SEC member Luis Aguilar was on the right track last week when he told an audience at the North American Securities Administrators Association Inc. that investors should not be forced into mandatory-arbitration agreements when they sign on with a broker or investment adviser.
By requiring clients to agree to arbitration as the only way to settle disputes, firms are unnecessarily eliminating an important avenue of redress that is available to nearly every other class of consumer.
“By adding such provisions, brokerage and advisory firms are essentially requiring their clients to give up their legal rights before the client even knows about the nature of a dispute and before the client has had the opportunity to consider whether giving up those rights would be in their interest,” Mr. Aguilar stated. “The inclusion of such provisions in brokerage and advisory contracts diminishes investor protection.”
For advisers, investor protection ought to be a top priority. While it's true that most advisers work hard on their clients' behalf — advising on investment strategy or
financial planning to reach their goals — those who want to build and strengthen long-term relationships ought to have clients' best interests at heart. And part of that is allowing disputes to be resolved in more than one way.
Indeed, Mr. Aguilar was not suggesting that access to the judicial system is a better remedy for investors over arbitration. His point is that investors ought to have the choice. He called it “the unencumbered right to seek redress in all available forums.”
Clients who feel ill-served should be able to decide whether resolution would be better served by a hearing in front of an arbitration panel or through the courts. They should not be forced — at the time when they sign on with their broker or adviser — to use arbitration only. There are situations when one method is better than the other.
NOT TAKEN LIGHTLY
To be sure, in today's litigious society, giving clients the right to sue their adviser should not be taken lightly. Once aggressive trial attorneys know that advisory clients can sue their brokers, chances are good that they will see dollar signs. The risk of an onslaught of frivolous lawsuits that tie up advisers for years is real, as is the potential for their professional insurance rates to skyrocket.
The questions that such access to the courts raises are not easy to answer: Will it simply turn into another avenue for lawyers to drum up lawsuits and pressure firms to settle for big sums of money? How will clients be able to distinguish between a dispute that is legitimate versus one ginned up by lawyers looking for a big payday? Will a dispute between a client and his or her broker rise to the level of a class action?
And there is no doubt that if lawsuits become the norm, costs will go up, and everyone knows who pays when costs rise — clients.
These are questions that should be thoughtfully considered by regulators as they consider this important issue. And they are considering it. One of the components of the Dodd-Frank financial reform law authorizes the Securities and Exchange Commission to prohibit or restrict mandatory pre-dispute arbitration clauses in customer agreements.
In his speech last week, Mr. Aguilar raised some valuable data points that ought to be part of the debate, as well. In fiscal year 2012, the SEC brought 147 investment-adviser-related cases and 134 broker-dealer cases. Together, the two categories accounted for the No. 1 and No. 2 categories of enforcement cases last year. The issue of client-broker disputes is real and needs to be addressed.
Not surprisingly, the commissioner's comments touched a nerve among
InvestmentNews readers, and the views of both sides of the argument should be fully vetted and weighed before any final decisions are made.
ENHANCING PROTECTION
Still, it's hard to say definitively that access to the judicial system to resolve a client-broker dispute should not be allowed, as is the case today in most broker contracts.
“My point is simply this,” Mr. Aguilar told the NASAA audience. “By providing investors with the ability to choose the forum in which to bring their legal claims and protect their legal rights, we enhance investor protection and add more teeth to our federal securities laws.”
Agreed.
