808 KAR 10:040. Examples of dishonest or unethical practice.

      RELATES TO: KRS 292.330(13)(a)7

      STATUTORY AUTHORITY: KRS 292.330(12)(e), 292.500(3)

      NECESSITY, FUNCTION, AND CONFORMITY: KRS 292.500(3) authorizes the executive director to promulgate administrative regulations necessary to carry out the provisions of KRS Chapter 292. KRS 292.330(13)(a)7 authorizes the executive director to take disciplinary action against the registration of a broker-dealer, agent, investment adviser, or investment adviser representative if a person has engaged in dishonest or unethical practice in the securities business. KRS 292.330(12)(e) authorizes the executive director to prohibit unreasonable charges, profits, commissions, or other compensation of broker-dealers and investment advisers. This administrative regulation provides examples of dishonest and unethical practices.

      Section 1. Definition. "Investment adviser solicitor" means a person or entity that, directly or indirectly, solicits a prospective client for, or refers a prospective client to an investment adviser.

      Section 2. Broker-dealer. Examples of dishonest and unethical practices by a broker-dealer shall include the following:

      (1) Unreasonable delay or failure to:

      (a) Execute an order;

      (b) Liquidate a customer's account; or

      (c) Make delivery of:

      1. A security purchased; or

      2. A remittance (or credit) of a security sold;

      (2) Selling a security:

      (a) At an unfair price in relation to market value; or

      (b) With an unreasonable or excessive markup or commission;

      (3)(a) Effecting a transaction in the account of a customer without his knowledge or consent; or

      (b) Maintaining a discretionary account without written authorization;

      (4) A willful switch, churning, overtrading or reloading of a security in a customer's account for the purpose of accumulating or compounding a commission;

      (5) Inducing a customer to invest:

      (a) Beyond his known immediate financial resources; or

      (b) Without regard to the nature and character of the customer’s account;

      (6) Engaging or aiding in:

      (a) Boiler room operations, including high pressure tactics to promote a speculative offering; or

      (b) The promotion of a hot issue by an intensive telephone campaign in which the prospective purchaser is encouraged to make a hasty decision to buy a security irrespective of the purchaser's investment need or objective;

      (7)(a) Participation in the solicitation or offer for sale of a security without the use and dissemination of a prospectus (if required); or

      (b) Making an oral or written statement contrary to or inconsistent with an enclosure contained in a prospectus;

      (8) Making a false, misleading, deceptive, exaggerated or flamboyant representation or prediction in the solicitation or sale of a security, including:

      (a) That the security will be resold or repurchased;

      (b) That it will be listed or traded on an exchange or established market;

      (c) That it will result in an assured, immediate or extensive increase in value, future market price, or return on an investment;

      (d) With respect to the issuer's financial condition, anticipated earnings, potential growth or success; or

      (e) That there is a guarantee against risk of loss;

      (9)(a) Failing to disclose a dual agency capacity; or

      (b) Effecting a transaction upon a term or condition not stated in a confirmation;

      (10)(a) Failing to make a bona fide public offering pursuant to an underwriting agreement; or

      (b) Entering into an underwriting agreement which establishes an unfair or unreasonable term, condition, or compensation;

      (11) Establishing a fictitious account in order to execute a transaction which would otherwise be prohibited;

      (12) Entering into an agreement for selling a concession, discount, commission, or allowance as consideration for a service in connection with the distribution or sale of a security in Kentucky with a broker-dealer, agent, investment adviser, or investment adviser representative who is not:

      (a) Licensed in Kentucky; and

      (b) Exempt from the registration requirements for conducting a securities business in Kentucky;

      (13) Failure or refusal to:

      (a) Furnish a customer, upon reasonable request, information to which he is entitled; or

      (b) Respond to a formal written demand or complaint; or

      (14) Attempting to enforce a condition, stipulation or provision against a customer in this state if the result will:

      (a) Leave the customer without the choice of a forum for dispute resolution in this state; or

      (b) Limit the timeliness of an action to a period less than that established in KRS 292.480(3).

Section 3. Broker-dealer Agent or Issuer Agent. Examples of dishonest and unethical practices by a broker-dealer agent or issuer agent shall include the following:

      (1) An activity set forth in Section 2 of this administrative regulation;

      (2) Loaning money to a customer;

      (3) Borrowing money or securities from a customer; or

      (4) Effecting a securities transaction not recorded on the books and records of the broker-dealer that the agent represents, unless the broker-dealer authorizes the transaction in writing prior to execution of the transaction.

      Section 4. Investment Adviser and Investment Adviser Representative. Examples of dishonest and unethical practices by an investment adviser or investment adviser representative shall include the following:

      (1) An activity set forth in Section 2 of this administrative regulation;

      (2) Borrowing money or securities from a customer unless the customer is a broker-dealer, an affiliate of the investment adviser, or a financial institution engaged in the business of loaning funds or securities;

      (3) Loaning money to a customer unless the customer is an affiliate of the investment adviser or the investment adviser is a financial institution engaged in the business of loaning funds;

      (4) Misrepresenting or omitting to state to a customer, or prospective customer, a material fact with respect to:

      (a) The qualifications of the investment adviser or a representative of the investment adviser; or

      (b) The nature of the advisory services offered or fees charged for the services;

      (5) Entering into, extending, or renewing an investment advisory contract unless the contract is in writing and discloses the following:

      (a) The nature of the advisory services to be provided;

      (b) The time period that the contract remains in effect;

      (c) The advisory fee and the formula for computing the fee;

      (d) The amount of prepaid fee to be returned in the event of contract termination or nonperformance;

      (e) Whether the contract grants discretionary power to the advisor and, if so, the terms of the discretionary power;

      (f) Whether the contract grants custody of customer funds to the advisor and, if so, the terms of the custody; and

      (g) That the adviser shall not assign the contract without the prior written consent of the customer;

      (6) Charging a customer an unreasonable fee in light of the fee charged by other investment advisers providing similar services;

      (7) Failing to disclose in writing to a customer before entering into an investment advisory contract with the customer:

      (a) A material conflict of interest relating to the investment adviser or a representative of the adviser which a reasonable person would consider to impair the rendering of unbiased investment advice; or

      (b) A material fact with respect to the financial and disciplinary information required to be disclosed by 17 CFR 275.206(4)-4 (SEC Rule 206(4)-4);

      (8) Guaranteeing a customer that the advice provided by the investment adviser will achieve a specific result (gain or no loss);

      (9) Disclosing information about the investments of a customer to a third party unless required by law to do so or unless authorized by the customer;

      (10) Publishing or distributing an advertisement that would be a fraudulent, deceptive, or manipulative act, practice, or course of business under 17 CFR 275.206(4)-1 (SEC Rule 206(4)-1); or

      (11) Paying a cash fee, directly or indirectly, to an investment adviser solicitor unless the investment adviser makes the payment in accordance with the requirements of 17 CFR 275.206(4)-3 (SEC Rule 206(4)-3).

      Section 5. The executive director may determine that an activity not included in the examples identified in Sections 1 through 4 of this administrative regulation constitutes a dishonest or unethical practice if the activity is similar to an enumerated activity.

      Section 6. Adoption Without Change. (1) The following federal regulations are adopted without change:

      (a) 17 CFR 275.206(4)-1, as effective May 22, 1997;

      (b) 17 CFR 275.206(4)-3, as effective July 24, 1998; and

      (c) 17 CFR 275.206(4)-4, as effective May 22, 1997.

                (2) These federal regulations may be inspected, copied, or obtained from the Office of Financial Institutions, 1025 Capital Center Drive, Suite 200, Frankfort, Kentucky, 40601, Monday through Friday, 8 a.m. to 4:30 p.m. (SR 330(12)(a)-1; 1 Ky.R. 1094; eff. 6-11-75; Am. 16 Ky.R. 662; 1185; eff. 12-6-89; 24 Ky.R. 2176; 25 Ky.R. 86; eff. 6-25-98; 26 Ky.R. 2043; 27 Ky.R. 175; 771; eff. 9-11-2000.)