State regulators want to ensure that brokers pay arbitration awards to harmed investors but they question whether making them take out insurance is an effective way to do it.
The Financial Industry Regulatory Authority Inc. is considering requiring brokers to buy insurance to cover arbitration payments, The Wall Street Journal reported on Oct. 5.
On the sidelines of the North American Securities Administrators Association's annual conference in Salt Lake City this week, state regulators were intrigued by the insurance notion.
“It's an idea worth exploring,” said David Massey, deputy securities administrator in North Carolina.
An arbitration finding against a small broker can bankrupt the firm if it has low capital levels. When a firm goes out of business, it avoids paying arbitration claims. About $51 million in arbitration awards, or 11% of the total, was not paid in 2011.
“Anything that would help investors get their money back in the remedies could be great,” said Jack Herstein, assistant director of the Nebraska Department of Banking and Finance.
Although state regulators embraced the goal of insurance coverage, they were less sure about how it would work in practice.
“I'm sympathetic to the problem,” said Andrea Seidt, Ohio securities commissioner. “I'm not sure [insurance] is the right answer or not.”
Joseph Borg, director of the Alabama Securities Commission, questioned whether errors-and-omissions insurance could extend to instances of fraud and intentional injury.
“I don't know how insurance companies would see that,” Mr. Borg said.
A. Heath Abshure, Arkansas securities commissioner, doubts that insurance companies will get into the arbitration coverage market.
“No insurance company is going to insure another entity against fraud,” Mr. Abshure said. “What's the insurance rate going to be?”
If brokers' E&O coverage didn't include fraud, but permitted some form of remuneration, it may change the way that plaintiffs pursue their claims.
“If I could bring something less than fraud that comes under the insurance coverage, I may bring that,” Mr. Borg said.
The best way to ensure that harmed investors are compensated is to bring cases against firm executives rather than firms themselves, according to Mr. Abshure.
“You don't buy insurance, you go after the people,” he said. “You ultimately have to try the person who's calling the shots because a corporation can't act without a human being telling it what to do.”