Two Years & Still Waiting for the SEC to Address the Enforceability of Mandatory Pre-Dispute Arbitration Agreements in Customer-Broker Disputes Under Section 921 of Dodd-Frank

The Dodd-Frank Wall Street Reform Act of 2010 (“Dodd-Frank”), Pub. L. No. 111-203, 124 Stat. 1376, was enacted on July 21, 2010, to provide for, among other thing, comprehensive financial regulatory reform to protect consumers and investors.  During the Dodd-Frank legislative process, there were significant concerns that mandatory pre-dispute arbitration agreements were unfair to investors.  Concerns raised included “high upfront costs; limited access to documents and other key information; limited knowledge upon which to base the choice of arbitrator; the absence of a requirement that arbitrators follow the law or issue written decisions; and extremely limited grounds for appeal.” Senate Committee on Banking, Housing, and Urban Affairs on S. 3217, S.Rep. No.111-176, at 110.  As a result of these concerns, buried in Section 921 is an often overlooked provision which could have a dramatic effect on customer disputes with their brokerage firms which are subject to arbitration agreements.

Section 921 of Dodd-Frank amends Section 15 the Exchange Act, 15 U.S.C. § 78o, to provide the Securities Exchange Commission (“SEC”) with the discretionary rulemaking authority to restrict mandatory pre-dispute arbitration.  Section 921(a) states, in relevant part, that

The [SEC], by rule, may prohibit, or impose conditions or limitations on the use of, agreements that require customers . . . to arbitrate any future dispute between them arising under the Federal securities laws, the rules and regulations thereunder, or the rules of a self-regulatory organization if it finds that such prohibition, imposition of conditions, or limitations are in the public interest and for the protection of investors.

15 U.S.C. § 78o(a) (emphasis added).  Over the past 5 years, there have been four thousand to seven thousand arbitrations filed per year with the Financial Industry Regulatory Authority (“FINRA”).  Section 921 could have the impact of sending a large number of these case to federal courts throughout the country.  However, nearly two years after the Dodd-Frank was passed, there is no sign that the SEC will take rulemaking action to curb the enforceability of mandatory pre-dispute arbitration agreements.

FINRA is the self-regulatory organization for the broker-dealers of the United States.  FINRA’s mission is to protect investors and the integrity of the market through regulation and complementary compliance and technology-based services.  FINRA rules require members and their associated persons to arbitrate any eligible dispute upon demand by a customer, even in the absence of a pre-dispute arbitration agreement.  See Rule 12200 of the FINRA Code of Arbitration Procedure for Customer Disputes.

Although FINRA rules do not require customers to arbitrate disputes, virtually all investors with brokerage accounts have signed an arbitration agreement, as a condition to opening their account.  The typical arbitration agreement encompasses all disputes arising under federal and state law.  Indeed the United States Supreme Court has held that that customers who sign pre-dispute arbitration agreements with their brokers may be compelled to arbitrate claims arising under the Securities Exchange Act of 1934 (“Exchange Act”), the Securities Act of 1933 (“Securities Act”), and state law claims.  See Shearson/American Express, Inc. v. McMahon, 482 U.S. 222 (1987) (Exchange Act claims); Rodriquez de Quijas v. Shearson/American Express, 490 U.S. 477 (1989) (Securities Act claims); Dean Witter Reynolds, Inc. v. Byrd, 470 U.S. 213 (1985) (state law claims).

After the Dodd-Frank was enacted, the SEC began accepting comments concerning mandatory pre-dispute arbitration agreements from the public.  To date, over eighteen comments have been submitted and published by the SEC concerning Section 921.  SEC Officials also held informal meetings with the public on April 4, 2011 and September 14, 2011. The majority of the comments favor abolishing mandatory pre-dispute arbitration agreements generally arguing that the FINRA arbitration forum is unfair to the public. See Comment of Barry D. Estell, Esq. dated July 30, 2010; Comment of Tim Canning dated Aug. 18, 2010; Comment of Melinda Steuer dated Aug. 18, 2010; Comment of Diane Nygaard, Esq. dated Aug. 20, 2010; Comment of Z. Jane Riley dated Aug. 23, 2010; Comment of Kurt Arbuckle dated Aug. 24, 2010; Comment of Richard M. Layne dated Aug. 25, 2010; Comment of PIABA dated Dec. 3, 2010; Comment of Sonn dated Dec. 3, 2010; Comment of Irene Rutledge date Feb. 22, 2011.

However, several comments support mandatory arbitration or at least the continued availability of the arbitration forum for investors.  See Comment of Bruce D. Oakes dated July 27, 2010; Comment of M.K., Esq. dated Aug. 6, 2010; Comment of James B. Eichberg dated Aug. 12, 2010; Comment of David M. Sobel, Esq. dated Aug. 30, 2010; Comment of SICA dated Mar. 28, 2012.

In January 2011, the SEC, as required by Section 913 of Dodd-Frank, issued a Study on Investment Advisers and Broker-Dealers (“SEC Study”).  The SEC Study evaluated the obligations of brokers, dealers, and investment advisers including the effectiveness of existing legal or regulatory standards of care for providing personalized investment advice and recommendations about securities to retail customers.  Although the SEC Study discussed the current FINRA arbitration framework for resolving customer-broker disputes, SEC Study at pp. 133-134, the SEC Study did not address the legitimacy of mandatory pre-dispute arbitration agreements.

The SEC’s Division of Trading and Markets (the “Division”) is responsible for establishing and maintaining standards for fair, orderly, and efficient markets.  The Division oversees broker-dealers and self-regulatory organizations including FINRA.  See 17 C.F.R. § 200.19a.

Currently, the Division is responsible for implementing aspects of Dodd-Frank including certain mandatory rulemaking provisions including highly controversial Section 619, often referred to as the “Volcker Rule;” Section 621, which restricts certain conflicts of interest concerning activities involving asset-backed securities; and Section 956, which required joint rulemaking with other regulators concerning incentive-based compensation of broker-dealers and investment advisers.  The Division is also responsible for reviewing and recommending proposals to the SEC concerning Section 921.

To date, the SEC had not proposed or adopted any rules concerning Section 921 in the two years since Dodd-Frank was enacted.  The SEC indicates on its website that the timeframe for addressing pre-dispute arbitration agreements is uncertain.  Given the focus on more controversial areas of rulemaking under Dodd-Frank, it appears that there will not be any action in the near future.

* Jay Eng is a securities attorney in the Palm Beach Gardens office of Berman DeValerio.  He publishes the Securities Attorney Law Blog. Berman DeValerio prosecutes class actions nationwide on behalf of institutions and individuals, chiefly victims of securities fraud and antitrust law violations.

What is FINRA Arbitration?

Arbitration is a contractual process to resolve disputes between parties in a private forum.  Typically, brokerage firms and customers will enter into a contractual agreement before the customer opens their brokerage account.  Most agreements include a provision which compels the parties to resolve certain disputes through arbitration rather than a judicial proceeding such as a lawsuit in a state or federal court.

The arbitration process is not public and imposes significant restrictions on a parties’ ability to conduct discovery, such as document requests and depositions.  Parties also lose the benefit of procedural and due process mechanisms such as appellate review.

In arbitration, a person or group of person is appointed to serve as the arbitration panel.  The arbitrators hear the arguments and review the evidence of all sides and then decides how the matter should be resolved.  Arbitrators are not required to be attorneys.  Finally, arbitration awards issued by arbitration panels are subject to review by a court only on a very limited basis.

What is Securities Litigation and Securities Arbitration

Securities attorneys and lawyers can practice is a wide variety of areas.

Transactional Securities Attorneys

Certain securities attorneys focus on transactional securities work which includes counseling issuers, underwriters and placement agents in private and public offerings under the Securities Act of 1933; advising on mergers and acquisitions or going private transactions; and preparing regulatory filings required under state and federal securities laws under the Securities Exchange Act of 1934, Sarbanes Oxley and the Dodd-Frank Act.

Securities Litigation and Arbitration Attorneys

Other securities laws may focus on securities litigation and arbitration. Securities litigation and arbitration cases are prosecuted and defended by securities attorneys on behalf of various parties including shareholders, private and publicly-traded companies, officers, directors, and senior management,  individuals and institutional investors, stock brokers, brokerage firms, broker-dealers, underwriters, investment banks, pension funds, and hedge funds.

In addition to recouping lost assets, private securities litigation also augments the efforts of federal regulators to pursue wrongdoers and to provide a deterrent to future violations.

Derivative Actions

Derivative actions are lawsuits brought by shareholders on behalf of the company against senior managers and officers.  Generally, the claim is brought where the shareholders believe that the senior managers are breaching their fiduciary duties to the company through malfeasance.  Plaintiffs may seek both injunctive relief (directing the end of the wrongful acts) and may seek compensatory damages to be paid  by the rogue managers directly to the company.

State & Federal Lawsuits

In lawsuits and arbitration, securities lawyers may allege violations of state or federal securities laws and may also allege common law claims including breaches of fiduciary duty or fraud depending on the factual scenarios.  Retaining a securities attorney to initiate a securities lawsuit may be the only means for for a shareholder to recover asset or investment losses caused by corporate fraud or malfeasance.  Such actions may be filed in state or federal court depending upon the type of claims asserted.

Class Actions

In addition to individual lawsuits, securities class actions may be filed on behalf of classes of shareholders who have similar interests and similar claims.  Because of the significant expense in engaging in securities litigation against large, publicly-traded companies, class actions provide means for recovery for shareholders with a small financial stake in the litigation.

Securities class actions are filed by securities attorneys who represent individuals who seek to serve as class representatives.  Class representatives must have claims similar to the other members of the class and must be approved by the court.  If a settlement is achieved between the class representative and the defendants, class members generally have three options:  (1) participate in the settlement for their pro-rata share; (2) opt-out of the settlement (and pursue their claims in separate litigation); (3) participate in the settlement, but object to certain parts of the settlement – such as the allocation of the settlement or object to the amount of attorney’s fees sought by the class attorneys.


Some securities disputes arise in the context of a stock broker/client relationship.  In most circumstances, a customer will enter into an agreement to arbitrate any disputes that arise between him and his broker in connection with his brokerage account.  For example, a dispute may arise when a broker is involved with the solicitation or sale of an unregistered security which leads to a loss of the customer’s investment.  Often the brokerage agreements specify that such disputes will be resolved before FINRA dispute resolution.  Arbitration can differ drastically than litigation in state and federal courts for securities attorney.  For example, there is no jury in FINRA arbitration, there are very limited rules of procedure and discovery and there are very limited grounds to appeal a FINRA arbitration award.



According to Reuters, attorneys at the Securities and Exchange Commission (“SEC”) have reportedly begun making requests for information concerning proprietary algorithmic trading data as part of its authority to examine financial firms for compliance with federal regulations according to officials and outside lawyers.  Reuters reports that “the unusual requests for algo code and other computerized trading strategies really ramped up this year and have targeted stock-trading firms such as broker dealers and hedge funds.”


For claims filed on or after May 16, 2011, the Financial Industry Regulatory Authority, Inc., (“FINRA”) has revised its Discovery Guide to provide additional guidance to parties and arbitration panels and FINRA reorganizes the Document Production Lists.

In Notice to Members 11-17 or NTM 11-17, FINRA articulates additional guidance concerning objections based on cost/burden, the consideration of firm business model and customer claims, requests for additional documents, confidentiality and privilege. FINRA also notes that it is replacing the current 14 Document Production Lists with 2 lists of presumptively discoverable documents in every customer case. See the new lists HERE.


On Maarch 3, 2010, FINRA’s National Adjudicatory Counsel entered a decision reversing a Hearing Panel’s finding that the CEO and institutional sales desk manager for a broker-dealer failed to reasonably supervise an institutional sales trader. The NAC noted among other things that:

“It is clear to us that Market Regulation’s claims and the Extended Hearing Panel majority’s findings that [respondents] failed as supervisors are informed and colored in this case by their faulty views of [the sales trader’s] conduct and a tenuous ‘industry standard’ that they claim limited the ‘profits’ he could garner for [the broker-dealer] from his trading.”

In the Matter of Department of Market Regulation v. Leighton and Pasternak, Complaint No. CLG050021 (NAC Mar. 3, 2010).


On May 26, 2010, FINRA announced “that it has imposed a monetary sanction of $1.5 million against Citigroup Global Markets Inc. for supervisory violations relating to its handling of trust funds belonging to cemeteries in Michigan and Tennessee.” According to FINRA, “over a period of more than two years, Citigroup failed to reasonably supervise the handling of these accounts by inadequately responding to a succession of ‘red flags’ – failures that permitted the scheme to continue undetected until October 2006.” Among the “red flags” were “unusual transfers of cemetery trust funds to accounts opened in the names of third parties.”

See the Acceptance, Waiver and Consent (AWC) here.


On May 11, 2010, Piper Jaffray & Co. (the “Firm”) submitted a Letter of Acceptance, Waiver and Consent (AWC) for violation relating to the Firm’s retention of emails. The Firm was fined $700,000 for its failure to retain 4.3 million emails from November 2002 to December 2008. FINRA noted among other things that “Piper Jaffray failed to disclose that it was not making complete production of its emails due to intermittent problems with its systems – potentially preventing production of crucial evidence of improper conduct by the firm and its employees.”

In a press release, FINRA further stated:

“FINRA discovered Piper Jaffray’s continuing email retention deficiencies when its investigators requested all emails sent or received by a former firm employee suspected of misconduct. The firm provided a CD-ROM purportedly containing all of the employee’s emails, on both his firm and Bloomberg email accounts. When reviewing the CD-ROM’s contents, however, FINRA discovered that one particular email was not produced that investigators had already obtained in hard copy form – an email whose contents sparked an internal investigation that led to the employee’s termination, and formed the basis for a FINRA enforcement action against the employee. Only after further inquiries about that missing email did the firm finally inform FINRA of the intermittent email retention and retrieval issues it had been experiencing firmwide since the November 2002 action.”