What is Securities Arbitration?
Securities arbitration is an alternative dispute resolution (ADR) forum sponsored and administered by the Financial Industry Regulatory Authority (FINRA). FINRA is the securities industry's "self-regulatory organization" or SRO. FINRA, overseen by the U. S. Securities and Exchange Commission (SEC), regulates securities brokerage firms (known as broker-dealers) and their brokers (known as associated persons and registered representatives). All broker-dealer firms are required to be members of FINRA, and their associated persons must be registered with FINRA, in order to conduct securities transactions and business with investors in the United States.
At this time, all disputes against any broker-dealer firm or any of its registered representatives must be filed with FINRA and cannot be brought in court. Ever since the U. S. Supreme Court's decision in the landmark case of Shearson/American Express v. McMahon, 482 U.S. 220 (1987) (a 5 to 4 decision), mandatory pre-dispute arbitration agreements contained in virtually all customer brokerage account agreements require that all customer disputes be arbitrated with FINRA rather than in court. Sam Brannan is a securities and investment fraud attorney. Brannan Law represents clients in Georgia and nationwide in FINRA arbitrations.
FINRA Rule 12200 provides that parties must arbitrate a dispute under the FINRA Code of Arbitration Procedure if arbitration is either required by agreement (e.g., the customer brokerage account agreement) or is requested by the customer, as long as the dispute is between a customer and a member firm or an associated person, and the dispute arises in connection with the business activities of the member firm or the associated person. Sam Brannan is a Georgia FINRA arbitration lawyer because of the mandatory arbitration provision in virtually every securities brokerage firm's customer account agreement.
It is interesting that the U. S. Securities and Exchange Commission (SEC) is authorized by the Dodd-Frank Wall Street Reform and Consumer Protection Act to prohibit mandatory arbitration clauses, but so far has not elected to exercise that authority. If the SEC ever acts to prohibit such mandatory arbitration provisions, customers would have a choice as to whether to file their claims against brokerage firms and individual brokers in court or arbitration. Actually, the SEC took that position prior to the U. S. Supreme Court's decision in Shearson/American Express v. McMahon. Prior to McMahon, SEC Rule 15c2-2 prohibited the inclusion of pre-dispute mandatory arbitration clauses in customer account agreements.
Whether mandatory arbitration clauses should be banned is an open and much debated question. Likewise, whether arbitration is better or worse for the investor than going to court is debatable. In general, as might be expected, most investor advocates favor choice (i.e., banning of mandatory arbitration) and most brokerage firms favor the status quo. As for which is better for the investor, the answer is not so clear. There are both benefits and disadvantages to arbitrations and court actions from the investor's point of view. For example, arbitration does not take as long or cost as much as court litigation. The time from the filing of a Statement of Claim to the arbitration hearing or trial is generally about 12 to 18 months. Court cases can go on for years. One reason for the relative speed of FINRA arbitration is the fact that there are no depositions in arbitration (with rare exceptions) and discovery and pre-trial motions are limited compared to court actions.
Another benefit of FINRA arbitration is that arbitration claimants are much less likely to lose their case on a pre-trial motion to dismiss than court litigants. In other words, arbitration claimants are much more likely to get their "day in court." Pre-trial motions to dismiss are permitted under FINRA rules but the grounds for dismissal are very limited.
Another advantage of arbitrations is that the decision (or "award" as it is called) of an arbitration panel is less likely to be overturned on appeal than in court. Indeed, there are no appeals in the traditional sense in FINRA arbitration. What is allowed is a "motion to vacate" the award, which is filed in court. However, the grounds for vacating an award are very limited and a successful motion to vacate is very rare. In order for a reviewing court to vacate a FINRA award, one must generally show that there was some kind of corruption in the process (e.g., arbitrator bias), and not just a mere error of law. Another reason why overturning of an award is rare is the fact that FINRA arbitration awards are almost always "not reasoned" - i.e., the award does not explain any basis for the decision, so appellate review may be impossible. In short, FINRA arbitration provides greater finality (as well as speedier outcomes and less cost) than court actions.
Another advantage of FINRA arbitration is that collection of an award is less of a problem because FINRA has the power to revoke a member firm's brokerage license for failure to pay an award.
The parties select the arbitrators in a FINRA arbitration. FINRA maintains a roster of arbitrators. In the typical case, FINRA provides a list of 30 arbitrators whom the parties will rank and strike. After considering the rankings of the arbitrators not stricken by the parties, FINRA will appoint a panel of three arbitrators in most cases.
FINRA arbitrators (many of them attorneys) are generally more knowledgeable about investments and the applicable law than the average juror in court would be. However, arbitrators usually come to the final hearing without a complete understanding of what happened. In addition, whether they know it or not, they also come with biases and inclinations based on their life experiences like the rest of us. Unless a FINRA arbitration case is settled, the arbitrators (usually three of them) will decide - after a trial normally lasting 3 or 4 days - who wins and who loses, and if the investor wins, how much money will be awarded. Thus, arbitrator selection is very important.
The trial in securities arbitration is similar to a trial in court with opening statements, examination of witnesses, presentation of documentary evidence and closing arguments. There are differences, however. For example, the arbitration hearing room is typically a conference room. However, as a result of the COVID-19 pandemic, many hearings have been conducted on a Zoom platform or cancelled and rescheduled.
The presentation of evidence and proof of facts in FINRA arbitration is different than in court. A FINRA arbitration case is commenced by the filing of a "Statement of Claim" (SOC). A well-crafted SOC is very important. The SOC is more important than the Complaint that is typically filed in a court action. A court Complaint is a normally a relatively "bare bones" pleading that is generally only required to give the defendant minimal notice of what the plaintiff is claiming (except for allegations of fraud which must be pled with particularity). On the other hand, a SOC is more of a detailed narrative statement of the claimant's facts and claims, and FINRA arbitrators view the SOC more like the claimant's sworn statement.
Many arbitrators are attorneys but many are not. Arbitrators are trained by FINRA to consider the law but are not bound by the law in their decision-making. Indeed, page 1 of the FINRA Arbitrators Guide exhorts arbitrators to render decision based on equity and fairness, and not to be constrained in doing so by the written law.
Pre-trial hearings (called prehearing conferences) are generally done by telephone. Arbitration dates are always specially set, unlike in court where cases are often placed on a trial calendar with other cases and are called to appear for trial on short notice whenever the case in front of them is finished.
Unlike court actions, there is no pretrial order in FINRA arbitration. Parties are not required to prepare and present exhibit lists. In FINRA arbitration, no later than 20 days before the first day of the arbitration hearing, the parties must present a witness list and must produce to the other side all documents to be used at trial (if they have not already been produced).
Finally, it should be noted that there is a special procedure for claims of $50,000 or less (excluding interest and expenses) called Simplified Arbitration. These smaller cases are decided by a single arbitrators without an in-person hearing. The arbitrator's decision is made "on the papers" alone - i.e., the Statement of Claim filed by the claimant and the Answer filed by the Respondent. In a Simplified Arbitration, the claimant should file a Statement of Claim with exhibits that contain all the evidence an arbitrator needs to consider and rule on the issues at hand.
Sam Brannan is a securities and investment fraud lawyer with 30 years of experience. Brannan Law, LLC has extensive experience representing investors in FINRA arbitrations and mediations in Georgia and throughout the country. If you believe you have lost money as a result of faulty investment advice or broker wrongdoing, or if you simply have questions or concerns about your investments, we can evaluate your potential claims and recommend a course of action at no charge. Call us at 404-907-4642 for a free consultation.
 An exception exists for disputes involving the insurance business activities of a member firm that is also an insurance company, which are not subject to mandatory arbitration.