Many firms, such as TD Ameritrade, Charles Schwab and Fidelity, whose business model includes or is tailored primarily to investors who want the benefits of a self-directed account also offer to introduce investors who wish independent investment advice to professional investment advisors who are technically “unaffiliated” with the firm. Such investment advisors are often small SEC Registered Investment Advisors (“RIA”s) who are thinly capitalized and have supervisory systems that are well below FINRA broker dealer standards. The brokerage firms contract with such RIAs to be on their platforms and available to provide advice to customers that the firm introduces them to. Those contracts are often designed to, among other things, insulate the brokerage firm from liability for investment advice given to the investor. This is so even though the brokerage firms vet such advisors, who become part of a “platform” they market to investors. Investors who are “introduced” by their firm to an RIA who will provide them investment advice may not realize that the firm’s position is that if the advice is inappropriate the RIA and not the firm is legally responsible. Indeed, the firms structure their contracts with the customer as well as the RIA to give them this protection. Customers can be easily misled by such “introductions” into believing that the firm stands behind the RIA. Although the legal documents, couched in legalese, may so specify, the customer, who often does not read all the legalese in these documents, can be forgiven for believing that the firm that recommended the advisor and investment plan should have some responsibility if that advisor acts improperly. Investors at such firms need to know that they are taking a risk that if their firm recommended RIA gives them unsuitable advice they may be stuck suing a potentially judgment proof RIA in court (rather than the more cost effective FINRA arbitration).
This week, a Florida appeals court partially reversed a ruling denying Bank of America’s efforts to arbitrate various claims related to the Scott Rothstein Ponzi scheme. Bank of America, N.A. v. Beverly, Nos. 4D14-3167, 4D14-3168 (Fla. Dist. Ct. App. June 10, 2015). The appellate court ordered arbitration in a case brought by Douglas Von Allmen, a long-time customer of Bank of America, who alleged that the bank’s improper advice led him to invest in a feeder fund to the Rothstein Ponzi scheme. Von Allmen had entered into a loan agreement with the bank that had a broad arbitration clause, which the court found to be enforceable.
In a second case consolidated for purposes of appeal, the Florida court refused to order arbitration in a case against Bank of America brought by plaintiffs who had no relationship to Bank of America, but who alleged that the bank’s advice to Von Allmen propped up Rothstein’s Ponzi scheme. The court found that these plaintiffs, who were non-signatories to any agreement with Bank of America, could not be forced into arbitration.
For a potential plaintiff, knowing whether your dispute arises from an agreement and whether that agreement has an enforceable arbitration clause can save not only time but also legal costs.
There has been a spate of litigation in recent years over whether broker dealers can contract out of FINRA arbitration and litigate in court instead. Goldman, Sachs & Co. v. Golden Empire Schools Financing Authority, 764 F.3d 210 (2d Cir. 2014) is a recent example in the Second Circuit. Since 1989 the courts have blessed industry mandated FINRA arbitration as contained in the industry’s standard form customer agreement. Thus, investors effectively have no choice but to resolve investment disputes through arbitration. The industry has benefited from less costly and efficient arbitration and the avoidance of jury verdicts, and until recently, the FINRA rule requiring an industry representative on every panel. The trade off to enforcement of mandatory arbitration in favor of the industry was supposedly a fair and more efficient dispute resolution process for the investor.
Now, however, as FINRA reforms over the years have made arbitration more fair for investors, and as the cases brought against broker dealers have become larger and more complex, the industry is shifting strategy and attempting to have large and complex cases litigated in court. The means of choice for the industry to accomplish this are court forum selection clauses in contracts brokers obtain from the investor in an effort to trump any FINRA arbitration requirement.
Why would the industry like to be able to escape FINRA arbitration in a large and complex case? The answer lies in the nature of the investment documents usually associated with these cases which investors are required to sign as part of complex investment purchases. These investments typically have standard form risk disclosures which investors must acknowledge before investing. Such disclosures can sometimes be fatal to a court claim where they often form the basis for a motion to dismiss the case before discovery or trial, based on the more stringent pleading requirements of court litigation. In FINRA arbitration, on the other hand, absent rare circumstances, the investor is guaranteed a hearing on her case and motions to dismiss are not allowed.
Reuters reports that Morgan Stanley’s annual 10-K, filed March 2, 2015, indicates that the New York Attorney General intends to file a lawsuit related to 30 subprime securitizations sponsored by the company. This follows lawsuits and similar allegations by attorneys general in California, Virginia and Illinois. The New York Attorney General indicated that the lawsuit would allege that Morgan Stanley misrepresented or omitted material information related to the due diligence, underwriting and valuation of loans and properties. In the 10-K, Morgan Stanley stated that it does not agree with the allegations.
Morgan Stanley also reached a $2.6 billion agreement in principle last month with the U.S. Department of Justice and the U.S. Attorney’s Office for the Northern District of California to resolve claims related to what it called “residential mortgage matters.”
It remains to be seen whether investors will reap any of the benefits of these government actions seeking to mend the damage done by the subprime mortgage crisis and the proliferation of mortgage-backed securities (MBS), residential mortgage backed securities (RMBS), and collateralized debt obligations (CDOs).
This week, the New Jersey Supreme Court denied the appeal of an arbitration award against Merrill Lynch by the Associated Humane Societies Inc. of Tinton Falls, N.J. In the original FINRA arbitration, the society alleged that certain of its investments were improper, it improperly sustained penalties and other charges when the investments were liquidated, its accounts were improperly managed and churned, and it was overcharged for management of its accounts. The society sought $10 million in punitive damages, $872,171 in compensatory damages and $544,299 in attorneys’ fees. After an 18-day hearing, the FINRA panel found in favor of the society, but awarded it only $168,103 in compensatory damages and $126,077 in punitives.
The society appealed. A 3-judge appellate division panel upheld the award in October, finding that the FINRA panel did not abuse its discretion. Associated Humane Societies, Inc. v. Merrill Lynch, Pierce, Fenner & Smith, Inc., No. L-4376-13 (Oct. 29, 2014). The New Jersey Supreme Court denied any further appeal on Feb. 17, 2015.
Though the society was ultimately disappointed with the size of the award, the decision shows the reluctance of courts to disturb FINRA arbitration awards.
Does the conventional wisdom regarding asset allocation hold up in today’s economy? The New York Times recently featured an article suggesting that a portfolio teeming with risky stocks, derivatives, and other exotic investments may, in fact, not be suitable for even young investors. The Times points out that these young investors experience higher rates of unemployment and are more likely to cash out their 401(k)’s and other investments when they switch jobs. An appropriate suitability analysis under FINRA Rule 2111 would take these factors into account. It is highly likely that many brokers are still using a one-size-fits-all asset allocation formula for their young customers.
Investors may have a variety of claims against such brokers who fail to take into account current market conditions, including unsuitable investment advice, fraudulent misrepresentations and omissions, and failure to supervise.
Below is a Bloomberg article about our firm’s $20.6 million FINRA arbitration award against Goldman Sachs related to Bayou. It’s the largest arbitration award ever rendered against Goldman. The award was confirmed by Judge Rakoff and Goldman filed it’s brief to the Second Circuit.
Goldman Sachs Asks Court to Throw Out $20.5 Million Bayou Creditors’ Award By Bob Van Voris – Oct 15, 2011
Goldman Sachs Group Inc. (GS) filed an appeal seeking to dismiss a $20.5 million arbitration award to creditors of the failed hedge fund firm Bayou Group LLC.
Below is a WSJ article about our firm’s $20.6 million FINRA arbitration award against Goldman Sachs related to the Bayou hedge fund fraud. It is the largest arbitration award ever rendered against Goldman. The award was confirmed by Judge Rakoff of the SDNY in November 2010 and Goldman filed it’s brief to the Second Circuit this week.
Goldman Continues to Fight $20.5 Million Award in Pivotal Case By LIZ MOYER
NEW YORK-Goldman Sachs Group Inc. is continuing to fight a $20.5 million arbitration award that, while relatively small from the big bank’s perspective, has broader implications for Wall Street.
A Florida FINRA panel awarded $6.4 million to an investor in Citi’s MAT municipal bond arbitrage fund this week. It’s the largest award rendered against Citi related to its MAT and Falcon proprietary fund blow-ups. The case is Berghorse v. Smith Barney (FINRA 08-04466). Although damages claimed on the award were $12 million, sources say the net out of pocket losses were under $10 million, making the award amount over 64% of the losses. The 29 hearing sessions also make it the longest MAT arbitration to date. This substantial award follows a string of 100% NOP awards rendered against Smith Barney late last year. Below is an On Wall Street piece about the case.
FINRA: Citi To Pay Investors $6.4M By Lorie Konish February 9, 2011
A Financial Industry Regulatory Authority panel has ordered two parts of Citigroup Inc. to pay $6.4 million to make up for investment losses tied to a group of troubled municipal arbitrage trust funds.
Rich & Intelisano recently won a FINRA arbitration award which included $100,000 in punitive damages. The case is Stora, et al. v. Strasbourger, Pearson et al. (FINRA 09-01769). We represented a group of investors who were defrauded by a broker dealer and its registered representatives. Matthew Woodruff of our office tried the matter which included five hearing sessions. The panel awarded the claimants $373,968 in compensatory damages, plus interest. The award is significant because pursuant to the Mastrobuono Supreme Court decision, the panel awarded claimants $100,000 in punitive damages, a rarity in securities arbitrations.