Claims of Unsuitability
Claims of unsuitability are among the most common in
securities arbitration. And there should be more of
them. Thousands—maybe even millions—of investors
who are not suing their brokers having valid claims
that their brokers have either made unsuitable investments
for them or encouraged them to invest in unsuitable
securities.
Broker fraud or overt abuse of customers are not the
biggest reasons for the unsuitable investments being
made, although there are many examples of this type
of conduct. The biggest reson for unsuitability is not
even the perverse incentives of the broker compensation
system. The biggest reason so many stock brokers “put
their clients” in unsuitable investments is simply
that brokers do not understand the basic mathematical
concepts available to measure historical volatility
(risk), or how to mitigate investment risk through the
techniques of asset allocation and diversification.
Thus, leading to unsuitable investments.
It is not unusual for brokers to have a client sign
account opening statements that are blank, then fill
in the client’s supposed investment objectives
themselves. When this occurs, the broker frequently
writes in the most aggressive investment objective (speculation),
recognizing that this designation affords him or her
maximum protection in the event of an arbitration proceeding
where unsuitability is alleged.
In any event, these terms are so vague that they can
easily mean different things to the broker and the client.
In addition, if the client indicates that his or her
investment objectives are, for example, “growth”
and “income,” the precise mandate to the
broker may be subject to differing interpretations of
those terms in the event of an arbitration.
Unsuitability: Violation of Suitability
Rule
The suitability rule can be violated in two ways.
First, a broker can violate the suitability rule if
he or she fails so fundamentally to comprehend the consequences
of his or her own recommendation that the recommendation
is unsuitable for any investor, regardless of the investor’s
wealth, willingness to bear risk, or other individual
characteristics.
Second, a broker can violate the suitability rule if
he or she makes a recommendation that may be suitable
for some investors, but is unsuitable for the investment
objectives and tolerance for risk of the specific investor
to whom the recommendation is directed.
Fighting Unsuitability Lawsuits
The same brokerage firms that tout their expertise
and ask clients to trust them frequently take the position
in arbitration proceedings that even if the broker made
unsuitable recommendations that the client followed,
the broker should not be responsible for any ensuing
losses because the client had the intelligence and understanding
to make the ultimate decision. This is like saying,
“We did you wrong, but you should have been smart
enough to catch us earlier.”
The Securities and Exchange Commission (SEC) has rejected
this position in at least one case, and many arbitration
tribunals have done so as well, recognizing that clients
rely on their broker’s presumed expertise. If
the broker makes an unsuitable recommendation, it seems
unfair and disingenuous for the brokerage firm to try
to excuse that conduct by blaming the client for not
being astute enough to figure out at the time that the
investment was inappropriate.
Unsuitability - Occurrences
Unsuitability often occurs in cases involving churning,
when a there is excessive trading in a brokerage account
for the sole purpose of generating commissions for the
broker. Unsuitability also often occurs in cases of
misrepresentation or omission; the broker fails to tell
the client certain things about the investment or misrepresents
the investment because he or she knows the client would
not buy the investment if he or she knew all of the
potential risks involved.
If you believe your broker has made unsuitable investments
in your portfolio or has recommended unsuitable investments
to you, you should consult an attorney specializing
in securities arbitration matters. You can find one
by going to: www.piaba.org.,
which is an association of securities arbitration attorneys.
The attorney should your account analyzed by an expert
who will compute the turnover ratio, the cost/equity,
and the standard deviation of your portfolio and compare
them to standard benchmarks. This analysis will determine
whether or not you have a viable claim against your
broker for unsuitability.
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