Free Riding and a Ponzi Scheme
Fraudulent schemes often key to inducing investors to place their trust in the fraudster. While it often seems simple to avoid the would be fraudster when standing back and reading court pleadings and other documents about a fraud, it clearly is not – even for market professionals. For example, the typical offering scheme centers on investors placing their trust in the person or persons soliciting them to invest, a question often resolved based on the attractiveness of the inducements.
Free-riding schemes would seem to be more difficult to execute because the target is typically an experienced market professional convinced to make his or her firm’s credit available to create the opportunity for a “free ride” through a series of quick initial trades. Yet both types of schemes are frequently effective, a point well illustrated by the lead defendant in SEC v. Arbab, Civil Action No. 1:22-mi-99999 (N.D. Ga. Filed October 31, 2022) who operated a free riding scheme just after completing a Ponzi scheme and as the Commission filed its first action against him.
The complaint in the most recent enforcement action against Mr. Arbab names as defendants: Syed Arham Arbab, a graduate of Georgia State University who is currently serving a 60 month in federal prison for securities fraud; Tomas Javier Jimenez, a friend of Defedant Arbab who at the time here was a cook; Blake Douglas McKinney, also a friend of Mr. Arbab who is now pursuing a degree at the University of Michigan-Dearborn; Mushfiqur Rahman, a friend of Defendant Arbab’s father who is now pursuing a degree at Hunter College; John Ryan Shows who attended UGA with Defendant Arbab; and William Carl Spagnoli who attended UGA with Defendant Arbab.
Over a three-year period, beginning in May 2019, Defendants Arhab, Jimenex, McKinney, Shows and Spagnoli engaged in a free riding scheme. Ultimately the scheme generated millions in profits for defendants; the broker-dealers were left with losses.
The scheme was created by Defendant Arbab. Not only did he run his own scheme, Mr. Arbab also solicited dozens of individuals through group text messages and social media to engage in this fraud. In doing this he patiently explained the mechanics of the scheme. This included the fact that there is a delay between the time the trade is placed, and the electronic transfer of funds used to open the accounts is found to be insufficient.
Defendant Arbab and his associates perpetrated their scheme by focusing on two broker-dealers. Each afforded “instance credit” to certain deposits. It is that instance credit which Arbab and his co-defendants, as well as people he solicited, utilized to make the scheme work. The instance credit permitted immediate trading before it was discovered that in fact the electronic transfers did not cover the trades. Overall Mr. Arbab and his co-defendants initiated over $2 million in fraudulent electronic fund transfers into various accounts used during the scheme. Ultimately this resulted in at least $7.8 million in profits while leaving losses of at least $146,660. The other Defendants collectively accounted for fraudulent EFTs of nearly $1.3 million, withdrawn profits of over $3.3 million and broker-dealer losses of $75,124.
The free-riding scheme began on the heels of a Ponzi scheme orchestrated by Mr. Arbab. Beginning in May 2018 Defendant Arhab operated a Ponzi scheme near the University of Georgia campus. In late May 2019 the Commission filed an enforcement action centered on the scheme against Mr. Arbab. SEC v Arbab, Civil Action No. 3L19-cv-00055 (M.D. Ca. Filed May 31, 2019). Subsequently, he was named as a defendant in a parallel criminal action. U.S. v. Arbab, No. 3:19-cr-00051 (M.D. Ga. Filed October 8, 2019). Mr. Arbab is currently serving a sentence of 60 months in prison.
The Commission’s current complaint against Mr. Arbab alleges violations of Exchange Act Section 10(b). The case is pending.