When Nancy Penoyer-Blau filed an arbitration claim against her brokerage firm 19 months ago, she expected a simple process with a quick resolution.
What the Woodland Hills, Calif., woman got instead was the sort of elaborate and contentious showdown that has become the norm in arbitration proceedings.
“It was far more litigious than I had expected,” said Penoyer-Blau, who claimed to have lost hundreds of thousands of dollars because of an unscrupulous broker. “It was very much like a court case, as opposed to just going in and telling my story.”
When brokerage firms gained the right 16 years ago to force customers into arbitration, they portrayed it as an informal, almost relaxed, alternative to overburdened state and federal courts.
No more. The investors who are filing record numbers of arbitration claims today are confronted by an increasingly rancorous system in which brokerages spar with them over everything from which documents must be produced to when hearings can be scheduled, experts say.
By many accounts, wrangling by the firms has grown nastier as investors continue to feel the fallout of a three-year bear market and Wall Street’s various scandals.
“It’s become far more litigious than it ever was,” said Philip Aidikoff, a veteran investor attorney at Aidikoff & Uhl in Beverly Hills, Calif., who represented Penoyer-Blau. “It’s taken on a life of its own.”
The National Association of Securities Dealers, the regulatory organization that oversees 90 percent of securities arbitrations, is looking into the matter, and soon plans to officially monitor cases for signs of foot-dragging by brokerage firms.
Despite wide agreement that arbitration has improved in recent years thanks to NASD reforms, some investor attorneys say it remains tilted in favor of brokerage firms.
They criticize the process as too secretive and say that arbitrators, for reasons ranging from demographics to the structure of the system, are more likely to side with brokerage firms.
“A rational person has to conclude that this system favors the brokerage houses,” said Jeff Riffer, a partner at Jeffer Mangels Butler & Marmaro in Century City, Calif.
The NASD and Wall Street firms strongly dispute that notion.
“The NASD wants to ensure that investors get a fair, efficient, less costly process” than going to court, said Linda Fienberg, president of NASD Dispute Resolution.
There is no debate that arbitration is crucial to small investors, especially as many of them try to recoup losses that they blame on bad advice from brokers or on dishonest recommendations from stock analysts.
A landmark Supreme Court ruling in 1987 allowed brokerage firms to require customers to submit complaints to arbitration rather than filing suit, a requirement that virtually all firms make customers agree to when they open accounts.
Through June, investors had filed 4,654 new cases with the NASD, a 25 percent jump from last year’s pace. Some 350 cases alleging analyst conflicts of interest have been brought in recent months, and several thousand more are expected.
According to NASD statistics, investors win monetary awards in 55 percent of cases. But that figure encompasses the many cases in which investors receive far less than they have claimed in losses.
Sparring over documents
Much of the discord engulfing the arbitration system involves disputes over the discovery process, with plaintiffs accusing firms of not turning over required documents as part of an overall stonewalling effort.
Despite NASD guidelines broadly outlining the documents that firms must hand over, critics say firms routinely delay that process or refuse to produce records.
That occurred in Penoyer-Blau’s case, said Aidikoff.
She filed a claim in December 2001 against Newport Beach, Calif.-based Roth Capital Partners for $875,000, alleging that her broker put her into risky technology stocks and private placements even though she was in her 60s and needed more conservative investments.
Aidikoff said he repeatedly asked for documents and finally had to file a motion to compel the release of the records. The motion was granted, he said, but documents trickled in, and some weren’t handed over until the hearing was under way.
Terry Ross, the lawyer for Roth Capital, said the firm quickly handed over pertinent documents, but thought some of the requests were not relevant to the case.
In June, the arbitration panel awarded Penoyer-Blau $270,639 plus interest.
Investor attorneys and some arbitrators say firms seek to delay cases through the filing of excessive motions and other maneuvers. The goal, critics say, is to wear down investor resolve in hopes that they will drop cases or settle for lesser sums.
The average arbitration case now takes 14.2 months to resolve, according to the NASD, up from 12.7 months in 2001.
Another tactic used by brokerages, critics say, is to try to schedule hearings as far in the future as possible, and investor lawyers also complain that brokerage attorneys are seeking subpoenas much more often than in the past.
The firms seek a variety of financial records, such as details of accounts at other brokerages. The firms sometimes subpoena documents from outside sources that aren’t pertinent to a case, Aidikoff said, such as records from an employer.
The firms sometimes turn up useful information, he said. If not, they figure they may intimidate investors.
Defense lawyers say they never try to delay cases, and that they seek only necessary documents. But they stress that many investors who bet heavily on tech stocks are trying to blame brokerages for their losses, and say they must send the message that firms will fight those cases aggressively.
“Bear markets bring claims out of the woodwork,” Ross said. “There is a bandwagon effect that we must watch out for before we just roll over and write a check.”
Accusations of bias
The sparring over arbitration includes complaints that long have been debated between Wall Street and its critics.
Critics, for example, say arbitrator pools can be biased against investors, particularly “industry” panelists. Although the expertise of a brokerage employee may have been needed in the early days of arbitration, critics contend that public arbitrators have a far broader understanding of market issues today. Thus, industry representatives often are little more than automatic votes for brokerage firms, they complain.
The NASD’s Fienberg responded that industry arbitrators usually vote in unison with their two peers, and that industry panelists are sometimes the most angered by wrongdoing in their profession.
Critics say that public arbitrators tend to be middle-age businessmen who often show an affinity for the brokerage firms. They also argue that longtime arbitrators can become desensitized to investor complaints.
“When you hear the same complaints over and over again, it is inevitable that a degree of cynicism is going to creep into the process,” said Robert S. Mann, a lawyer in Century City, Calif.
The NASD has made a big effort to recruit women, who now make up 17 percent of the 7,000-member arbitrator pool, and minorities, who make up 7 percent, Fienberg said.
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Value determines process
Most disputes between Wall Street firms and their customers are handled through arbitration. Here are some facts about the process:
– Cases involving less than $25,000 go through “simplified” arbitration, in which investors submit paperwork to a single arbitrator, who issues a written decision without holding a hearing.
– In disputes involving sums up to $50,000, an arbitrator conducts a hearing, unless a three-member panel is requested.
– Claims topping $50,000 automatically go to a panel for hearings that often last several days. Each panel has one member representing the brokerage industry and two representing the public.
There is extensive document discovery but no depositions. Half of all NASD arbitration cases are settled, with one-third of the remaining cases decided by arbitrators. Most other cases are withdrawn or are allowed to lapse.
Investors pay upfront fees ranging from $50 to $1,800, depending on damages claimed.
— Los Angeles Times
