The Financial Industry Regulatory Authority’s arbitration forum is currently under scrutiny following a court ruling that Wells Fargo Advisors and its counsel “manipulated” the arbitrator selection process.
On February 1, the Public Investors Advocate Bar Association called for an investigation of Finra’s arbitration process after Judge Belinda Edwards of the Superior Court of Fulton County of the State of Georgia ruled in January that Wells Fargo Advisors was able to influence the selection of the arbitrators appointed by the industry’s self-regulator.
On February 9, Sen. Elizabeth Warren, D-Mass., and Rep. Katie Porter, D-Calif., called on Finra to give details on its arbitration process.
On February 21, Finra said it brought on law firm Lowenstein Sandler to conduct an independent review of its arbitrator selection process.
On February 23, Wells Fargo Advisors appealed Judge Edwards' ruling.
Last year, only 15% of cases brought before the Finra arbitration forum were decided by arbitrators, according to information from the self-regulator. The vast majority of cases end in settlements, either directly between the parties or via mediation.
Still, arbitration decisions are binding so the selection process — and how qualified the arbitrators are — deserves attention.
“There are two schools of thought on who should sit as arbitrators,” said Christine Lazaro, professor of clinical legal education and director of the Securities Arbitration Clinic at St. John’s University School of Law. “One school of thought is they should be really experienced, have a background in securities, that sort of thing. Another school of thought is they should look more like a jury.”
This can vary depending on the type of case, according to Lazaro. For disputes between companies involving highly technical details, someone with industry experience might be desirable, whereas customers might prefer non-industry arbitrators.
Arbitrator Selection Process
The arbitrator selection process is designed to allow for flexibility in that regard.
For claims that are more than $100,000 — which are decided by three arbitrators — the parties are given three lists of potential arbitrators to choose from.
The lists include a “chair-qualified” list from the public arbitrators list who have been through an arbitration before, a “public” list of arbitrators with no financial services experience and a “non-public” or “industry” list of arbitrators who have worked in financial services, according to Finra information.
The chair-qualified list has 10 names, and the parties get four strikes each. The public list has 15 names, and each party is allowed to strike up to six of them. The industry list also has 10 names, but there is no limit to how many can be struck.
The parties then rank their remaining picks, and the lists are compared to settle on the arbitrators.
The ability to strike every name on the industry list means that the parties to the dispute can choose to have their case heard only by people with no professional finance background.
Claims of up to $100,000 are decided by one arbitrator. The parties will receive one list of 10 chair-qualified public arbitrators. Each separately represented party may strike up to four arbitrators on the list. After exercising their strikes, each separately represented party shall rank all remaining arbitrators in order of preference, with a "1" indicating the party's first choice, a "2" indicating the party's second choice, and so on. The director of Finra dispute resolution services will then combine the parties’ ranked lists to appoint the chair-qualified public arbitrator based on the parties’ rankings.
A Variety of Backgrounds
According to Finra’s website, it is “seeking to expand the depth and diversity of our arbitrator roster by recruiting candidates from a variety of cultural backgrounds and areas of professional expertise, such as business, accounting, finance, library sciences, liberal arts, legal and more.”
For those who may be worried about underqualified candidates making their way into the arbitration pool, it is worth noting there are some minimum requirements, according to Finra.
Prospective arbitrators must have a minimum of five years of professional experience and two years of college credits.
Finra also provides some free training about its rules and procedures, as well as more general training in leadership, communication skills, and management.
Avoiding industry insiders might be beneficial for customers undergoing arbitration, according to Bill Singer, a veteran securities industry lawyer and publisher of the BrokeAndBroker.com blog.
As an example, he describes a scenario where inexperienced customers believe they have been defrauded by their broker.
“When you argue those facts to the unwashed arbitration pool, you're more apt to get folks who better relate to your dilemma. In contrast, if you argue that same case to an individual with an MBA in finance, a former loan officer and a former CPA, those folks can't relate on the same visceral level because they don't have the same naivete as the defrauded investor,” he said.
“Why should an arbitrator have any specialized background to sit on a Finra arbitration panel?” Singer asked. “For starters, consider that there is no background-test imposed upon jurors in our court system. When a breach of contracts case is presented to a jury, we don't require that jurors have a background in finance or investing. And, similarly, when a criminal case is presented to a jury, we don't limit the panel to folks with criminal justice service or law degrees.”
“If it were me,” he said, “I'd take an old-fashioned jury of my peers any day.”
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