I’m not a big fan of horror stories — the daily news is usually horrific enough for me — so give me a good murder mystery every time. Occasionally, I’ll come across a mystery that’s so compelling, it more than makes up for any horrors revealed in the story.
I recently came across one such story by a most unlikely author: securities attorney Hugh Berkson, president of the Public Investors Arbitration Bar Association (PIABA), in his recently released paper, “Unpaid Arbitration Awards: A Problem the Industry Created — A Problem the Industry Must Fix.”
Recently, I’ve written a few stories for ThinkAdvisor.com about FINRA’s mandatory arbitration system for investor claims against brokers and BDs. (See “Is FINRA the Fox Guarding the Henhouse?” Feb. 1; “Broker Arb Lessons From Animal House and Brian Hamburger,” Feb. 23; and “If Broker Arbitration Is Good for Investors, Why Is it Mandatory?” March 2.) Those stories are about, respectively, the lack of transparency in FINRA investor arbitration proceedings; whether a 40% or so win rate for investors who receive “some money” in arbitration is an indication of a problem; and whether arbitration needs to be mandatory.
While those issues may be troubling enough on their own, Berkson takes the FINRA arbitration story to another level. As a mystery writer, he does leave a bit to be desired: for instance, revealing the denouement in the title. Yet the strength of Berkson’s tale lies not in the surprise at the end but in the magnitude of the facts revealed throughout. For instance (spoiler alert), based on data provided by FINRA, the PIABA calculated that in 2013, a third of the arbitration awards won by brokerage customers went unpaid by the BDs or brokers involved.
All good stories have an antagonist, and in this one, outgoing FINRA chairman Richard Ketchem auditioned for the part. On March 3, during his testimony before the Senate Banking Subcommittee on Insurance, Securities and Investments, Sen. Elizabeth Warren asked him, should there “be more regulations so that people get paid?” Ketchum responded: “Something should be done about it; I do believe that we want to work with the SEC on this.”
After the hearing, he told ThinkAdvisor.com’s Melanie Waddell that “FINRA is ‘actively’ looking at regulatory measures in this area, which could come out in proposal form before he leaves this year as head of the self-regulator.” (See “FINRA Mulls Crackdown on Arb Award Deadbeats,” ThinkAdvisor.com, March 3.)
Sound pretty good? FINRA on the case? One might think so until you read Berkson’s report. It seems that back in 2000, the General Accounting Office, frustrated by failure on the part of the National Association of Securities Dealers (FINRA’s old name) to take action on unpaid investor awards, decided to do its own research.
“The results of the initial GAO survey were surprising,” wrote Berkson. “The GAO estimated that 64% of NASD awards were unpaid in 1998. While that percentage is shockingly high, the dollar figures were staggering. GAO estimated that unpaid awards totaled $129 million, or 80% of the [total] $161 million awarded in 1998.”
Considering that the NASD was aware of the GAO’s finding in 2000, that puts a different light on Ketchum’s intentions to “look into it” before he departs. So does the fact that according to Berkson, the FINRA Dispute Resolution Task Force Final Report, released last December, noted that “FINRA issued arbitration awards in 539 customer cases in 2013, with 75 of those awards going unpaid, for a total of $62.1 million.”
The task force report states: “FINRA advised the task force that it has implemented a number of changes to its arbitration program to address the problem of unpaid awards […]. When an investor files an arbitration claim, FINRA alerts the investor if the respondent firm or associated person is no longer in business. Thus, investors know before pursuing the claim in arbitration that collection of an award may be more difficult.”
Did you get that? Just three months ago, FINRA advised its own task force that it already has the problem under control — it simply tells aggrieved investors ahead of time when they stand virtually no chance of collecting anything from the broker or BD involved so they won’t waste their time filing a claim. Problem solved. (Frankly, I’m surprised FINRA doesn’t tell that to all investors who file claims. Think of how much money they’d save their member BDs.) The task force, basking in the glow of a job well done, made no further recommendations on the matter.
Berkson and the folks at the PIABA felt the information supplied in the task force report was incomplete and took pains to offer a clearer picture. “Unfortunately, the task force report does not contain information sufficient to put the unpaid award problem into context,” he explained.