More On Legal & Compliancefrom The Advisor's Professional Library
- Privacy Policies and Rules Whether an RIA is SEC or state-registered, the firm must have policies and procedures in effect to protect clients privacy. Policies and procedures should explicitly require an RIA to send out its privacy notice each year.
- Conducting Due Diligence of Sub-Advisors and Third-Party Advisors Engaging in due-diligence of sub-advisors isnt just a recommended best practice it is part of the fiduciary obligation to a client. An RIA should be extremely reluctant to enter a relationship with a sub-advisor who claims the firms strategy is proprietary.
Each year, thousands of investors file complaints against their stockbrokers, and almost every broker-dealer presently includes in its customer agreements a provision that forces those investors to submit all disputes to mandatory arbitration. This is increasingly becoming the case with investment advisor customer contracts as well.
NASAA does not oppose arbitration agreements if they are entered into voluntarily and after a dispute is known. NASAA does adamantly oppose pre-dispute prohibitions on investors’ rights to choose an appropriate forum to hear their claims.
NASAA is equally alarmed at the expansion of pre-dispute arbitration provisions to include class-action waivers. The combination of mandatory pre-dispute arbitration provisions and class-action waivers virtually eliminates any reasonable recovery forum for small to medium sized claims.
Congress shares NASAA’s concerns over the increased use of mandatory pre-dispute arbitration provisions in contracts between investors and broker-dealers and investment advisors. Section 921 of the Dodd-Frank Act, for example, gave the Securities and Exchange Commission explicit authority to restrict or prohibit broker-dealers and investment advisors from including mandatory pre-dispute arbitration agreements in their customer contracts.
In the more than three years since the enactment of Dodd-Frank, the SEC has failed to act under Section 921.
Meanwhile, reasonable recovery forums for investors have all but disappeared when mandatory pre-dispute arbitration agreements are combined with class-action waivers.
Earlier this summer, the Supreme Court held that a group of merchants were bound by individual arbitration agreements with American Express even if a class action was the only way to make their claim economically viable. The decision was the latest in a series of recent rulings that have fundamentally transformed the very nature of arbitration. The arbitration forum, intended as a fair and equitable way to resolve disputes between mutually consenting parties, has devolved into a blunt contractual device routinely deployed by the strong to prospectively deny rights and recourse to those who are much weaker.
Even more pressing is a decision by the Charles Schwab & Co. brokerage firm to expand its mandatory pre-dispute arbitration contracts to require that customers waive their right to participate in class actions.
In late 2011, Schwab seized an opportunity to capitalize on recent court decisions favoring the expanded application of “forced” arbitration contracts and sent more than 6.8 million existing customers account statements with immediately effective amendments to the account agreements. These amendments included a class-action waiver (a denial of the right to participate in class action litigation or on a representative basis). The waiver was also included in new account agreements.
FINRA, the securities industry’s self-regulator, promptly and correctly initiated a disciplinary action against Schwab for violating FINRA rules which preserve judicial class actions as an alternative to arbitration.
Unfortunately for investors, a FINRA Hearing Panel in February 2013 determined that those rules and, by extension, the agreement between Schwab and FINRA to abide by those rules, could not be enforced under the Supreme Court’s interpretation of the Federal Arbitration Act.
FINRA’s appeal of the Hearing Panel ruling is pending. If Schwab is successful in the appeal, it is likely that every broker-dealer will follow suit and include class action waiver language in their customer agreements.
Schwab’s action makes legislation recently introduced by Rep. Keith Ellison (D-Minn.) all the more essential in upholding the rights of Main Street investors.
The Investor Choice Act of 2013 (H.R. 2998) would level the playing field for ordinary investors by statutorily prohibiting mandatory pre-dispute arbitration agreements in broker-dealer and investment adviser customer contracts. State securities regulators appreciate that Rep. Ellison recognizes the inclusion of mandatory pre-dispute arbitration provisions in broker-dealer and investment advisor customer contracts diminishes investor protection. We agree with Rep. Ellison’s belief that “Investors shouldn’t have to sign away their rights in order to work with a financial advisor or broker dealer to build a secure retirement.”
Investors deserve better than the current “take-it-or-leave-it” approach to securities dispute resolution. H.R. 2998 will ensure that investors have the unencumbered right to seek redress in the appropriate and desired forum.
Congress has passed laws to ban forced arbitration for disputes involving auto dealers in their transactions with manufacturers, poultry and livestock producers, and certain employees of federal contractors. It is time for Congress to do the same for ordinary investors.