Merrill Lynch sold Strategic Return Notes (“SRNs”) to retail investors through Bank of America during the period 2010-2011. These investments have lost more than 90% of their value due to undisclosed costs, and Merrill Lynch is the subject of numerous lawsuits, and a Securities Exchange Commission (SEC) investigation.
How Did Merrill Lynch’s Strategic Return Notes Work
During the period 2010-2011, Merrill Lynch (owned by Bank of America) sold investment funds known as Strategic Return Notes (SRNs). The company sold $150 million of these notes to approximately 4,000 retail investors. These complex investment notes do not pay interest but instead have a maturity of five years, and pay a variable return based upon the performance of a proprietary volatility index (“VOL”).
The investment offer by Merrill Lynch failed to adequately disclose certain fixed costs, and in fact made it appear as if the product had relatively low fixed costs. Merrill Lynch’s material emphasized that investors would be subject to a 2% sales commission and a 0.75% annual fee. The material failed to disclose a third fixed, regularly occurring cost included in its proprietary volatility index known as the “Execution Factor”.
The Execution Factor increased the cost of each unit by 1.5%. Because the hypothetical portfolio the VOL was calculated turned over each quarter, the Execution Factor imposed a cost of 1.5% on the Index each quarter. The Index also included a feature called the Index Multiplier which increased the daily Index calculation by 120% including the effect of the Execution Factor.
According to the Securities and Exchange Commission: "A reasonable retail investor would have considered it important to the total mix of information available when purchasing the SRNs that the Execution Factor imposed a transaction cost of 1.5% of the Index value each quarter, accruing on a daily basis.
Merrill Lynch’s failure to adequately include the Execution Factor rendered the cost disclosures relating to the fixed 2% sales charge and 0.75% Index Adjustment Factor materially misleading. . . . As a result of the negligent conduct described above, Merrill Lynch violated Section 17(a)(2) of the Securities Act which prohibits obtaining money or property by means of material misstatements and omissions in the offer or sale of securities."
The SEC ordered Merrill Lynch to cease and desist from committing similar violations in the future, and the brokerage company agreed to pay a $10 million penalty to settle charges that clients were misled about the investments. The Financial Industry Regulatory Authority also fined the company for negligent disclosure failures over the sale of the notes. To read the SEC order, click: SEC Findings
Merrill Lynch SRN Whistleblowers
In August 2011, Merrill Lynch brokers Glen Ringwall and Mark Manion recorded phone calls with Brian Partridge, head of U.S. product sales for Merrill’s wealth-management division at the time, and also Mark Ryan, a manager at the firm Ringwall and Manion worked.
Ringwall and Manion were complaining that the Strategic Return Notes had been devastating to their clients, and stated “This is borderline crooked.” Partridge disagreed. He admitted the costs were higher than expected, but claimed it was due to market conditions. He claimed the investors were on the wrong side of the market, stating: “We’ve been, quite frankly, snake bitten.”
Ringwall and Manion were told not to suggest to their clients the product was flawed. “We can’t just tell everyone, ‘Hey this is a defective product’”, Ryan told them.
Both Ringwall and Manion eventually ceased employment with Merrill Lynch and began working with UBS in July 2012. They submitted a whistleblower complaint with the SEC in September 2013.
Merrill Lynch SRN Lawsuit NewsMerrill Lynch Paying $10 Million Penalty for Misleading Investors in Structured Notes
The Securities and Exchange Commission today announced that Merrill Lynch has agreed to pay a $10 million penalty to settle charges that it was responsible for misleading statements in offering materials provided to retail investors for structured notes linked to a proprietary volatility index. To read more, click Securities and Exchange CommissionSEC Readies Case Against Merrill Lynch Over Notes That Lost 95%
The Securities and Exchange Commission is preparing a civil enforcement case against Merrill Lynch over an investment that fell as much as 95% in value and was marketed in a way that one of the firm’s financial advisers called “borderline crooked,” people close to the probe said. To read more, click Wall Street JournalMerrill Lynch Likely Facing a Lawsuit After A Product Lost As Much As 95% of its Value
The Securities and Exchange Commission is readying a civil enforcement case against the firm for an investment that lost as much as 95% of its value, according to the Wall Street Journal citing people familiar with the matter. The case deals with a set of the bank’s structured notes, a custom-made debt security built with options and other derivatives. Merrill raised $150 million by selling the Strategic Return Note over several months in 2010. But as a result of market volatility, the five-year notes quickly lost their value while the cost associated with buying the options tied to the note rose. To read more, click Fortune