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Invested Money Lost Due to Broker Mismanagement: Who is Responsible?


Though few brokers are psychologically impaired or unethical, it seems that if they are, it is the client who has to recognize it and act accordingly. If not, money could be lost and there is a good chance it will not be reimbursed.

Lifestyle, Columns, Personal Finance, Investing, Money

Looking back, Ms. Clarke said she now recognizes that her mistake was to trust Mr. Wyatt (her broker) and to trust Morgan Stanley to monitor him.

The New York Times, August 21, 2016 (Business 3)

When I worked at Schwab, one of the instructors for my training group mentioned a broker who left the company but kept a client’s account information. Then, surreptitiously, he transferred monies from that account to his own. My understanding was that when the malfeasance was discovered, Schwab reimbursed the client. Though traumatic for the investor, he did not lose his money. Schwab took responsibility for its ex-broker’s unethical transfer of funds.

The scenario above is what many people might expect if monies are lost in their accounts, not due to any action they themselves took or any directive that they themselves gave, but due to a broker gone bad. Would not the firm of the broker make it good?

Well, in the good old days, the answer may have been “yes,” as the Schwab story suggests. Today, not so much.

Ms. Clark, quoted above from The New York Times, lost half of her invested money, $700,00, due to her broker’s mismanagement. He evidently had psychological problems that led to trading irregularities. This was reported several times to the brokerage firm, but action by it took several years. In the meantime, clients continued to lose money due to the broker’s risky trading and, at least in the case of Ms. Clark, unsuitable for her age. In the end, after arbitration, Ms. Clark was reimbursed $150,000, a fraction of what she lost. This is a sad end for an 84-year-old woman who originally had $1.4 million from her husband after he died and now is down to $850.000, apparently due to no fault of her own.

Since 1987, when the United States Supreme Court decided the case of Shearson v. MacMahon, 482 U.S. 220, arbitration has widely been used in the investment industry to settle disputes rather than going to court. According to the Financial Industry Regulatory Authority (FINRA), arbitration clients were awarded damages in 43% of the cases in 2016 to date and in 42% of cases in 2015. This suggests that over 50% of applicants for damages were not compensated. In fact, the figures are worse. According to a March 7, 2016 CNBC report, “15% of awards granted to investors by FINRA arbitration panels in 2014 — roughly $34 million — remain unpaid by the brokers and their firms.”

The message I glean from this is similar to what Edward O'Brien, president of the Securities Industry Association said in relationship to the MacMahon v. Shearson case, "The brokerage relationship is not a guarantee relationship or an insurance relationship. You're not supposed to simply turn things over to someone else." In other words, clients are responsible for looking after their own brokerage accounts.

The sum and substance of all this is that though few brokers are psychologically impaired or unethical, it seems that if they are, it is the client who has to recognize it and act accordingly. If not, money could be lost and there is a good chance it will not be reimbursed.

For More:

Arbitration from the SEC

Financial Advisor Malfeasance: Does It Take Two to Tango?

Trust in Brokers: Your 401(k) and the New Fiduciary Rule

Black Sheep Brokers

Bad Boy and Bad Girl Brokers: How to Detect Them

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Victor J. Dzau, MD, gives expert advice
Victor J. Dzau, MD, gives expert advice