The Broker's Margin Call and the Client's Instructions
A Barbados-licensed securities dealer holds a discretionary managed account for a client with a $2.4 million portfolio. The client's standing instruction limits leverage to 1.5x and prohibits derivatives. A junior portfolio manager, seeking to recover a 12% drawdown, buys exchange-traded options, taking effective leverage to 2.3x. Markets move against the position and the dealer issues a margin call of $180,000, which the client cannot meet within the two-day window. The dealer's terms allow it to liquidate 'in its discretion' without further notice. The client emails at 4pm on day two instructing 'do not sell, I am arranging funds'. The dealer liquidates at 4:30pm at a loss of $260,000. The client complains that the instruction was ignored and that the derivatives trade breached the mandate. The dealer's records show the junior manager's trade was never pre-approved and the mandate breach was not escalated.
1. Assess the dealer's conduct on the mandate breach, the margin call, and the liquidation, identifying where it acted improperly and where it may have been entitled to act.
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Mandate breach: the standing instruction prohibited derivatives and capped leverage at 1.5x. The options trade breached both. That is a breach of the client's investment mandate and, depending on the contractual terms, a breach of the management agreement. The dealer is responsible for its employee's unauthorised trade; the absence of pre-approval is an internal control failure that aggravates rather than excuses the breach. The client is entitled to be put back in the position it would have been in had the mandate been honoured, which may mean the dealer bears the loss attributable to the unauthorised derivatives exposure.
Margin call: the call arose from an unauthorised position. A margin call generated by the firm's own breach cannot be used to pressure the client into funding a position it never authorised. The dealer should have recognised this and escalated immediately.
Liquidation: the terms give the dealer discretion to liquidate without further notice, and in a genuine margin failure that right may be exercisable. But the client's 4pm instruction was a live communication that required a considered response, not a 30-minute race to the close. Even where a contractual right exists, exercising it while ignoring a client instruction and without documenting why the instruction could not be accommodated is likely to be treated as unreasonable. The dealer should have paused, confirmed in writing that it could not accept the instruction because the margin deficit remained, and given a short, documented window before acting - or sought senior sign-off for immediate action if market risk demanded it.
Net position: the dealer is exposed on the mandate breach and on the manner of liquidation; its contractual discretion does not immunise it from a duty to act rationally and in the client's interests.
2. What should the dealer do now to resolve the complaint and fix the underlying controls?
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Complaint handling: acknowledge the complaint promptly and investigate independently of the junior manager. Reconstruct the timeline - trade date, margin call, client email, liquidation - from system and email records. Determine the loss attributable to the unauthorised derivatives position versus the loss attributable to ordinary market movement on authorised holdings. Offer redress for the former: the client should not bear losses caused by a trade it prohibited. For the liquidation, assess whether a short delay would have changed the outcome; if the client could not have funded in time, the loss may be partly unavoidable, but the failure to respond to the instruction still warrants an explanation and possibly a goodwill adjustment.
Client communication: explain in plain terms what happened, accept the mandate breach, set out the calculation of redress, and confirm the corrective steps. Do not hide behind the discretionary liquidation clause.
Controls: require pre-trade compliance checks against client mandates, with hard system blocks on prohibited instruments and leverage caps. Escalate any mandate breach to compliance and senior management on the day it is detected. Require a documented decision log for any exercise of discretionary liquidation, including how client instructions were considered. Review the junior manager's conduct under the disciplinary process and consider whether supervision was adequate. Report the matter to the Financial Services Commission if the breach is material or the client detriment is significant, and review whether similar mandates have been breached across the book.