Lessons in the art of seduction

Friendship can be a wonderful thing – but maybe not with your broker.

That’s what orthodontists Alan and Mimi Vella, both 68, say they’ve learned.

The New Jersey couple says their PaineWebber Inc. broker took them to the cleaners after they took him to dinner.

A complaint the couple filed in June with the National Association of Securities Dealers charges that broker Michael Prokop racked up $600,000 in commissions through unethical trading after gaining their confidence.

While the NASD has yet to rule on the Vellas’ complaint, this case, and others filed with the NASD and with various state regulators, raises a red flag on the dangers inherent when broker-client relationships become too friendly.

They also highlight signs investors can look for and steps they can take, before an overly friendly broker turns into an investment nightmare.

“You should heighten your degree of concern when you have a broker that appears to be aggressively attempting to get closer to you personally,” says Vincent DiCarlo, a Sacramento, Calif., attorney who represents both brokers and investors.

“It may just be a situation where he’s trying to do you a favor; some people are just kind, but that would make me a little suspicious,” he says.

At their bedside

For the Vellas, it took about 17 years to get suspicious. Mr. Prokop became their broker after calling them out of the blue in the early 1980s while he was at Lehman Brothers, according to the Vellas.

“We had a business relationship up until about 1991, and then I had a [hunting] accident,” Dr. Alan Vella says.

“I was out of work for about a year. I was in the hospital nine times with nine operations. He would come over to visit and became a personal friend, a very close personal friend. I would rely on him the way I would rely on my brother or my wife.”

The couple says they became even closer to Mr. Prokop, especially after Dr. Mimi Vella developed breast cancer.

To cheer her up, her husband says, he invited Mr. Prokop and his associates out to dinner at a restaurant in New York in 1998. The dinner was also supposed to celebrate the success that the Vellas say Mr. Prokop told them he was having with their portfolios.

The Vellas claim that the dinner took place at about the time that Mr. Prokop and his associates began to churn stocks within the account and switch the couple in and out of different funds – all to generate higher than normal commissions.

Mr. Prokop could not be reached for comment, and a spokesman for PaineWebber in New York refused to address the complaint.

The complaint is pending before the NASD and remains unresolved, but lawyers familiar with investor complaints say it’s a good illustration of what both brokers and investors should do if they want to avoid going before an NASD review board.

Alan Vella says the biggest lesson he learned is not to get too close to your broker. He has since moved his accounts to Merrill Lynch & Co. Inc. in New York.

Asking questions

Just because a broker happens to be a friend doesn’t necessarily mean that person will turn on you, says Mr. DiCarlo. You should be suspicious of a broker who suddenly wants to be your buddy though, he says.

Investment experts say investors can safeguard themselves simply by being aware of the pitfalls inherent in friendly relationships.

The Securities and Exchange Commission, for example, has no rules barring brokers from becoming friends with their clients, says John Heine, a spokesman.

But SEC Chairman Arthur Levitt has provided some advice that is applicable, Mr. Heine says.

“Investors should ask their broker questions,” he says. “Ask how he’s compensated, ask him why he’s recommending this rather than that. Whether that’s going to be the end of a beautiful friendship is hard to tell, but as an investor you have certain responsibilities to be informed.”

Joe Borg, director of the Alabama state Securities Commission, says investors can also protect themselves by having an accountant, lawyer, or even another broker look over their investment portfolio.

Such precautions seem simple, but most people aren’t informed investors; a look at complaints filed with the NASD and elsewhere illustrates the point. One such case resolved by the NASD in 1998 involved Daniel Write Sisson, a broker from Menlo Park, Calif.

Mr. Sisson was fined $35,000 and was suspended for 10 days from contact with any other NASD member.

According to the complaint, Mr. Sisson, then a broker at Portsmouth Financial Services in San Francisco, churned the accounts of at least two clients, generating $52,000 in commissions over 18 months.

Both clients, novice investors, considered Mr. Sisson a good friend.

According to the complaint, in one instance, a widow took over the family account following the death of her husband, although she did not fully understand the activity or level of risk present in the account.

That didn’t stop Mr. Sisson, however. He continued with the aggressive trading strategy he had implemented when her husband was alive.

Another case that landed before a district court judge in Colorado Springs, Colo., and eventually caught the attention of federal regulators, involved elderly investors who were margin trading.

Although the strategy was legal, state authorities said they believed it inappropriate for the investors.

In August a judge found in favor of the clients and ordered the broker, William Lee Jeffers, formerly with D.E. Frey & Co. Inc. in Denver, to pay them $28,000.

Things worsened for Mr. Jeffers and his brokerage firm in September when Frey agreed to pay a $100,000 civil penalty to settle charges brought by the SEC stating the firm was too lax with supervising its brokers. Mr. Jeffers also consented to a ban from the securities industry.

One of the women involved in the case, Jeanne Matthews, said at the time of the ruling in August that she originally gave Mr. Jeffers $50,000 to invest in because he was a friend, and she trusted him.

“He’s a great schmoozer,” Ms. Matthews was quoted as saying. “When my husband died [Mr. Jeffers] said, `Oh, I’ll take care of you,’ but I was stupid.”