Avenging Your Broker's Blunders

by Dianne Molvig

What do you do when one of your investment account's quarterly statements arrives in the mail? Perhaps, like many people, you hesitate to open it. You know that inside the envelope you'll find bottom-line numbers that either will depress or infuriate you, or both. Who needs such bad news?

Some investors, however, are recouping some of the money they've lost in the stock market in the past few years. But don't let the dollar signs start swimming in your head just yet. Not everyone can recover his or her losses. Simply having lost money isn't reason enough to get any of it back.

"A lot of people are complaining about the stock market right now," notes Deborah Bortner, director of securities for the state Department of Financial Institutions, Olympia, Wash. "They think somebody must be at fault. We lived in a bull market for years, and people forget the market also can go down."

Broken trust

If, however, your losses are the result of broker wrongdoing--and you can prove it--you may be able to recover part of your losses. But your case must meet certain criteria.

At the heart of all cases of merit lies a breach of trust between the broker and the investor, says David E. Robbins, a New York City securities lawyer who represents investors and brokers and also mediates and arbitrates disputes between them.

"First," he says, "you have to have a trust relationship established between the broker and the customer." Was the broker a friend, or recommended by a relative, or someone who gave an investment seminar at the local library?

Once the trust relationship is in place, the broker is obligated by law to only recommend investments that are appropriate or suitable for the investor. That means the broker should keep in mind the individual's goals, finances, and risk tolerances. Plus, the broker should research any company he or she recommends to the investor. What are its earnings? Is it hiring or laying off people? What are its sales projections? Such facts are what's known as "material information"--essential for people to be able to make informed decisions about where to invest their money.

Typical transgressions

What sorts of misdeeds must brokers commit for investors to have grounds to try to recover their money? For one, they might have recommended investments they knew were not right for the investor. Or they might have misrepresented or failed to disclose material information to investors, whether deliberately or unintentionally.

"In all my years of doing this work," Robbins says, "I've seen a small percentage of cases that involve out-and-out fraud. It's usually that brokers are good people who pass on their ignorance about the investment to the investor."

Or brokers may make recommendations based on tainted research issued by their own brokerage. Then an investor's gripe isn't with the broker, but the brokerage firm. A recent federal and state settlement against 10 major investment firms is a case in point.

Another wrongdoing is what's known as churning. Here the broker excessively trades an account, thus padding his or her pockets with commissions earned with each transaction. To pull this off, the broker may tell the investor "this is too complicated for you," and thus convince the investor to let the broker have free rein in trading. Or the broker might argue that the investor was away and couldn't be contacted about the trade in advance. Whatever the excuse, churning is illegal.

Getting even

If you think your broker has wronged you, the first step is to write a letter to the broker. "I don't like to call it a complaint letter," Robbins says. "What I recommend is that you ask for an explanation, because once you start complaining, you put people in a defensive mode. Instead, say, 'I don't understand why you recommended what you did. Can you explain it to me?' " Your inquiry should always be in writing, and you should ask for a written response within a reasonable period of time, say 10 business days.

If the broker's explanation is unsatisfactory, write again. You may want to send a copy of your letter to the branch manager at the brokerage firm where your broker works and to your state regulator, suggests Bortner, who's also president of the National American Securities Administrators Association (NASAA), a group of state securities regulators.

"If the broker takes care of the issue," she adds, "there's nothing we need to do about it. Otherwise, we may get more involved in the complaint process." She adds that sometimes the state regulator will mediate disputes between brokers and investors to help them arrive at a mutually agreeable settlement. See the NASAA Web site to find contact information for your state regulator.

If you're dissatisfied with your broker's response, you may be tempted to take the matter to court. But you can't, usually. In all likelihood you signed a mandatory arbitration clause when you started doing business with your broker. This prevents you from filing a lawsuit--the only exception being a class-action lawsuit. A class-action, however, can entail lengthy litigation. And by the time you pay attorneys' fees and divide any money you might win with other plaintiffs in the class, your individual award may be minuscule.

Another recourse is mediation or arbitration before a neutral individual or panel. The National Association of Securities Dealers' (NASD) regulatory arm handles the vast majority of mediations and arbitrations in these kinds of disputes. The New York Stock Exchange (NYSE) also offers such services. These agencies provide lists of mediators and arbitrators for you to choose from; the broker has to agree to the person(s) you select. Complaint forms and information are available on these agencies' Web sites.

Mediation is less formal and less expensive than arbitration. Given the high volume of complaints these days, however, brokers usually won't agree to mediate unless an arbitration claim has already been filed, according to Robbins. If, after a degree of document production (discovery), the brokerage firm recognizes it could lose in arbitration, then it's more amenable to working out a settlement in mediation, rather than taking its chances on what the arbitration panel may decide. The panel's decision is binding on both parties, while mediation is a voluntary, confidential process (in which the terms of settlement are not usually a matter of public record).

What are investors' odds for success? Because of the arbitration clause in all customer agreements, disputes have to go to arbitration instead of court; about 90% of consumer complaints go to the NASD and the balance to the NYSE and regional Exchanges. However, NASD statistics show that only 32% of its cases end in arbitration, 37% are settled, 13% are mediated, 9% withdrawn, and 8% involve other measures. Statistics of the General Accounting Office show that 55% of arbitrations resulted in decisions favorable to the investor.

Robbins suggests hiring an attorney to assist you if your losses are $100,000 or more. Experienced securities arbitration lawyers are adept in evaluating the merits of your case, deciding what should be asserted in your claim, knowing the documents to seek in discovery, knowing the special rules of arbitration, knowing how to negotiate settlements in appropriate cases--directly or through a mediator--and knowing how to argue cases before arbitration panels. For losses of around $25,000, you could do it all yourself. If your losses are in the $25,000 to $100,000 range, "You might want to hire an attorney to ghost-write for you," Robbins suggests, "without being the attorney-of-record."

If you hire an attorney, be sure he or she is a specialist in securities law. Your local or state bar association can provide referrals, as can the Public Investors Arbitration Bar Association.

July 14, 2003