded that there was no showing that the respondent had acted with manipulative intent.
In Richard D. Chema, 53 S.E.C. 1049 (1998), the respondent argued that certain over-the-counter "wash trades" -- i.e., securities transactions involving no change in beneficial ownership -- did not violate Section 10(b) of the Securities Exchange Act and Rule 10b-5 thereunder because there was no showing that the customer intended to mislead investors. We held, however, that it was not necessary to find that an actor had acted with manipulative intent in order to conclude that his wash sales violated Exchange Act Section 10(b). Rather, "[i]t [was] sufficient if [he] engaged in a course of conduct that operated as a fraud or deceit as to the nature of the market . . . ." Id. at 1054. Here, Jawitz's actions "distorted investors' perception of the market" and "creat[ed] a false appearance of enhanced activity." Id. See also Adrian C. Havill, 53 S.E.C. 1060, 1066 ("[W]ash trades also operated as a fraud and deceit on the marketplace by creating a deceptive appearance of market activity, accomplished by an intentional interference with the free forces of supply and demand.").
23 Jawitz also complains that the NASD issued a notice to members in December 1997 that falsely stated that Jawitz had been sanctioned by the MRC based on findings that he "engaged in manipulative, deceptive, and fraudulent conduct�. . . ." This notice, which the MRC staff had no role in preparing and whichwas subsequently corrected, had no bearing on the NASD's consideration of this case, and is irrelevant to the issues herein.
24 In addition, although Rule 9311(e) of the Code of Procedure authorizes the NAC, "in its discretion, [to] deem waived any issue not raised in the notice of appeal or cross-appeal," it also expressly provides a procedure to be followed in the event the NAC determines to consider an issue that "was not previously set forth in the the notice of appeal." See also Timothy L. Burkes, 51 S.E.C. 356, 359 (1993) (noting that the NASD's National Business Conduct Committee, the predecessor to the NAC, conducts a de novo review), aff'd, 29 F.3d 630 (9th Cir. 1994) (Table).
25 Jawitz also notes that the NAC, in two briefing orders, directed the parties to "file briefs addressing the particular matters at issue."
26 The NAC also denied Jawitz's motion to disqualify the NAC subcommittee presiding over the appeal. Citing Rule 9332 of the NASD's Code of Procedure, which provides for the withdrawal of any NAC member that "has a conflict of interest or bias or circumstances otherwise exist where [his] fairness might be reasonably questioned," Jawitz argues that the subcommittee had been tainted because it had read the staff's "offending" and "illegal" brief -- i.e., a brief addressing whether Jawitz had committed fraud that was filed before the NAC took review of this issue. The NAC subsequently struck portions of the staff's brief that addressed the fraud allegations.
Jawitz argues that a new "untainted" subcommittee should have been appointed. We disagree. Since it was permissible for the NAC to consider the matter and to review relevant filings by the parties, we do not believe that the fairness of the subcommittee was compromised.
27 Jawitz also complains that the MRC staff improperly appealed the decision of the MRC not to bar Jawitz. In light of the NAC's refusal to impose a bar, we do not believe that Jawitz was prejudiced.
29 Jawitz was born in 1940.
30 E.F. Hutton & Co., 49 S.E.C. at 832.
32 Exchange Act Rel. No. 34279 (June 29, 1994), 57 SEC Docket at 40-41. We further observed that the Manning Rule could enhance market liquidity, tighten the spreads between the bid and ask price, and improve price discovery. Id.
33 Jawitz further challenges the NASD's assessment of hearing costs associated with both the MRC and NAC hearings. As support, he notes that the only allegation he challenged before the MRC was dismissed. While Jawitz eventually conceded many of the allegations in this case, he did not do so until commencement of the MRC hearing. Moreover, we have determined to sustain the NAC's decision to reverse the MRC's dismissal of the fraud allegation.
Jawits also argues that the NASD acted arbitrarily in assessing costs because it failed to provide "any objective framework within which to determine whether an assessment of costs [was] warranted." The NASD's Code of Procedure authorizes the assessment of "fair and appropriate" costs. See Article IV, Section 2 of the NASD Code of Procedure (old rule) and Procedural Rule 8330 (new rules). The MRC assessed an administrative fee of $300 and $1,012.85 for transcripts, and the NAC assessed an addition $1,256.75 in appeal costs. We consider the NASD's assessment of costs to have been "fair and appropriate."
34 The NAC noted that it was not ordering restitution in light of MASH's retention of $80,000 of Jawitz's compensation, the bulk of which MASH used to compensate customers who were harmed by Jawitz's conduct. The NAC noted that, had Jawitz not already provided compensation, it would have ordered him to pay restitution in addition to the fine it assessed.
Fines and restitution serve different purposes. As a result, the fact that a respondent has paid restitution in no way precludes assessment of a fine. See, e.g., Hibbard, Brown & Company, Inc., 52 S.E.C. 170, 183 n.65 (1995) (restitution prevents "a wrongdoer from being unjustly enriched by his wrongdoing, or requires a wrongdoer to restore his victim to the status quo ante. A fine is normally imposed as a deterrent against future misconduct."), aff'd, 92 F.3d 1172 (3d Cir. 1996) (Table).
35 We have considered all of the arguments advanced by the parties. We reject or sustain them to the extent that they are inconsistent or in accord with the views expressed in this opinion.

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