Deadbeat Brokerages Leave Investors in the Lurch

As if investors needed another reason to very carefully select and vet their financial advisors, a recent article indicates a significant uptick in the number of investors who have won FINRA (Financial Industry Regulatory Authority) arbitration cases against negligent broker dealers that have not recovered any of the money they are entitled to.

According to statistics provided to the Chicago Tribune, in 2011 nearly 11% of claims that investors had been awarded by FINRA went unpaid. That's up from around 4% in the two previous years. Historically, around 15-33% of the total awards granted by FINRA have never made it into the hands of investors. We're talking tens of millions of dollars! 

One big reason this is happening is that FINRA does not require that broker dealers carry insurance in the event of an unfavorable outcome in securities arbitration. And so, rather than pay out hundreds of thousands of dollars in damages, many small brokerages will simply bankrupt themselves and the brokers will move elsewhere. That leaves the investor whose claim has been successful holding the proverbial bag.  And since FINRA is not actually part of the criminal justice system, investors who find themselves in this lamentable position are truly stuck: they can't take brokers to court.

Besides the lack of what would essentially be a form of malpractice insurance, another major contributing factor to this depressing situation is that most brokerages compel clients to sign binding arbitration clauses when they engage the services of the broker dealer. These clauses, which many investors are not aware of when they sign up with a brokerage firm, mandate that in the case of a dispute, clients will be forced to take their case through the FINRA arbitration process rather than the US Criminal Justice System. And that's all well-and-good, as long as FINRA is able to enforce its judgments and awards. But obviously it's having a harder time doing that now than it has in the past.

FINRA needs to take a closer look at broker dealer binding arbitration clauses and their standing within the larger justice system. If brokerage firms are not going to honor the awards that FINRA grants to damaged investors, should the clauses that protect firms from criminal action continue to be honored? And why not require or somehow strongly recommend malpractice insurance? Doctors and lawyers almost universally carry it.

These systemic changes may never come. In the meantime, however, investors can take action. They can protect themselves from deadbeat brokerage firms by doing as much background research on firms and brokers as possible, before ever signing a contract. As you might imagine, most of the broker dealers who fold rather than pay up are small-time operators, many with a history of misconduct or shady dealings. Any investor doing their own due diligence could probably see them coming a mile away. Rather than small, unreliable operators, investors should be looking for firms with a long track record of financial stability and probity. Name recognition isn't such a bad indicator of reliability in the financial securities industry, either. After all, there's probably a reason big name firms have stuck around so long and are recognizable: they generally do the right thing. If as an investor you're interested in a smaller firm, call them up and question them about their compliance policies, corporate structure, history, and so on.

In other words, be proactive and be diligent. While the regulatory system may take many years to change (if it ever does), going that extra step to make sure your life-savings are in safe hands can be done any time. We encourage you to do it now!



As always, if you or anyone you know has been the victim of broker misconduct or financial advisor fraud, please contact us immediately for a free consultation.