Know Whether Or Not You Are Making A "Recommendation"

e recently encountered a situation in which a rep did not understand that he had been making "recommendations" to his customer, for purposes of designating the trades solicited or unsolicited. Misunderstanding the rules, the rep consistently designated the trades unsolicited when, in fact, they were solicited.

The rep and the customer typically would interact in two ways. First, the customer would approach the rep with stocks that the customer was considering. The rep then would research the ideas and opine to the customer as to whether the stock ideas were good ones. If the rep opined that a particular stock idea were a good one, the customer would direct the rep to purchase shares in that stock.

The second interaction was that the rep would propose several companies at once in a particular industry for the customer's consideration. The customer would consider the suggestions. He then would direct the rep as to which stocks, if any, to purchase.

In both cases, the rep should have marked the trades solicited. Certainly, the meaning of the term "recommendation" is subject to some debate. Or, in the words of the rep attempting to defend his actions, there are "a lot of gray areas".

Nonetheless, with respect to the second interaction discussed above, the NASD clearly would view that interaction as being a "recommendation". NASD Notice to Members ("NTM") 96-60 defines the term as follows: A broad range of circumstances may cause a transaction to be considered recommended, and this determination does not depend on the classification of the transaction by a particular member as solicited [recommended] or unsolicited [not recommended]. In particular, a transaction will be considered to be recommended when the member or its associated person brings a specific security to the attention of the customer through any means, including but not limited to, direct telephone communication, the delivery of promotional material through mail, or the transmission of electronic messages.

Note that the inquiry is whether or not the rep brought the stock idea to the customer's attention "through any means", including delivery of promotional material.

Likewise, with respect to the first interaction between the rep and the customer which we discussed above (in which the rep researches and reports on the customer's stock ideas), the NYSE clearly would view that interaction as being a recommendation. For example, NYSE Interpretive Memo No. 90-5 (August, 1990) provides that the term "recommendation", used in NYSE Rule 472 ("Communications with the Public"), "includes any advice, suggestion, or other statement, written or oral, that is intended, or can reasonably be expected, to influence a customer to purchase, sell or hold a security".

Applying that principle to our example, the rep's research clearly would be viewed as influencing the customer to purchase the stock. It is irrelevant that the customer had the stock idea initially. As a regulatory matter, after researching the customer's stock idea and reporting to the customer a favorable opinion, the rep was "recommending" the purchase.

Reps need to remember these points and designate the orders accurately. Notably, failure to do so may result in disciplinary action. For example in one disciplinary decision, the NYSE censured and fined the rep because he incorrectly had marked an order ticket unsolicited. The NYSE found that conduct to be inconsistent with just and equitable principles of trade. So be careful in designating your trades!

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James J. Eccleston is a securities attorney, representing investors as well as brokers and brokerage firms nationwide in arbitration, litigation and regulatory matters. He is a past co-chair of the Chicago Bar Association's Securities Law Committee, a past chair of its Financial and Investment Services Committee, a registered investment advisor and a licensed securities principal of the National Association of Securities Dealers (NASD). He maintains an informative website at www.FinancialCounsel.com. He is an equity partner with Shaheen, Novoselsky, Staat & Filipowski and can be reached at 312-621-4400.