Counter-suing Investors Jeopardizes Integrity of Arbitral Forum

By Neda Ghomeshi

Investors take their cases to arbitration before the Financial Industry Regulatory Authority, (FINRA), as they are typically required to in any dispute with their broker or brokerage firm. Often, investors sue their brokerage firms for suitability, fraud, negligence, breach of fiduciary duty, failure to supervise, among many other causes of action. Recently, however, some brokerage firms have been responding by countersuing investors and accusing them of reneging on their indemnification commitments.

FINRA records show 13 examples of firms counter-suing investors for breach of indemnification obligations. However, this number is not an accurate reflection of the frequency with which this tactic is being used; cases that are settled before a hearing are generally not recorded in FINRA’s databases.

This method practiced by brokers is intended to intimidate investors and discourage them from suing. Although this practice is not common, it has the potential of becoming widespread. This practice can and likely will dissuade investors from suing their brokers, even when they are potentially entitled to relief.

Essentially, brokers are claiming that the investor signed a private placement memorandum and therefore counter-suing is warranted. This strategy is based on a questionable interpretation of the language in the documents that investors sign when opening their accounts.

Berthel Fisher & Company, based in Marion, Iowa, has been applying this strategy. Berthel Fisher seized on the language in their documents to bolster two counterclaims against 32 investors from Midwestern states who had lost all of the money they had invested in a private placement in a cellphone company. Although Berthel Fisher did not prevail on its counterclaims, it escaped liability on the investors’ claims in both cases last year. The investors said they had been pitched the product by Berthel Fisher brokers who had an obligation to sell them a suitable investment.

This strategy that is being applied by several firms goes against FINRA’s policies. Michelle Ong, a FINRA spokeswoman, explained that indemnification clauses do not shield firms from their legal and regulatory obligations to comply with federal securities laws and FINRA rules. She stated, “The use of any clause or tactic designed to intimidate or keep a customer from exercising his/her right to proceed in arbitration would violate FINRA conduct rules and we may investigate the use accordingly.”

Not only is this a dangerous tactic against FINRA’s policies, but it is against public policy. An investor trusts their broker and relies on their broker to purchase suitable investments on their behalf. Indemnification clauses should not be designed to protect brokers who sell unsuitable investments. Countersuing amounts to a scare tactic designed to prevent investors from taking action for losses they suffered at the hand of their brokers. If this strategy becomes more prevalent, it will jeopardize the integrity of the FINRA arbitration forum.