Securities Arbitration: A Primer
The securities industry has long favored arbitration as the preferred method of dispute resolution.It has been standard practice in the securities industry for many years now for brokerage firms to mandate the use of the arbitration process to resolve investor disputes. Although there has been extensive litigation surrounding the issue of enforceability, generally these arbitration agreements will be enforced by courts. After the issue was settled in a series of important Supreme Court rulings on arbitraiton in the 1980’s, most brokerage firms began requiring customers to sign arbitration agreements at the time of opening a brokerage account. As a result, most disputes between customers and their brokers must be submitted to arbitration. Therefore, particularly in this precarious financial climate, it is essential that investors know the basics about the arbitration process and its impact on their rights.
Although there are many arbitration forums with varying rules, regulations, and degrees of formality, the most common forum for securities dispute resolution is administered by the Financial Industry Regulatory Authority in its dispute resolution division (FINRA (formerly known as the National Association of Securities Dealers (NASD)). FINRA is subject to regulation by the Securities and Exchange Commission and administers over three thousand arbitrations between brokerage firms and customers per year. There are rules concerning all aspects of the procedure; from the selection of arbitrators to the scope of discovery of information. Generally, arbitrations filed with FINRA can take anywhere from a year to eighteen months to reach an evidentiary hearing before a panel of arbitrators.
Claims filed with FINRA usually involve claims of unauthorized trading, negligence, misrepresentation, unsuitability, fraud, breach of duty, or breach of contract; among other things. Once a claim is filed, the next step is the selection of the arbitration panel which will hear the dispute.A panel typically consists of three arbitrators.The proposed list of arbitrators is made by random computer selection by FINRA with the ultimate panel appointments based on the parties’ choices from three lists each containing eight names.Generally, the rules require that one of the arbitrators be currently associated with the securities industry.This selection process has drawn heavy criticism given presumed inherent bias of the industry arbitrators. This issue, though debated in the industry for many years, has been highlighted recently given the current troubled state of the securities industry with respect to the collapsed market for auction rate securities.
The auction rate securities debacle erupted the week of February 11, 2008 when the nation’s leading financial institutions abruptly ended their role in supporting the auction rate securities market, causing the market to collapse. As a direct result, investors were left holding approximately $330 billion in illiquid securities that were marketed and sold to them as “cash equivalents.” Auction rate securities refer to a type of debt security with nominally long-term maturities and variable coupon rates set at periodic auctions.Recently, several major financial institutions have offered redemptions to investors, but the proposed settlements contain many restrictions and have not begun to resolve all of investor’s concerns. As a result, the number of arbitrations filed related to auction rate securities continues to grow and raise important questions about the neutrality of industry arbitrators.
In response to these concerns related to fairness, on August 7, 2008, FINRA announced a special process for arbitrations involving auction rate securities. In its press release on the subject, FINRA explained that investors filing claims related to auction rate securities have the option of a three person arbitration panel that contains no arbitrators affiliated with any of the firms involved in the auction rate securities scandal. This was welcome news for investors who in many cases would have faced the possibility of being forced to have their claims heard by an arbitrator that could be presumptively biased by their firm’s involvement in the recent auction rate securities turmoil.
While this is certainly good news for investors, there are still many issues to navigate in the auction rate securities and arbitration worlds, and investors would be well served to obtain legal advice on the best route to an efficient and complete recovery. Crosby & Higgins, stands out among those firms active in this area and has been at the forefront of prosecuting claims relating to auction rate securities. If you have any questions about the arbitration process concerning auction rate security offers or any other potential investor claims, please feel free to contact us directly at 646-452-2300.
