Intra-Industry Arbitrations


One certainty in the brokerage world is that registered representatives often switch from one member firm to another. There is nothing wrong with the switch, but there is a word of caution to be shared.

Before you leave, make sure you only have in your possession, if anything, only those things that the firm you are leaving lets you keep. If you take something you are not allowed to have, you can rest assured that your former employer will come looking for you.Core Values

Similarly, you should determine whether the old or new firms are members of the broker-dealer protocol. If so, you should check the protocol for what you are allowed to take and what notice you have to give to your former employer about the information you are taking with you.

If one or neither firm is a member of the protocol, it still makes sense to follow the protocol. By doing so, you can demonstrate, if ever challenged, that you tried to do the right by following an objective standard that many in the industry have accepted.

Another thing you should verify is whether you are under contract with your old firm to delay your formal commencement with the new firm; otherwise known as a garden leave policy. If so, you had better follow it. If you opt not to follow it, you should expect a disgruntled former employer coming after you.

So change firms if you like. Just be certain you know what you are doing before you do it. A couple missteps here and there could get you in front of FINRA on an enforcement case.

When you are faced with a customer complaint, the single most important thing in my expense is the content of the file. If it is not there, it will not exist in the mind of the factfinder. If it is there, the so-called “film” generally does not lie.

Over the years that I have defended brokers and investment advisors, I frequently hear things along the line of, “I really talked with the client once a week”. Yet, in many instances there is nothing in the file, such as contemporaneous notes or a follow-up email or letter, to substantiate this claim.

Factfinders sometimes are of the mind that the calls never happened if the “film” is not there. So what should you do to avoid this unfortunate prejudice at the time of a trial?

For one, slow down. In this age of multitasking and instant messaging throughout the day, don’t forget a little CYA may go a long way.idea.jpg

After any communication you have with a client, make a brief note of the call electronically or, dare I say, hard copy form. Send an email to the client confirming the substance of the call, or send a letter.

Taking these simple steps serves two purposes. First, it gives you some (better than none) protection if you are ever questioned about advice you may have given to a client. Second, it protects the client from themselves. If you confirm what the client agreed to, for example, that same client will be hard-pressed to legitimately complain and, at the same time, has a reference for what you are doing with the client’s account.

Take your time, Take notes, or confirm discussions in writing. Taking this simple step may mean all the difference to successful defense.*

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The SEC recently approved a FINRA proposal that will further restrict who can serve as “public” arbitrators. Under this new formulation, individuals who have worked in the securities industry and lawyers, including those who represent claimants, could not be considered “public” arbitrators for a period of time.

The big change under this new rule, is that any lawyer who has devoted 20% or more of his/her time over the last five years representing claimants would be considered nonpublic instead of public arbitrators. These lawyers can reenter the public arbitrator sphere after a five year cooling off period.

The new rule will also exclude certain professionals from being a public arbitrator. Any attorneys, accountants and other professionals who have worked for financial firms for more than 20 years cannot be a public arbitrator. If they have worked in the industry for less time, they can become a public arbitrator after a five year cooling off period after the cessation of their employment.buyholdsell.jpg

This new rule when coupled with the prior rule that allowed a claimant to select an all public panel is seen as another way to level the playing field. I am still firmly of the view, however, that these rule changes will make the use of experts a necessity.

When you had an industry person on the panel, both sides could Use that person as a conduit to explain the nuances of the securities business to the other panelists, many times you could do this without an expert. In other words, an effective presentation could result in the industry person actually acting like an expert for either or both sides.

I believe that this new rule will make arbitration more not less expensive because an expert will be a necessity. The secondary risk is that all public panels with no industry representation will do nothing to level the playing field in arbitration. Instead, inexperienced panels will likely result in bizarre awards and more efforts to challenge those awards. Time will tell . . . .

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Anyone who has handled FINRA arbitrations, from the compliance officer to in-house counsel, you have probably had to deal with a problem arbitrator.  How many of you have had arbitrators sleep through the proceedings?  How many have had arbitrators who simply turn out to know absolutely nothing? 

I suspect that the answers to these questions are an unfortunate yes.  What would you do if one of your arbitrators was suspended for the unauthorized practice of law?  This is the issue current winding its way through the federal courts in Philadelphia. spying.jpg

In this case that is on appeal, one of the arbitrators had this issue and the parties consents to have the remaining two panel members decide the case.  The losing party is now claiming on appeal that it was denied its right to a panel of three arbitrators.  

From my perspective the result of the case is less important than the lessons to be learned.  For one, FINRA over the past year has taken a more proactive approach to assessing its arbitrator pool.  Practitioners also have tools at our disposal.

When ranking your arbitrator selections, you should perform independent research separate and apart from the packet FINRA provides.  When your panel is selected, you should do the same sort of research because you still have the opportunity to object to the appointment of one or more of the panelists. 

For example, a simple Google search can reveal a wealth of information.  Also, you should search the state and federal courts in the jurisdiction in which the arbitrator resides. 

These are just a couple of resources that you can use, but nothing is perfect.  The key is to do something so that you can hopefully avoid the problem of having an arbitrator removed mid-hearing.  That is certainly not something anyone bargained for when you proceed to arbitration.

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Brokers like anyone else enjoy making money the old fashioned way  . . . . by inheriting it.  Although everyone wants to inherit business, a recent Investment News article highlighted the pitfalls associated with agreements to acquire the business of a retiring broker. confusion.jpg

Indeed, intra-industry disputes, such as those involving the acquisition of a book of business from a retiring broker, represent approximately 30% of all cases before FINRA.  So what are the pitfalls? 

For one, the acquiring broker may have ongoing financial obligations to the retiring broker that could last for years.  Such provisions may, in turn, restrict the acquiring broker from moving to another firm because the agreement may not be in conformity with the Protocol for Broker Recruiting; an agreement between firms that gives a broker the ability to move client information to another firm without the threat of being sued.   

The transportability of a book of business may ultimately depend if it was truly inherited without any prior connection between those clients and the acquiring broker. If the acquiring broker had worked with the acquired clients before inheriting them, there is a greater chance that the Protocol may insulate the broker who then wants to transfer these clients to a another firm. 

There is one pretty clear takeaway from the Investment News article. If you acquire a book of business from a retiring broker, make sure you have a solid agreement; one that gives you the ability to transfer to another firm while satisfying any financial obligation you may have to the retiring broker.

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As a result of a couple high profile awards that were overturned because of issues with the arbitrators, FINRA has vetted its pool of arbitrators and has instituted new procedures to review arbitrators. Should you feel any better that this has happened?

Having defended broker-dealers and registered representatives over 16 years, I have, at times, seen the underbelly of FINRA’s arbitrators. My hope is that FINRA’s routine Internet searches of its arbitrators and using social security numbers to verify information about arbitrators will reveal bias or other issues that may warrant FINRA removing the arbitrator from its pool.

FINRA’s goal of having a well-qualified and non-biased pool of arbitrators should appeal to both claimants and respondents, assuming the ultimate goal is to obtain a fair result. This, however, should not be the end of your analysis. spying.jpg

Arbitration practitioners should always do their own due diligence before selecting a panel. It is amazing what a simple Internet search can reveal.

For example, Internet searches may reveal prior litigation involving the arbitrator. You may also find articles written by the arbitrator or news stories quoting the arbitrators.

FINRA has taken the first step in ensuring that the parties have good panels. That due diligence is the floor; all practitioners must do their own independent research before selection a panel, or your clients may suffer the consequences for your failure to do so.

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Both the industry and customers liked FINRA arbitration because it was a relatively cost effective dispute resolution forum.  With FINRA Notice to Members 13-21 and effectively doing away with having an industry person on the panel, FINRA has just made arbitration more expensive for everyone.

Without any industry presence on the panel, both customers and firms will have little choice but to present expert testimony to explain their respective positions regarding the investments at issue.  In the past, that was not always necessary because you knew that one panel member would be able to explain the investments to the other panel members. 

Left with little choice, firms should make sure that they have an adequate stable of potential independent experts.  From my experience, the best choice will have had experience as a registered representative who had day-to-day contact with customers, as well as supervisory experience.

By having experts with this diverse background, you can effectively provide the perspective of direct customer relations to explain the investment recommendation process.  At the same time, you can give the perspective of the firm and the adequacy of the supervision over the registered representative. 

The absence of an industry person on your arbitration panel should not be the end of the world.  It will, unfortunately, force you to expend funds on experts.  Better to find your stable of experts sooner than later so that you can be prepared if the time should come.

This past week, members of the North American Securities Administrators Association lobbied Congress to do away with mandatory arbitration provisions from customer agreements.  In a speech before this group, SEC Commissioner Aguilar expressed that mandatory arbitration agreements must go.  Would this be a bad thing?

Arbitration has be seen as the preference of the industry because of the perception that it is quicker, more cost effective, and likely to be a more favorable forum than a court.  In the hundreds of customer arbitrations that I have handled, this has certainly not always been the case.  Plus, FINRA arbitrations are now being skewed in favor of the claimants.

In arbitration, there is no meaningful way to challenge frivolous claims like you would in a court.  I can think of one arbitration hearing that I had (which lasted 44 days) where being in a court would have been a better course.  At least there I could have gotten some of the claims that were without merit dismissed.

So where does this leave us?  I think that the likely result will be a change, not an outlaw of arbitrations.  Brokers will likely have to provide their customers the option of being in court or arbitration.

From my perspective, this may not be a bad thing.  When faced with bogus claims, which are many, I would always want to be in a court where I have a meaningful way to challenge those claims.  Let me know your perspective.

The SEC agreed to a proposed change to the Financial Industry Regulatory Authority’s arbitration rules relating to subpoenas and orders directed towards non-party FINRA members and their associated persons.  See Release No. 34-68404; File No. SR-FINRA-2012-041 (December 11, 2012), and

These new rules will allow FINRA arbitrators to issue orders for the appearance of witnesses and production of documents instead of subpoenas.  Arbitrators will also be able to allow these non-parties the opportunity to object to subpoenas and arbitrator orders of production prior to their implementation.  These rules would also institute procedures for the service of motions for subpoenas and arbitrator orders, service of issued, subpoenas and arbitrator orders, and time frames for responding to subpoenas and arbitrator orders. 

In short, these new rules have seemingly broad support, and may make the FINRA arbitration process less onerous for non-parties.  Although we probably will still hear about non-party complaints regarding appearances and document productions, since no one really likes to be bothered.