FINRA Under Fire - Expungement & Climbdown on Broker Bonuses

When the New York Times runs an article about how “murky” and unfair certain aspects of the arbitration process that decides virtually all disputes between retail investors and broker-dealers, you know things have gotten bad. Just the other day, the Times published a highly critical piece exposing how brokers who have been slapped with complaints by aggrieved investors can and often do get these complaints expunged from all public records.

For those of you who don’t know already, the Financial Industry Regulatory Authority (FINRA) watches over the US securities industry, and adjudicates, after a fashion, disputes between investors and brokers through its idiosyncratic arbitration process. Because nearly all retail investors, wittingly or unwittingly, must sign binding arbitration agreements with broker-dealers before those B-Ds will accept them as clients, when things go bad, investors must turn to FINRA for resolution. In other words, as an investor, if you believe your financial placed you in unsuitable investments or otherwise engaged in fraud or misconduct, you cannot take them to court and have your case decided by a Judge or a jury of your peers. Rather, you must first take them to arbitration. The bias obtaining in FINRA’s process has been the subject of much outrage and hand-wringing by plaintiffs attorneys and investor advocacy groups alike--for many years. In the aftermath of the financial crisis of 2008-9, however, the flaws in this “murky” system seem more intolerable than ever. A unique historical opportunity for reform appears to be evaporating as quickly as it materialized.

In the past few weeks, FINRA has been skewered for its climb-down on forcing brokerages to disclose any bonuses or incentives offered to financial advisors for bringing clients with them during a broker-dealer transfer. Instead of making disclosure obligatory, FINRA has decided that investors should bear the burden of discovering any bonuses or incentives. (For more on this subject, click here). Of course, FINRA has promised to provide these investors with an information packet on what questions to raise and so on, but do we really believe that most retail investors will feel comfortable grilling their financial advisor about fees? Hardly. And now, we have the New York Times registering its bewilderment and consternation at the ease with which brokers may be able to make the complaints blighting their professional records just, well, disappear. Interestingly, the piece also zeroes in on the way in which investors themselves--the ones involved in the complaint--are typically sidelined during expungement hearings. We wish we could say that this lack of regard for the investor is restricted to the expungement process only; but sadly, the problem runs much deeper than that. Overall, the picture painted by the Times for ordinary investors hoping for transparency and resolution is bleak. FINRA’s BrokerCheck database, which stores records of all FINRA-registered brokers, including their complaint history and any negative employment events, like getting fired, is a powerful and admirable tool. But FINRA seems poised to diminish its potency by too easily vanishing the information contained within it. If investors are to trust BrokerCheck and put their faith in FINRA, brokers’ records will have to be complete and transparent, and the arbitration process will have to be unquestionably equitable and transparent. Unfortunately, FINRA has a long way to go to get there. Let’s hope all the negative attention forces some much-needed positive change.

If you or anyone you know has been the victim of investment fraud or broker misconduct, please contact us immediately for a free consultation at 1-855-462-3330 or via email by clicking here.

FINRA Arbitration Process Under Fire

The securities industry watchdog, FINRA (Financial Industry Regulatory Authority), has come under fire again recently, this time for failing to review its roster of potential arbitrators. According to an article in Bloomberg Businessweek, in a 2013 case set in Wichita, KS, two of the arbitrators offered by FINRA to adjudicate the proceedings and make a ruling happened to be...dead. One of the arbitrators had been deceased for 18 months. This news arrived just a few weeks after FINRA dismissed an arbitrator who had allegedly lied about his legal background. Unfortunately, before his dismissal, this individual actually arbitrated around 30 FINRA cases.

Many investors remain unaware that the vast majority of brokerage firms in the United States require them to sign binding arbitration agreements when initially opening their brokerage accounts. These agreements often pass without notice among the stack of other opening documents that financial advisors may ask customers to sign and/or initial. Not only that, but optimistic customers who do pick up on the arbitration agreement generally will not expect the worse. But when the worst does happen, what are customers really up against...?

For one thing, investors should know that unlike the judges and juries in our judicial system, FINRA’s arbitrators are drawn a pool of around 7,000 retired stock brokers, bankers, branch managers, and attorneys. For the most part, these arbitrators come from the plaintiff or “respondent” side of litigation. Accordingly, FINRA has not been immune to accusations of a strong industry bias in its arbitrators and their rulings. In fact, iit would be surprising if there weren’t a bias: the process was created by the industry and is run by the industry. Perhaps more troubling however is the suggestion, due to the recent developments mentioned above, that the arbitrators, who ultimately decide the outcome of securities litigation, including monetary awards, are not being reviewed and evaluated to ensure they are capable of doing their well-paid job.

If you or anyone you know has been the victim of investment fraud or broker misconduct, please contact us immediately at 1-866-462-3330 or via email by clicking here.

FINRA Stats Suggest Stacked Panels Don't Matter

The securities industry watchdog FINRA (Financial Industry Regulatory Authority) released some interesting figures this week concerning awards in their arbitration hearing process. FINRA is a regulatory arm of the SEC, and its arbitration process--which unfolds outside the US criminal justice system--resolves most forms of securities litigation between investors and broker-dealers. That’s because the vast majority of investors, whether they realize it or not, when they open their accounts with a FINRA-registered brokerage firm sign an agreement binding them to arbitration in the event of legal claims of malfeasance, misconduct, fraud, etc. For more on that, please click here.

Creative Commons, Wikimedia

...Now back to those figures. For many years, FINRA required that in claims over $100,000, at least one member of the three-person panel that sits in judgment over the arbitration process have securities industry affiliations. In practice, that generally meant that one member of the panel came from the brokerage side of the dispute. In 2011, after years of criticism and pressure, however, the SEC and FINRA changed this requirement to give investors a choice. Today, investors can choose between a panel with at least one member hailing from the securities industry; or a panel composed entirely of “public arbitrators” who do not currently have industry affiliations but may have previously worked in the securities industry.

According to FINRA’s new data, since this 2011 adjustment to the rules took effect, they have found that investors have a very small statistical edge in winning an award for damages from a panel with at least one “insider” over a panel of “public arbitrators.” Evidently, panels composed of three public arbitrators ordered brokerages to pay investors damages in 43% of cases that ended with a ruling while 44% of panels with one securities industry insider did. In other words, the results weren’t what everybody thought they would be. Statistically, there’s almost no difference in terms of getting an award between having a panel with an insider and one without.

But the statistics belie much more important information, which does not appear to be forthcoming from FINRA. As The Public Investors Arbitration Bar Association (PIABA), an Oklahoma-based group of lawyers who represent investors, has plainly stated: "The problems of the results go deeper than simply the removal of the industry arbitrator.” After all, let’s just remember that more than half of all cases that make it to arbitration go without any award whatsoever. What’s more, FINRA hasn’t provided any data regarding the amount of damages sought in the original claim versus the amount of damages actually awarded in cases won by investors.

While we’re happy to hear that some form of parity has been reached within the arbitration process, we tend to agree with PIABA that the problems run much deeper. And we’re afraid FINRA may be patting itself on the back a little too soon.

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.

Brokerages Can Point the Finger But They're Still Liable

Just the other day, a FINRA (Financial Industry Regulatory Authority) arbitration panel found Wells Fargo liable for $2.8 million because Wells Fargo failed to adequately supervise a major account in which there was significant fraudulent activity. As we've mentioned in previous posts, even though Wells Fargo did not perpetrate nor was it a party to the misconduct itself, the fact that Wells Fargo (back then it was Wachovia) served as the supervising broker-dealer of the investment accounts in which fraud was taking place under FINRA's regulations means that it's on the hook. This is important from the standpoint of fiduciary responsibility and internal financial industry checks-and-balances, as well as from the practical legal and economic standpoint of recovering losses suffered due to financial misconduct of various kinds. From a fiduciary standpoint, it's vital that brokerage firms and not just individual brokers or investment advisors (or in the Wells Fargo case, a secretary at a law firm representing the aggrieved Boca Raton-based family investment partnership) be held accountable for misconduct occurring within client accounts. When something goes wrong, in the eyes of FINRA, brokerages cannot simply point the finger at rogue brokers or scheming secretaries and say it's strictly the other guy's/gal's fault. Now, not only is this good internal practice, forcing brokerages to monitor and regulate themselves as the first line of defense against misconduct, but legally it often enables clients who lose money--in this case, some $6 million--at the hands of crooks to go after the brokerage firm, too. In the Wells Fargo case, the family investment partnership successfully prosecuted the secretary who perpetrated the fraud against them in civil court. Unfortunately, the secretary was unable to pay the damages. Surprise, surprise. The partnership's legal team then smartly took their case to FINRA, and shined the spotlight of accountability on Wells Fargo. Although the secretary was the agent of fraud and not working for Wells Fargo, the bank was found by a FINRA arbitration panel to be liable for negligence to the tune of $2.8 million, since they didn't catch the fraud and losses in the accounts as soon as they should have. Obviously, the partnership has a much better chance of recovering money from Wells Fargo than from a disgraced secretary.

If you or anyone you know has been the victim of broker misconduct of any kind, please contact us immediately for a free consultation.