An order filed by the federal regulator charged that a Chicago securities dealer whose chief financial officer was a one-time chief financial officer of optionsXpress calls for a hearing into whether that dealer continued to trade as a customer account under optionsXpress’s auspices, after delisting itself from the only market of which it was a member, the Chicago Board Options Exchange.
The firm, called OX Trading, also had “de-registered” itself from SEC supervision, according to the SEC, to “apparently to avoid an audit.”
OX Trading was formed in August 2007, with Thomas E. Stern as its chief financial officer, according to the SEC order instituting administrative and cease-and-desist proceedings involving Stern, OX and optionsXpress.
"There is no clear guidance suggesting that a firm such as OX trading, which is a proprietary trading firm that offered price improvement for optionsXpress customers should be registered as a broker dealer,'' said Trace Schmeltz, a partner in the Chicago office of Barnes & Thornburg, who represents Stern.
OX Trading had no customers and was not a broker, however, said Stephen Senderowitz, a Chicago lawyer representing OptionsXpress.
“The issue that will be presented to the Administrative Law Judge is whether a trading entity whose principal function was to provide price improvement for its affiliate's customers acted as a dealer, which required registration, or as a proprietary trading firm, which did not,’’ Senderowitz said.
OptionsXpress is a separate entity, had nothing to do with OX Trading's registration and does not belong in this case, Senderowitz said.
Thursday’s action follows a separate action taken by the SEC Monday against optionsXpress and Stern, a former CFO of optionsXpress.
In that case, the SEC charged Stern, optionsXpress and three other officials of the online options and futures brokerage of engaging in “an abusive naked short selling scheme’’ involving billions of dollars of sham trades.
Also charged in the case was one customer, Jonathan I. Feldman. In the SEC's order against Stern, Feldman and optionsXpress, the SEC cited violations of Regulation SHO, which prohibits naked short selling.
In the case initiated Thursday, the SEC alleges that OX Trading operated as an unregistered dealer from October 2009 to November 2010 and illegally transacted in securities while not a member of a national securities association or national exchange from March 2009 to November 2010.
According to the SEC’s order, Stern terminated OX Trading’s membership with the CBOE and ended the firm’s broker-dealer registration with the SEC. Meanwhile, OX Trading quietly continued to conduct trading through a customer account at optionsXpress. Stern, who also was OX Trading’s chief compliance officer, later fabricated and backdated an allegedly exculpatory letter purporting to demonstrate that he had properly informed CBOE that OX Trading would deregister and become a customer of optionsXpress.
OX Trading, after it started up, took electronic request for quotes from optionsXpress, allowing OX to “determine if whether it wanted to be the counterparty to an optionsXpress customer’s order.”
OX ceased being a member of the CBOE on March 2, 2009, according to the SEC account. But, the firm continued trading, “but through a customer portfolio margin account at optionsXpress.’’
“OptionsXpress, OX Trading, and Stern have displayed a profound disregard for regulators, compliance obligations, and the regulatory requirements that dealers must satisfy for the privilege of operating in our markets,” Daniel M. Hawke, Chief of the SEC’s Market Abuse Unit, said in a statement.
The allegations against Stern relating to the post-registration conduct were self-reported by optionsXpress after an internal investigation it initiated, according to Senderowitz. Stern was subsequently discharged.
According to the SEC’s order, both OX Trading and optionsXpress became wholly-owned subsidiaries of The Charles Schwab Corporation in September 2011.
OX Trading eventually acquired a CBOE trading permit and registered again with the SEC effective Nov. 16, 2010.
In the period from March 2, 2009 to November 16, 2010, the SEC said OX Trading, however, carried out 1.3 million trades and earned gross profits of $3.5 million in that period, when it was not a member of any exchange or registered with the SEC.
"It's almost clear from the SEC's complaint," said Schmelz, that "they're throwing in allegations against Mr. Stern that are entirely unrelated to the question of whether or not OX Trading needed to be registered.''
Securities Technology Monitor