As the successor to the National Association of Securities Dealers (NASD) and NYSE Member Regulation, the Financial Industry Regulatory Authority (FINRA) has served as the largest independent regulator of securities firms since July 2007. Through its mission of investor protection and market integrity, the non-governmental FINRA launched a 2-year voluntary arbitration pilot program in October 6, 2008, and will extend the program through 2011.
Arbitration is commonly seen as a viable alternative to trial. Though not necessarily less expensive, arbitration is a relatively efficient way to resolve disputes. And, for better or for worse, most securities disputes must be resolved through arbitration because of arbitration clauses in brokerage contracts.
FINRA, with its roster of over 6,000 arbitrators, is the world's largest arbitration forum.
The "Industry" Arbitrator: A Source of Criticism
FINRA's procedures allow an industry arbitrator, who is commonly a current or former stockbroker, branch manager, or another securities-industry executive, to hear and rule on investors' disputes with a broker or brokerage firm. As a consequence, many securities arbitration lawyers who represent investors believe that industry arbitrators bring a certain amount of bias in favor of the securities industry to the process - a bias that could negatively impact an investor's claim against a stockbroker or brokerage firm for fraud or mismanagement.
In response to this concern, FINRA initiated its Public Arbitrator Pilot Program (PAPP). Under PAPP, investors who have filed claims can opt to have their cases heard by a 3-person panel of public arbitrators. No industry arbitrator would be present. Investors, however, still have the option of selecting an industry arbitrator as part of the panel if the situation warrants.
Since the program began, FINRA discovered that investors seem to prefer excluding the industry arbitrator from their cases. And with participating firms that include Morgan Stanley, UBS, Citigroup, Raymond James, Wells Fargo, Ameriprise, Merrill Lynch and Charles Schwab, PAPP seems to have been a success. However, to better determine the impact of industry arbitrator bias in securities arbitration, FINRA decided to extend the program. This extension is intended to allow a sufficient sample size of PAPP arbitrator decisions to be rendered in order to determine whether there is a material difference in the nature and amount of arbitration awards when there is no industry arbitrator on the arbitration panel.
In PAPP's first year, 225 pilot cases were screened. There has also been a general increase in the number of arbitration claims that have been filed since PAPP began in 2008. From 2008 to 2009, claims rose from 4,982 to 7,134. As of June 2010, nearly 3,000 new claims have been filed. Investors also have had more favorable results in securities arbitration. So far in 2010, 52% of claimants have obtained monetary awards.
With PAPP continuing through 2011, FINRA hopes to better understand claimant trends and concerns. By next year, FINRA may be recommending a permanent change in the arbitration rules to allow investors to select public arbitrator panels that exclude the industry arbitrator.