By Andrew Welsch

Morgan Stanley agreed to pay $15 million to settle allegations that it failed to prevent and detect theft committed by four of its former financial advisors, the Securities and Exchange Commission said.

The regulator said the four advisors, all of whom have been barred from the industry, had executed hundreds of unauthorized transactions and stolen millions of dollars from clients. The company's policies and procedures failed to detect and prevent the advisors from using two types of unauthorized third-party disbursements to misappropriate funds from client accounts, the SEC alleged.

"Safeguarding investor assets is a fundamental duty of every financial-services firm, but [Morgan Stanley's] supervisory and compliance policy failures let its financial advisors make hundreds of unauthorized transfers from their customer and client accounts and put many other such accounts at significant risk of harm," said Sanjay Wadhwa, acting director of the SEC's Division of Enforcement.

In settling the matter, Morgan Stanley neither admitted nor denied the allegations, according to the SEC.

A company spokeswoman said in a statement: "These were isolated events, each of which occurred several years ago. We take these incidents very seriously and have since enhanced our control framework, working in conjunction with an outside expert. We pride ourselves on putting clients first, and in each instance, when we learned of the wrongdoing, we conducted an internal investigation, terminated the wrongdoers, reported them to the proper authorities and worked with affected clients to compensate them for any harm."

The SEC's regulatory order credits Morgan Stanley with "substantial cooperation" and with compensating the advisors' victims. The company also retained a compliance consultant to review its policies and procedures.

Morgan Stanley is one of the nation's largest wealth management companies, with more than 10,000 advisors and roughly $6 trillion in assets.

The SEC and prosecutors have pursued separate legal cases against the now-barred advisors at the heart of the settlement: Michael Carter, Chingyuan "Gary" Chang, Douglas McKelvey, and Jesus Rodriguez.

In July 2020, the SEC filed a lawsuit against Carter for allegedly stealing from brokerage customers and an elderly advisory client. That same month Carter pleaded guilty to federal charges of wire fraud and investment adviser fraud in connection with a scheme to steal more than $6 million, according to the U.S. Attorney's Office for the District of Maryland. Carter was later sentenced to five years in federal prison.

In June 2023, McKelvey pleaded guilty to money laundering charges in a federal court in Plano, Texas. He had misappropriated at least $1.5 million of investor funds to pay for cruises, restaurants, salons, and other personal expenses, according to the U.S. Attorney's Office for the Eastern District of Texas. A federal judge sentenced him to 63 months in prison, according to court records.

In December 2023, the SEC said Chang agreed to settle allegations by the regulator that he had misappropriated approximately $58,000 of customer funds; he repaid the funds, according to the SEC.

In January, the SEC filed a lawsuit in a federal court in El Paso, Texas, against Rodriguez, accusing him of misappropriating about $3.5 million. The case is pending.

The advisors acted independently of each other and Morgan Stanley, which reported suspected fraud to the SEC, according to the regulator. Still, the agency says Morgan Stanley should have had better policies and procedures in place to catch rogue actors. For instance, before December 2022 Morgan Stanley didn't have a policy or procedure to screen externally initiated Automated Clearing House $(ACH)$ payment instructions to detect instances in which an advisor assigned to the account bore the same name as the beneficiary listed in the payment instructions.

As a result, Morgan Stanley missed hundreds of unauthorized ACH transfers between May 2015 and July 2022 from customer accounts to pay the credit card bill of the advisor assigned to the account or to otherwise benefit the advisor, the SEC said.

"Although Morgan Stanley understood such activity was a red flag and in 2015 implemented a third-party fraud detection software system that Morgan Stanley mistakenly believed would, among other things, monitor for such activity, the system had not in fact been designed to detect when such patterns of wire activity had occurred," the SEC's regulatory order states. "Moreover, Morgan Stanley did not perform testing to validate the use of the system for that purpose at any time over the course of the next five years. Morgan Stanley's failure reasonably to monitor for this risk allowed Carter and Rodriguez to misappropriate from the Morgan Stanley accounts of their customers and clients without detection."

Write to Andrew Welsch at andrew.welsch@barrons.com

This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.

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December 10, 2024 12:40 ET (17:40 GMT)

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