State regulators, independent brokers tussle over mandatory arb

Abrogation of rights or a fair system? Opinions fly at IN roundtable

Jun 11, 2013 @ 4:04 pm

By Mark Schoeff Jr.

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Schwab: Putting clients on waivers ((Photo: Bloomberg News))

The Securities and Exchange Commission may be putting off reforming mandatory-arbitration clauses in brokerage contracts, but that doesn't mean that state regulators are backing off their fight to change the system.

The North American Securities Administrators Association Inc. has been pushing the SEC to use its authority under Dodd-Frank to end or limit the pre-dispute mandatory-arbitration provisions that are included in nearly every broker-client agreement. The agency has not addressed the issue.

At the InvestmentNews Regulatory Round Table yesterday, A. Heath Abshure, Arkansas' securities commissioner and NASAA's president, used an example of an investor whose individual retirement account totals $27,000.

“If he's got a mandatory arbitration provision with a Charles Schwab class action waiver, that means he's going to arbitration. That's the only alternative he has. Find the securities lawyer who is going to take a $27,000 class action fraud case…”

He added that the way things are currently set up, "The [arbitration system] really presents an absolute prohibition and an impossibility for small investors to seek redress for securities fraud.”

Ira Hammerman, senior managing director and general counsel at the Securities Industry and Financial Markets Association, countered that the arbitration process, which is administered by the Financial Industry Regulatory Authority Inc., is the fairest and most efficient way to help small investors.

“It is one where customers who have small claims can go and have those claims resolved. A customer can literally fill out in handwriting a piece of paper … and even in that $27,000 account can have their so-called day in court, where if it were a real court, there's no way that anyone could pursue that case,” Mr. Hammerman said at the InvestmentNews event.

The defendants in arbitration cases also have misgivings. Among independent broker-dealers, there has been a growing “disenchantment” with the system over the last year, according to Dale Brown, president and chief executive of the Financial Services Institute Inc.

“The reality, they're experiencing is that it's becoming more unpredictable, more costly,” Mr. Brown said at the Regulatory Round Table.

Mr. Brown, whose organization comprises of independent brokers and financial advisers, said that Finra arbitration panels are inconsistent in applying rules related to evidence and the statute of limitations. He's also wary of attempts to limit the involvement of industry representatives on arbitration panels.

“Industry participants bring a perspective on how things really work, and I think add to the fairness of the proceedings for investors,” Mr. Brown said.

To that, Mr. Abshure quickly disagreed.

“Industry participants mean they're there as employees of the industry,” Mr. Abshure said. “I don't want a broker deciding an arbitration matter. I want a judge deciding an arbitration matter.”

The FSI is engaged in conversation with Finra to improve the arbitration system, Mr. Brown said. But he defended arbitration as the better forum for fraud claims because the court system “is too high a barrier — too costly.”

State regulators give the system no quarter.

“The entire procedure is set up in the industry's favor,” Mr. Abshure said. “It needs to be reformed.”

In a letter last month to 37 lawmakers who urged the SEC to take action on mandatory arbitration, SEC Chairman Mary Jo White wrote that the issue “warrants serious consideration” and that SEC staff “currently is studying whether — and if so, how and under what circumstances — they would recommend that the commission consider using this authority.”

Yesterday after the Regulatory Round Table, Mr. Abshure and other NASAA officials met with Ms. White, who didn't offer any further details about her position.

Mr. Abshure said he was disappointed that Ms. White didn't act on the letter from Congress.

He added, “She seems very open and willing to talk with us, hear our concerns, which is a good sign.”

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