Peregrine Financial Group: Misappropriating Customer Funds

Abstract

In early July 2012, the United States Commodity Futures Trading Commission (CFTC) filed a federal lawsuit against Peregrine Financial Group Inc. (PFG), a futures trading firm, and its founder Russell Wasendorf. The CFTC accused PFG and Wasendorf of fraud, violating customer funds amounting to US$215 million and submitting false financial reports to the National Futures Association (NFA), which operated under the CFTC's supervision. PFG faced liquidation and Wasendorf, if found guilty, faced a fine or a jail sentence.

This case was prepared for inclusion in Sage Business Cases primarily as a basis for classroom discussion or self-study, and is not meant to illustrate either effective or ineffective management styles. Nothing herein shall be deemed to be an endorsement of any kind. This case is for scholarly, educational, or personal use only within your university, and cannot be forwarded outside the university or used for other commercial purposes.

2024 Sage Publications, Inc. All Rights Reserved

Resources

Glossary

Binaries – A type of option in which the payoff is structured to be either a fixed amount of compensation if the option expires within the duration of a futures contact, or nothing at all if the option expires after the duration of the futures contact passes.

Equities – A stock or any other security that represents ownership interest in a firm or business.

Futures – A financial contract obligating a buyer to purchase an asset or a seller to sell an asset at a predetermined future date and price.

Options – A financial derivative that represents a contract sold by one party (option writer) to another party (option holder). The contract offers the buyer the right, but not the obligation, to sell a security or other financial assets at an agreed-upon price, during a certain period of time.

Securities – Financial instruments that represent ownership in a corporation that is traded publicly (stock) or a creditor relationship with a government institution or corporation (bond).

Source: Oxford University Press (2008) Dictionary of Finance and Banking. New York: Oxford University Press

Exhibit 1 Timeline of Events at PFG

1972

Wasendorf Sr began hosting seminars and educational programmes for commodity firms. He introduced a trading system known as the Wasendorf Trading System.

1980

Wasendorf Sr created his company Wasendorf & Son, Inc., and began operating from the back room of Hair Unlimited, a barber shop in Iowa.

1986

Wasendorf Sr began working on an electronic trading platform to increase access to markets for his clients.

1987

Following his anticipation of a stock market crash, Wasendorf Sr advised his clients to sell long futures contracts. His clients made windfall profits by taking his advice.

1990

Wasendorf Sr transformed Wasendorf and Son, Inc. into Peregrine Financial Group (PFG) and moved the headquarters of the firm to Chicago.

1992

PFG was incorporated as a futures commission merchant and officially registered with the National Futures Association.

1995

PFG launched its foreign exchange business operations. The firm also accepted customers from First Commercial Financial Group, a brokerage that had been dissolved by regulators at the National Futures Association

1998

PFG launched BESTDirect, an online trading platform aimed at easing the process of trading for traders.

2003

PFG established its business in Canada and opened up offices in Toronto, Canada.

2005

PFG began operating in Asia and established offices in Shanghai the following year.

2007

PFG acquired the assets of American National Trading Corporation, thereby growing its customer accounts. The firm renamed the business and called it PFG Los Angeles.

2008

PFG rebranded itself and became known as PFGBEST. The firm began marketing its services using the tagline, “The best thing about our technology is our people.”

2009

PFG created BestDirect Securities to promote multi-asset trading among traders.

2011

Smart Money magazine ranked PFG as the top firm in foreign exchange customer service operations.

2012

Wasendorf Sr's fraud was discovered and PFG filed for Chapter 7 bankruptcy protection.

Sources: PFGBest website, Reuters – available:

Exhibit 2 Biography of Russell Wasendorf Sr

Figure

Russell Ralph Wasendorf was born in 1948 in Iowa in the United States of America. His father, Arthur, worked as a foreman at a meatpacking plant and his mother Ida worked as a marketer for a local securities broker.

During high school in Marion, Iowa, Wasendorf became interested in art and drama and began performing in plays organised by local churches. While studying at the University of Northern Iowa, he mingled with local artists and learnt about producing documentaries. In 1969, Wasendorf married Susan Richardson, a fellow university student. The couple had one son, whom they named Russell Wasendorf Jr.

In 1974, two years after he left university, Wasendorf won an award from the Council on International Non-theatrical Events for a documentary on soya beans titled “The Gold That Grows”. Wasendorf's marriage to Richardson ended and, by 1976, he was married to Connie Brandhorst. For the next two decades, Wasendorf focused on building Peregrine Financial Group, his futures trading firm.

In 2004, Wasendorf joined an advisory panel at the National Futures Association (NFA), which regulated the futures industry. The duties of the panel included providing feedback to the regulator on issues affecting the industry. By 2007, Wasendorf had published six books on futures trading. In 2009, analysts lauded Wasendorf's magazine, Stocks, Futures and Options (SFO), as an important source of information for traders, and regarded Wasendorf as a “mouthpiece” for the industry. Wasendorf also managed his non-profit organisation called Peregrine Charities, which made donations to various institutions and sponsored events in some localities of Iowa. However, as his successes grew, he became more distant from his family. One of his family members said, “Russ chose to divorce himself from the rest of the family. We respect his wishes. He was always flying around the country, around the world. We didn't want to live that lifestyle.” Christina Wilkie, a journalist for HuffPost Business, noted that Wasendorf was “obsessed with his image. To be seen as an industry leader, he wrote op-eds, made himself available to journalists as an expert, and even interviewed actor Jackie Chan for a story that ran in The Wall Street Journal.”

In 2010, after 34 years of marriage, Wasendorf and Brandhorst divorced. Brandhorst moved out of the family home and into a modest, one-story home close to Wasendorf Jr and his family. In January 2011, Wasendorf began dating 48-year old Nancy Paladino, an employee in Wasendorf's restaurant.

As details of Wasendorf's fraud became public and following his attempted suicide, investigators believed Wasendorf had anticipated getting caught. On 30 June 2012, he had married Nancy Paladino at a chapel in Las Vegas, leaving most of his estate to her. Wasendorf had also signed over his power of attorney to his son Wasendorf Jr, without informing him of his decision to do this, or even of his marriage to Paladino. In the suicide note he left for Paladino, Wasendorf wrote, “I love you so much and I so want to spend my final years growing old with you. I am so sorry that this will not happen.” To Wasendorf Jr, he wrote, “I beg for your forgiveness. Your mistake was that you trusted your father, nothing more.”

Paladino filed for an annulment of her marriage to Wasendorf, citing the concealment of crimes and protection against financial liability as her main reasons. Wasendorf Jr did not attend the hearing for his father's sentencing. He maintained that he could not forgive his father, saying that he felt betrayed by him and would never visit him in jail. In a statement released after Wasendorf was sentenced to 50 years in jail, Wasendorf Sr said: “It shattered my family, ruined my reputation, fractured my marriage and separated me from my oldest son and closest friends. It has destroyed me financially and left me on the edge of bankruptcy.” By June 2013, Wasendorf was serving his sentence in a federal prison in the US.

Sources:Financial Times, Bloomberg, The Wall Street Journal, Reuters, Businessweek, Huffington Post, Law 360 – available:

http://www.ft.com/intl/cms/s/0/cdf6ce16-6bd4-11e2-a17d-00144feab49a.html#axzz2VswZOTa1

http://www.bloomberg.com/news/2012-09-19/peregrine-s-wasendorf-pleads-guilty-to-embezzlement-fraud-1-.html

http://blogs.wsj.com/deals/2012/07/10/pfgbests-wasendorf-was-a-mouthpiece-for-futures-industry/

http://www.reuters.com/article/2012/09/24/us-wasendorf-life-one-idUSBRE88N0EJ20120924

http://investing.businessweek.com/research/stocks/private/person.asp?personId=39832716&privcapId=4473790

http://www.huffingtonpost.com/2012/07/12/russell-wasendorf-sr-vegas-marriage_n_1667548.html

http://www.huffingtonpost.com/2012/07/18/russell-wasendorf-suicide-attempt_n_1682521.html

http://www.law360.com/articles/410412/peregrine-ceo-s-ex-wife-got-2-5m-in-false-funds-trustee

http://www.huffingtonpost.com/2013/05/09/experegrine-financial-ceo_n_3244445.html

http://www.reuters.com/article/2012/09/25/us-wasendorf-life-two-idUSBRE88O0HF20120925 (accessed 11 June 2013).

Photo source: PFGBest.com/CBS Moneywatch (2012) ‘Peregrine Financial Group Brokerage Said to be $220 Million Short in Customer Funds’, CBS News, 10 July, available http://www.cbsnews.com/8301-500395_162-57469161/peregrine-financial-group-brokerage-said-to-be-$220-million-short-in-customer-funds/ (accessed 11 June 2013).

Exhibit 3 Excerpts of the CFTC's Lawsuit against PFG and Wasendorf Sr

PFG AND WASENDORF FAILED TO SEGREGATE CUSTOMER FUNDS AND MISAPPROPRIATED THOSE FUNDS
Background

At all relevant times to this Complaint, PFG kept its segregated customer funds in account XXXX1845 (“1845 customer segregated account”) at a U.S. Bank branch in Cedar Falls, Iowa. Wasendorf controlled that account as one of its three signatories.

In July 2012, NFA conducted an audit of PFG. In connection with the audit, PFG represented to NFA that it held in excess of $220 million in the 1845 customer segregated account, when, in fact, that account held approximately only $5.1 million.

On information and belief, on or about July 9, 2012, Wasendorf attempted to commit suicide at PFG offices in Cedar Rapids, Iowa. He is reported to be in a coma as a result of that attempt.

In the immediate aftermath of that incident, the staff of the NFA received information that Wasendorf may have falsified certain bank records.

PFG and Wasendorf Have Failed To Maintain Customer Funds in Segregation and Have Misappropriated At Least $200 Million of Customer Funds

Since at least February 2010, PFG and Wasendorf have failed to maintain adequate customer funds in segregated accounts and have misappropriated those customer funds for purposes other than intended by its customers. In particular,

  • On or about February 28, 2010, PFG records showed a balance of approximately $207 million in the 1845 customer segregated account. PFG had received at least that amount from customers. However, the actual balance in the account was less than $10 million.
  • On or about March 30, 2011, PFG records showed a balance of approximately $218 million in the 1845 customer segregated account. PFG had received at least that amount from customers. However, the actual balance in the account was less than $10 million.
  • On or about July 9, 2012, PFG records showed a balance of approximately $225 million in the 1845 customer segregated account. PFG had received at least that amount from customers. However, the actual balance in the account was approximately $5 million.

PFG and Wasendorf Made False Statements in Documents Filed with the Commission

In its capacity as an FCM, PFG filed monthly 1-FR statements with the CFTC. One section of the 1-FR statements requires the reporting of “funds in segregation for customers trading on U.S. Commodity Exchanges.” Those statements are filed electronically.

Since August 15, 2011, Wasendorf filed and or caused to be filed at least three 1-FR statements on behalf of PRG which falsely reported the amount of funds in customer segregated accounts.

Source: UN District Court, Northern Illinois, Eastern Division (2012) ‘U.S. Commodity Futures Trading Commission v. Peregrine Financial Group, Inc., and Russell R. Wasendorf, Sr.’ available http://securitiesattorneys.us/wp-content/uploads/2012/07/Peregrine-Financial-Compl.pdf (accessed 11 June 2013).

Exhibit 4 Excerpts from Wasendorf's Confession

If you are reading this than I will have already punished myself for my transgressions and this is my last confession.

I have committed fraud. For this I feel constant and intense guilt. I am very remorseful that my greatest transgressions have been to my fellow man. Through a scheme of using false bank statements I have been able to embezzle millions of dollars from customer accounts at Peregrine Financial Group, Inc. The forgeries started nearly twenty years ago and have gone undetected until now. I was able to conceal my crime of forgery by being the sole individual with access to the US Bank accounts held by PFG. No one else in the company ever saw an actual US Bank statement. The Bank statements were always delivered directly to me when they arrived in the mail. I made counterfeit statements within a few hours of receiving the actual statements and gave the forgeries to the accounting department.

The rogueries started after I was in a battle with the Kansas City Commodity Futures Trading Commission's office. I was specifically attacked and harassed by CFTC's Branch Manager Robert Agnew. The reason for his vindictive actions was that I appear to have embarrassed him!

In the winter of 1993, Agnew performed a routine audit of the Iowa based headquarters of PFG. During the audit Agnew claimed I was in violation of the rules regarding the way customer funds can be invested. I asked to see the rules and he gave me a copy of them. I took the rules to the Bank where PFG's customer funds were deposited, (at that time it was Firstar Bank, which eventually became US Bank). The Bank's legal department examined the rules and soon told me that, in their opinion, there was no way they could comply with these rules. I was somewhat surprised to hear this since I knew of other firms investing customer funds in the same fashion as I was doing. So I talked to some of my peers and even to the compliance department of the Chicago Mercantile Exchange. I discovered that Agnew had given me outdated rules! New rules regarding the investment of customer funds had been written and had been in force for quite some time. I gave the new rules to the people at the Bank and their near immediate response was that they would have no problem complying.

When I told Agnew that he had given me the outdated rules, he was livid! He apparently didn't like being told that he was wrong. During the ensuing 5 months he and his team performed 6 onsite audits of PFG, until they found a technical violation.

We were always careful to have adequate regulatory capital in PFG's accounts at the end of each month. Because at the end of each month we were required to report our financials to the Regulators and we wanted to make sure that we were showing adequate capital on the report. Agnew was able to show that, in a few instances, sometime prior to our addition of the capital at the end of the month we had already fallen below the required amount. So he was able to prove that we were below the capital requirements for a couple days prior to our addition of capital. He claimed that we failed to file notice to the CFTC immediately when the breach occurred. The CFTC decided not to pursue PFG with a formal complaint after negotiations with our Attorney but we knew we would be under heightened scrutiny. We knew we would need to maintain a higher level of capitalization.

It was after this encounter with CFTC's Agnew that I discovered that the Industry's regulators often used audits of Firms as punishment and for retaliation. And I saw for the first time the mean spirited nature of the industry's Regulators.

The cost of an Attorney and the requirement to maintain a greater capitalization pushed us into a financial crisis, I had no access to additional capital and I was forced into a difficult decision: Should I go out of business or cheat? I guess my ego was too big to admit failure. So I cheated, I falsified the very core of the financial documents of PFG, the Bank Statements. At first I had to make forgeries of both the Firstar Bank Statements and the Harris Bank Statements. When I chose to close the Harris Account I only had to falsify the Firstar statements. I also made forgeries of official letters and correspondence from the bank, as well as transaction confirmation statements.

Using a combination of Photo Shop, Excel, scanners and both laser and ink jet printers I was able to make very convincing forgeries of every document that came from the Bank. I could create forgeries very quickly so no one suspected that my forgeries were not the real thing that had just arrived in the mail.

With careful concealment and blunt authority I was able to hide my fraud from others at PFG. PFG grew out of a one-man shop, a business I started in the basement of my home. As I added people to the company everyone knew I was the guy in charge. If anyone questioned my authority I would simply point out that I was the sole shareholder. I established rules and procedures as each new situation arose. I ordered that US Bank statements were to be delivered directly to me unopened, to make sure no one was able to examine an actual US Bank Statement. I was also the only person with online access to PFG's account using US Bank's online portal. On the US Bank side, I told representatives at the Bank that I was the only person they should interface with at PFG.

When it became a common practice for Certified Auditors and the Field Auditors of the Regulators to mail Balance Confirmation Forms to Banks and other entities holding customer funds I opened a post office box. The Box was originally in the name of Firstar Bank but was eventually changed to US Bank. I put the address “PO Box 706, Cedar Falls, IA 50613-0030” on the counterfeit Bank Statements. When the auditors mailed Confirmation Forms to the Bank's false address, I would intercept the Form, type in the amount I needed to show, forge a Bank Officer's signature and mail it back to the Regulator or Certified Auditor.

When online Banking became prevalent I learned how to falsify online Bank Statements and the Regulators accepted them without question.

* * *

It was relatively simple to deceive the Regulators during the Annual Audits since their Audit Modules guided them to find a number, tick a box, tie out totals, etc. They counted on the mailed back Bank Balance Confirmations to detect any shortfall in cash balance totals. They had no way to detect a counterfeit bank statement. They were actually distracted by their own agenda — to catch firms unknowingly violating regulations. They knew they had a better chance to gain a “gotcha” in the areas where the “letter of the law” was desecrated by their constantly evolving interpretations. If the Firm didn't interpret a rule the same way as the Regulator was currently interpreting it then the Firm was violating the rule, even though the Firm was not in violation under a previous interpretation of the same rule.

Earlier I said I felt a great deal of guilt and remorse for my transgressions. I feel particularly bad for the damage I have done to my family, friends and loved ones. Many have counted on me to be the “good guy” and I know I am an enormous disappointment. I am extremely sorry that my son ever got involved with this business. I know he will feel betrayed, deceived and disillusioned.

* * *

I know the question remains, what did I do with the money? Most of the misappropriated funds went to maintain the increasing levels of Regulatory Capital to keep PFG in business and to pay business losses. A portion went to build the office building at One Peregrine Way, (I had hoped that a mortgage on the building would pay back the cost of building but the appraisal came in tragically low). I even used Customer Funds to pay Fines and Fees charged by the regulators.

* * *

I know the Regulators will try to make other executives at PFG culpable for my crime but they will discover that I am the only guilty party and I have already imposed a punishment far greater than they could have hoped to impose. There are many honest, talented people at PFG, they don't deserve the predicament I have now put them in and I am deeply sorry.

I am ready to die. I guess this is the only way out of a business I hate so much.

I believe in a loving, forgiving God.

(Signed) Russell Wasendorf Sr.

Source: TWSJ Staff (2012) ‘Excerpts from Russell Wasendorf Sr.’s Confession’, The Wall Street Journal, 17 July, available http://blogs.wsj.com/deals/2012/07/17/excerpts-from-russell-wasendorf-sr-s-confession/ (accessed 11 June 2013).

Exhibit 5 The FBI's Statement on the Sentencing of Wasendorf Sr

Peregrine Financial Group CEO Sentenced to 50 Years for Fraud, Embezzlement, and Lying to Regulators

Russell R. Wasendorf, Sr., age 64, from Cedar Falls, Iowa, who stole more than $215,000,000 in customer funds from his commodity futures business, was sentenced today to 50 years in federal prison. Wasendorf received the prison term after a September 17, 2012 guilty plea to one count each of:

  • mail fraud
  • embezzlement of customer funds by a person registered under the Commodity Exchange Act
  • making false statements to the Commodity Futures Trading Commission
  • making false statements to a futures association registered under the Commodity Exchange Act

Wasendorf was the owner and former chief executive officer of the now-bankrupt Peregrine Financial Group Inc. (PFG), a futures commission merchant headquartered in Cedar Falls, Iowa.

In a plea agreement, Wasendorf admitted that, from about the early 1990s through about July of 2012, he stole millions of dollars from PFG's customers. Wasendorf admitted he stole the funds, at least in part, by withdrawing money secretly from a customer segregated bank account and then by omitting the withdrawals from and inflating the balances on forged bank statements purportedly issued by the bank. Wasendorf admitted that the forged bank statements overstated the amount of customer funds in the account by more than $200 million. Wasendorf admitted he prevented regulators from discovering his crimes by submitting false periodic reports and forged bank account verification forms to the National Futures Association and the Commodity Futures Trading Commission.

Also in the plea agreement, Wasendorf admitted establishing a post office box to intercept paperwork sent by regulators and intended for U.S. Bank. Wasendorf included the post office box number on forged bank statements so that auditors and regulators would think the box belonged to the bank.

According to information disclosed at the sentencing hearing, Wasendorf stole more than $215,000,000 from more than 13,000 victims over the course of nearly 20 years. A bankruptcy trustee and a court-appointed receiver have been gathering known assets for distribution to creditors, including PFG's commodities futures account holders.

Wasendorf was sentenced in Cedar Rapids by United States District Court Chief Judge Linda R. Reade. Wasendorf was sentenced to 50 years' imprisonment—the maximum sentenced allowed by law for his offenses of conviction. He must also serve a three-year term of supervised release after the prison term. There is no parole in the federal system. The court imposed a judgment of forfeiture in the amount of $100 million and ordered Wasendorf to make $215,530,041.39 in restitution to more than 13,000 victims. As part of the plea agreement, Wasendorf agreed that any proceeds from any publicity about his crimes would be assigned to the United States and applied toward his restitution.

“By lying to investors and regulators, Wasendorf defrauded thousands of innocent investors out of a staggering $215,000,000,” said Acting United States Attorney Sean R. Berry. “The lengthy prison sentence imposed today is just punishment for a con man who built a business on smoke and mirrors.”

Thomas R. Metz, Special Agent in Charge of the Omaha Division of the Federal Bureau of Investigation, said, “Today's sentence demonstrates this agency's commitment to holding accountable those who prey on unwary investors and lie to those regulatory agencies responsible for protecting the integrity of U.S. financial markets.”

Wasendorf is being held in the United States Marshals custody until he can be transported to a federal prison.

The case was prosecuted by Assistant United States Attorneys Peter Deegan and Matthew Cole and was investigated by the Federal Bureau of Investigation with the assistance of the Blackhawk County Sheriff's Office and the United States Postal Inspection Service.

Source: FBI (2013) ‘Peregrine Financial Group CEO Sentenced to 50 Years for Fraud, Embezzlement, and Lying to Regulators’, 31 January, available http://www.fbi.gov/omaha/press-releases/2013/peregrine-financial-group-ceo-sentenced-to-50-years-for-fraud-embezzlement-and-lying-to-regulators (accessed 11 June 2013).

This case was prepared for inclusion in Sage Business Cases primarily as a basis for classroom discussion or self-study, and is not meant to illustrate either effective or ineffective management styles. Nothing herein shall be deemed to be an endorsement of any kind. This case is for scholarly, educational, or personal use only within your university, and cannot be forwarded outside the university or used for other commercial purposes.

2024 Sage Publications, Inc. All Rights Reserved

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