Skip to main content

With Wall Street on Defensive, Claims Against Brokers Surge

Wall Street Journal

Stung by massive stock-market losses and emboldened by the intense regulatory attack on Wall Street, investors are expected to file a record number of arbitration claims against brokers this year.

The average payouts going to miffed investors are getting higher, too. Stockholders typically win only slightly more than half of the cases that go to arbitration. But the amount being awarded investors is soaring — $69 million in just four months this year, compared with $139 million for all of 2002. The size of arbitration disputes also has risen, with some attorneys saying that many more million-dollar-plus claims are being filed.

Arbitration hearings, not lawsuits, are the usual remedy for investors when they feel wronged. When investors open a brokerage account, they generally waive their right to sue and agree to arbitrate any complaints against the broker. The hearings are conducted mainly by panels administered by the stock exchanges.

The recent wave of Wall Street scandals is expected to spur an even more dramatic increase in investor complaints. Ten of the biggest brokerage firms on Wall Street recently settled a $1.4 billion case with state and federal regulators over analyst conflicts of interest surrounding stock recommendations. Regulators have voiced encouragement for aggrieved investors to file claims and have placed key e-mails and other documents for building a case against the brokers in the public domain.

The surge in arbitration is a byproduct of the collapse of the bull market, which has bled some $6 trillion in paper wealth from investors since early 2000. Investors poured into technology stocks when stock prices were climbing and suffered huge losses when share prices collapsed. Accounting fraud at companies such as WorldCom Inc. magnified investors’ losses. Now many are blaming brokers for putting them in technology stocks or not getting them out before the bubble burst.

For years, arbitration panels had the reputation of being stacked against investors, in part because the panels include securities-industry representatives. Plaintiffs historically had a difficult time getting documents from securities firms. Even when successful, plaintiffs often received relatively small awards.

Now, the string of revelations about Wall Street misconduct may be contributing to a shift in the attitude arbitrators bring to the process. “It no longer stretches possibility that the brokerage firm did wrong,” says Robert Uhl, an attorney in Beverly Hills, Calif., who represents investors.

Some plaintiffs attorneys say arbitrators are increasingly willing to award investors the full amount they lost, rather than a portion of their losses. At the NASD, arbitration panels have awarded investors an average of $241,000 in the first four months of this year, compared with $104,000 in all of 2000. The figures don’t include payments made as part of settlements, which is how more than 60% of all arbitration cases are resolved.

“We’re seeing a lot of cases where investors are getting pretty much the full amount of damages they have claimed in terms of losses,” said Linda Fienberg, president of NASD Dispute Resolution, an arm of the National Association of Securities Dealers, a regulatory body and parent of the technology-stock-laden Nasdaq Stock Market.

Ms. Fienberg said NASD Dispute Resolution received 3,112 arbitration claims in the first four months of 2003 and could end up with 11,000 or 12,000 cases for the year. Last year, the NASD received 7,704 claims, the most in its history. To deal with the deluge, the NASD is adding staff, hiring more arbitrators and securing more office space. The NASD caseload also includes cases brought by brokers and securities firms, though about 80% of current claims come from investors.

At the New York Stock Exchange, which handles only arbitration cases involving its member firms, the number of investor claims nearly doubled last year to 1,009 from 541 a year earlier. The Big Board has increased by 50% its staff that manages the arbitration process.

James Spellman, senior vice president for the Securities Industry Association, which represents securities firms, said the increase in arbitration largely stemmed from a surge in stock trades in the late 1990s. “Arbitration still represents a very, very small percentage of transactions,” he says.

Still, securities lawyers fault brokerage firms for advising investors to bet heavily on telecommunications and technology stocks, rather than diversifying their portfolios. “Firms totally disregarded their [investor] suitability obligations,” said Seth Lipner, an attorney in Garden City, N.Y.

Wall Street’s $1.4 billion settlement with regulators has fortified investors and their lawyers. Jacob Zamansky, a New York attorney who won a settlement in 2001 in a case brought by an investor against a research analyst, said he has seen an increased number of calls from investors since the conflict-of-interest settlement was concluded. Mr. Uhl said his firm received 43 calls from investors in two days last week, up from three or four a day a year ago.

So far, the NASD says it has received roughly 125 arbitration claims from investors alleging they lost money as a result of industry analysts with conflicts of interest, but it is bracing itself for an onslaught. “We anticipate from talking to counsel that 3,000 to 5,000 of these cases will be filed over the next year,” Ms. Fienberg said. This would represent a significant share of the NASD’s total arbitration cases, which are expected to reach as many as 12,000 this year.

Larger arbitration cases are heard by a panel of three arbitrators. At the NASD, claims involving less than $25,000 in losses are decided without a hearing, by a single arbitrator who reviews papers filed by the customer and the broker. The turnaround time for those cases averages less than six months, compared with more than a year for cases that go to hearing.

While many investors are blaming analysts for their financial ills, it’s too early to know how those types of claims will fare. Losing money when share prices tumbled doesn’t necessarily mean a person has a valid claim. Investors with the best chance of winning such cases are ones who bought stocks specifically mentioned in the regulator’s settlement with a particular broker, lawyers say. For example, Salomon Smith Barney customers could file claims for losses suffered from stocks such as AT&T Corp., Level 3 Communications Inc., Adelphia Communications Corp. and Metromedia Fiber Network Inc. The regulatory investigation found that conflicts of interest affected Salomon’s research reports on each of these companies. The firm settled the case without admitting or denying the allegations.