Questionable brokerages with rogue salespeople deservedly get slammed for routinely failing to pay regulator-ordered money to investors whom they’ve cheated.
But independent advisory firms with sketchy financial planners are equally bad when it comes to not ponying up required awards — a problem that’s both murkier and getting worse, according to a report released Wednesday by a prominent group of lawyers who represent investors in claims and lawsuits against financial firms.
“It is fair to conclude from regulatory actions and discipline that RIAs are misbehaving at the same rate as brokers,”
Harder to collect
Independent advisors, who are held to the more stringent fiduciary standard in which the client's best interest must always come first, are seen as less likely to defraud customers. The standard requires that conflicts of interest not only be disclosed but avoided. Advisors and their firms are overseen by the SEC or, if they manage less than $110 million in client assets, state securities regulators.
By contrast, brokers are held to the lesser “best interest” standard, in which the investments and money management services they recommend have to be merely “suitable” for clients. Brokers are supposed to disclose conflicts of interest, but they’re not required to actually avoid them.
The COVID pandemic shut down FINRA’s in-person arbitration hearings last year and thus depressed the number of awards it made when compared to 2019.
Still, PIABA found that more than $5 million of the nearly $21 million that FINRA ordered brokers and brokerages to pay swindled investors in 2020 went unpaid. Investors never received nearly one in four awarded dollars, up from one in five dollars in 2019. Likewise, the percentage of awards that went unpaid last year rose to nearly 30% from around 27% in 2019.
FINRA hasn’t yet published awards data for 2020, so PIABA crunched the numbers for itself, using data scattered across the watchdog’s website.
14 cents a year
Grim as they may be, PIABA said its findings likely downplay the broader problem of cheated investors recouping at least some of their money. That’s because many investors “don’t bring cases where they know there’s no chance of getting paid,” Michael Edmiston, the president-elect of PIABA and a securities lawyer in Studio City, California, told a Zoom conference on Wednesday. The problem will get worse if markets slide and investors’ retirement plans are hit, he said.
Industry-funded FINRA, which is overseen by the SEC, tracks monetary awards that it requires its members to pay after mandatory arbitration proceedings that it holds. While a brokerage or broker risks suspension by FINRA if an award isn’t paid in 30 days, what PIABA called “reprobate (and often destitute) brokers” and their firms can avoid paying their fines by filing for bankruptcy — leaving cheated investors with nothing.
FINRA argues that by the time it makes awards, an offending firm or broker has often already been suspended, expelled or otherwise severely disciplined — or moved on to another firm where they continue to cheat clients, a practice known as “cockroaching.” As such,
PIABA countered that FINRA needs to establish a $24 million — for now — “recovery pool” of money for cheated investors, something it could do if ordered to by Congress or by the SEC under the Dodd-Frank Act, the law that overhauled financial regulation after the 2007-08 financial crisis. One way to fund that pool, PIABA said: Have member firms pay around $6,300 a year; or have individual advisors shell out around $107 a year; or charge investors 14 cents a year. PIABA computed the sums based on award data, and firm and investor numbers in prior years.
A FINRA spokesperson said in a statement that the self-regulator “is committed to reducing the number of arbitration awards that go unpaid to customers, which typically result from respondents declaring bankruptcy or going out of business.” FINRA, the statement said, has taken recent steps “to reduce the risks to investors from brokers and firms who may be less likely to pay awards.”
PIABA also called on the SEC to “conduct a sweep of the advisory firms and IAs registered with the Commission and then report statistical summaries concerning where IA arbitrations are being heard.”
The SEC didn’t immediately respond to a request for comment.
‘No way to quantify’
Aggrieved investors typically settle disputes with their advisors in
The issue is that while FINRA has a database of awards that brokers are required to pay, there’s no central depot of data for awards through private settlements with bad advisors. Which means that there’s “no way to quantify unpaid IA (investment advisor) awards in a statistically meaningful manner,” the PIABA report said.
That hides the problem of bad advisors who settle client claims through private dispute resolution forums, such as the American Arbitration Association or
PIABA cited
‘Abhorrent dereliction’
PIABA’s findings come amid massive changes in the wealth management industry.
Brokers have been ditching their wirehouses and independent brokerages to set up or join independent advisory firms. At the same time, brokerages have expanded into wealth management services by hiring financial advisors. More than 13,800 RIAs large enough to be registered with the SEC held nearly $
But even pure fiduciary advisors can cause problems, especially when they sell private securities and “
David Meyer, PIABA’s president and a lawyer in Columbus, Ohio, who represents defrauded investors, cited the case of a retired widow. Meyer said his client lost her life savings to a fraudulent advisor at Fisher Wealth Management, a small RIA in Dublin, Ohio, with 70 clients and $12 million in assets under management.
Meyer and
Ten years ago, Meyer told the Zoom, 90% of his law firm’s cases involved rogue brokers. Now, around half of them involve investment advisors and their firms, half of them smaller, state-regulated entities.
Whether from brokers or advisors, the report said, unpaid awards are “an abhorrent dereliction of responsibility by a securities industry that profits massively from its ‘trust your advisor’ encouragement.”
PIABA also faulted both FINRA and the SEC for not requiring brokers or advisors to maintain liability insurance that could compensate robbed clients.
