IL Company Hit with Injunction in Scheme to Divert Investor Assets

March 18, 2008 ( - A federal judge has issued a preliminary injunction against an Oak Brook, Illinois, company and two executives accused of improperly using qualified plan assets and other money in a scheme to support the firm's risky margin trading.

U.S. District Judge James B. Zagel of the U.S. District Court for the Northern District of Illinois issued the injunction against Enterprise Trust Co., President John H. Lohmeier, and Vice-President Rebecca A. Townsend. Zagel’s order issued late last week converted his previously issued temporary restraining order into the injunction barring the defendants from any further securities laws violations, freezing the firm’s assets, and mandating the defendants provide investigators with records of remaining assets.

The court had already appointed an outside receiver to run Enterprise, according to court records.

In its March 3 lawsuit against Enterprise, Lohmeier, and Townsend, the U.S. Securities and Exchange Commission (SEC) said much of the assets used by the defendants in the margin trading scheme alleged by regulators was from retail retirement accounts including IRAs, as well as from 403(b) plans and other qualified plans. In the lawsuit, the SEC offered a detailed description of what it alleged was the margin trading scheme by the Enterprise defendants:

Enterprise opened a brokerage account in April 2006 at Legent Clearing, an Omaha, Nebraska-based independent broker/dealer in which it kept most of the Enterprise clients’ assets. The Legent account was opened through TradeRight Securities Inc., a suburban Chicago-based introducing broker/dealer.  

From June 2006 to November, 2007, Lohmeier did “extensive” margin selling including short selling and options trading prompting “numerous” Legent margin calls to Enterprise because   of insufficient collateral. That, the SEC said, “provided a strong motive” for the defendants to pump up the amount in its Legent account.

The SEC suit said in 2006, Ruthe Gomez, owner of Advisory Financial Consultants (AFC) of San Francisco decided she wanted to sell her 1,800 brokerage accounts so she could retire. The accounts had about $100 million with most in mutual funds and some in annuities.

In December 2006, AFC sold the 1,800 accounts to a new firm, Locke Haven LLC, a joint partnership between Townsend, Lohmeier, and executives at TradeRight.    As part of the deal, Gomez received $450,000, including half for moving the assets to TradeRight and the other half if more than 50% of the AFC assets were then moved again to Enterprise.

“All of the defendants understood at the time of the negotiations and execution of this transaction that once the AFC accounts were acquired, the AFC customer’s assets would be placed in the Legent account where they could serve as additional collateral for Enterprise’s margin trading,” the SEC charged in the suit. “This was the primary purpose of the AFC transaction. “

Gomez and Enterprise pressed many former AFC clients to move to Enterprise.On the Investment Agreements presented to the ex-AFC clients, Townsend and others at Enterprise pre-filled in the forms with “growth and income” in the box for asset allocation model and “full” for choice of discretion. “They did this without contacting any of the AFC customers to find out what their investment objectives were,” regulators alleged.

The SEC said mutual funds in approximately 700 of the 1,800 AFC accounts held at TradeRight were moved to Enterprise. From February 2007 to June 2007, $49 million in AFC mutual funds were moved to Enterprise accounts at Legent and US Bank, the SEC said.

Enterprise then began taking “larger short position” in the Legent accounts. “Increasing the amount of customers assets in the Legent Account created more collateral, enabling Enterprise to have greater leverage for trading, take larger short positions, and avoid/satisfy significant margin calls,” the SEC said.

In November 2007, according to the SEC, Legent told Enterprise it would not accept any more mutual funds as margin trading collateral. That was at a point when Enterprise carried a $16.6-million open short position and had margin debt of $12.7 million.

Regulators charged that Lohmeier set up a new margin account at optionsXpress, a Chicago based online brokerage and began putting assets into the optionsXpress accounts including some of the ex-AFC customers' money.

By the end of January 2008, Enterprise had an open short position of more than $116,100, 222 and investments of $514,489 with a net stock position of minus $115,585,733. Because the account only had $103 million, there was a $12-million deficit.

The government lawsuit contended that at that point, optionsXpress compliance officials saw Enterprise was sending in numerous transfer requests to move assets out of its margin account to the accounts of individuals at other broker/dealers.The compliance officers were particularly concerned after finding out that some of the assets were from qualified plans in violation of federal tax regulations.

In mid-February 2008, optionsXpress risk managers decided they were no longer willing to have Enterprise have risk in its account and issued a "risk" call which meant Enterprise had to put in $11 million. Enterprise told optionsXpress it would not be meeting the margin call.

optionsXpress began liquidating Enterprise assets, eventually selling off $11 million out of Enterprise accounts.

The SEC action is available here