E*Trade, TD Ameritrade Targeted in Brokerage Fraud (Update3)
By Bradley Keoun
Oct. 23 (Bloomberg) -- Customer accounts at online brokers including E*Trade Financial Corp. and TD Ameritrade Holding Corp. have been infiltrated by computer hackers in Eastern Europe and Asia in one of the biggest cases of identity theft to strike the U.S. securities industry.
The Federal Bureau of Investigation, the Securities and Exchange Commission and the NASD are trying to unravel the fraud, which has cost New York-based E*Trade at least $18 million and caused losses at Ameritrade of Omaha, Nebraska, company officials said. In one ``pump-and-dump'' scheme the SEC uncovered, thieves used customers' money to drive up the prices of little-traded stocks and then sold shares they bought earlier at a profit.
``The perpetrators were more organized, and it was a bigger issue this quarter than it had ever been before,'' E*Trade Chief Operating Officer Jarrett Lilien said in an interview. ``It wasn't just hitting one company, it was hitting everybody.''
The case shows how criminals who ply the Internet from countries beyond the reach of U.S. law enforcers are turning to financial markets to commit fraud. Online brokers are a growing target for identity theft, a crime that in all its forms will cost Americans $56.6 billion this year, according to Javelin Strategy & Research of Pleasanton, California, which has prepared similar estimates for the Federal Trade Commission.
``Identity thieves appear to be directing increased attention to the securities business, and their attacks are growing in sophistication,'' said John Walsh, chief counsel in the SEC's office of compliance inspections and examinations, at an industry conference in Phoenix on Oct. 5.
Customers Compensated
E*Trade disclosed on a conference call last week that it spent $18 million in the third quarter to compensate customers affected by trading fraud. The company, the fourth-largest discount broker by assets, is cooperating with the federal investigation and the probe by the NASD, E*Trade spokeswoman Pam Erickson said. NASD is the industry's self-regulator for more than 5,100 brokerages.
TD Ameritrade, the third-largest online broker, also suffered losses because of bogus trading by unauthorized users who pried their way into customer accounts, said spokeswoman Katrina Becker. She declined to specify an amount. TD Ameritrade may provide more details tomorrow when it reports fiscal fourth- quarter earnings.
Charles Schwab Corp., the biggest online broker, didn't experience ``anything unusual enough to warrant a financial disclosure,'' said spokesman Glen Mathison. The San Francisco- based company reported earnings on Oct. 16. Adam Banker, a spokesman for closely held Fidelity Investments of Boston, the second-largest discount broker, declined to comment.
`Global Problem'
Shares of E*Trade rose 88 cents, or 4 percent, to $22.73 in 11:58 a.m. composite trading on the New York Stock Exchange. Goldman Sachs Group Inc. analyst William Tanona raised the stock to ``buy'' from ``neutral'' earlier today. TD Ameritrade gained 4 cents to $16.80. Schwab rose 25 cents, or 1.5 percent, to $17.10.
E*Trade Chief Executive Officer Mitchell Caplan told investors that investigators traced the illicit trading to ``concerted rings'' in Eastern Europe and Thailand. The company hasn't determined whether the reimbursement costs will be covered by insurance, he said. TD Ameritrade also was targeted by cyber- criminals in Eastern Europe and Asia, spokeswoman Becker said.
``Internet crimes that result in the theft of personal and financial data from consumers continue to be a significant and global problem,'' FBI spokesman Paul Bresson said. ``We work closely with our foreign law-enforcement counterparts to pursue these cases with all applicable laws.''
Bresson declined to comment on the FBI investigation. John Heine, a spokesman for the SEC, and NASD's Herb Perone also declined to comment.
`Pump and Dump'
Some of the losses were straight theft. In his presentation, Walsh of the SEC explained how criminals use personal information such as Social Security numbers to break into accounts. Once in control, they loot the accounts by selling securities and wiring out the proceeds far from the U.S.
The online version of the ``pump-and-dump'' fraud sets off few security alerts at brokerage firms because no money is withdrawn from the compromised accounts, Walsh explained.
``This is an increasingly popular variation,'' he said in Phoenix. ``If you are looking for a single `hot topic' in the world of identity theft, this is it.''
In ``alias fraud,'' a thief opens an account in an individual's name, then uses it for illegal trading or money- laundering. Because the victim's name is on the account, he or she appears responsible for the crimes.
Reducing the Fraud
Walsh said the SEC recently began a ``sweep examination'' of brokerage firms to determine if they have adequate technology and staff training to prevent and detect online fraud.
``This thing is so widespread and has such a significant impact on the industry at large,'' E*Trade's Caplan said. `You're going to end up seeing structural changes in the industry.''
Caplan told investors E*Trade reduced the fraud to ``almost zero'' in the past three weeks after beefing up security for electronic trading. The company declined to say how many accounts were infiltrated or explain the security enhancements.
While the Federal Deposit Insurance Corp. covers bank accounts against fraud or insolvency for as much as $100,000, brokerages get no such protection.
E*Trade promised in January that it would reimburse customers for any losses due to fraud in an effort to allay concerns about trading over the Internet or keeping cash in online bank accounts. TD Ameritrade and Schwab offered similar guarantees in February and Fidelity followed in May.
To contact the reporter on this story: Bradley Keoun in New York at bkeoun@bloomberg.net .
Last Updated: October 23, 2006 12:07 EDT
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