Financial Advisor IQ (May 24, 2018) -- Anthony Diaz – a registered broker-dealer for 14 years before he was barred from the industry – is a poster child for two serious problems faced by Finra: bad brokers and unpaid arbitration awards.
Diaz was registered at 11 broker-dealer firms in 14 years. He got his start at Horwitz & Associates in 2000 before moving on to other firms, including Raymond James Financial, Edward Jones, Round Hill Securities and First Allied Securities.
Customer dispute reports started piling up in Diaz’s BrokerCheck record in 2004 (he had an employment-related disclosure event in 2000). In May 2015, Diaz was barred by Finra from the industry. By April 2018, Diaz had racked up 55 disclosures.
Diaz was barred for multiple reasons. He allegedly induced customers into variable annuity exchanges without a reasonable basis for doing so and often subject to significant surrender charges. He allegedly falsified or caused the falsification of his customers’ net worth so they could meet investment eligibility requirements. He allegedly intentionally or recklessly made untrue statements related to guaranteed returns or specific rates of returns.
Finra also said in a regulatory disclosure that Diaz was “fired from four firms” and “routinely engaged in efforts to mislead his customers into believing that he had left those firms voluntarily, both through affirmative statements and through his responses to questions about the circumstances under which he left the firms.”
FA-IQ reached out to Diaz for this article but did not receive a reply as of this writing.
That pattern of behavior by high-risk and recidivist broker-dealers – repeat offenders who move from one firm to another in the industry despite their tainted records – is exactly what Finra wants to quash.
Finra identified curbing high-risk and recidivist broker-dealers as its number one priority in its 2017 regulatory and examination priorities letter and kept it as a priority for 2018.
Last year Finra’s board approved a proposed rule amendment to require broker-dealer firms to adopt heightened supervisory procedures for individuals while a disciplinary case is pending appeal; to reinforce and clarify the firms’ existing supervisory obligations concerning broker-dealers they employ who have disciplinary histories; to expand sanction guidelines to let adjudicators consider more severe sanctions when an individual’s disciplinary history includes additional types of past misconduct; and to let hearing panels restrict the activities of firms and individuals while a disciplinary matter is on appeal.
When there are bad brokers, there are also harmed investors.
In January this year, a sole public arbitrator in the Finra arbitration panel ordered Diaz and First Allied Securities – where Diaz worked from 2005 to 2009 (he worked in six other broker-dealer firms after that) – to pay 17 clients a total of $4.3 million in damages due to unsuitable investment recommendations, misrepresentation and other complaints. The arbitration award order notes that the clients received an undisclosed settlement amount from First Allied Securities in November last year. Diaz has failed to comply, according to Finra.
Finra’s arbitration and mediation forum is the largest securities dispute resolution venue in the U.S. The forum handles more than 99% of the securities-related cases in the U.S. It has a roster of more than 7,000 arbitrators and hearing locations in all 50 states as well as in Puerto Rico and London.
Unpaid arbitration awards have long been a cause of concern for Finra, broker-dealer firms, registered individuals and lawyers.
“It’s a major problem,” Steven Caruso, chairman of the National Arbitration and Mediation Committee said at a Practicing Law Institute conference in New York in October 2017. NAMC recommends rules, regulations and procedures governing the conduct of arbitration, mediation and other dispute resolution matters before Finra.
From 2012 to 2016, there were 2,378 cases closed with awards issued to customer claimants, and 268 cases -- or 11% of those awards -- were left unpaid.
In monetary terms, those unpaid awards over that five-year period totaled $199 million, or 29% of the $678 million in awards issued to customer claimants.
In 2016 alone, $14 million or 12% of the $119 million in awards issued to customer claimants was left unpaid.
The Public Investors Arbitration Bar Association – a group for lawyers who represent investors in disputes with the securities industry – says its review of 2017 data shows the unpaid awards trend continues. Piaba says 36% of the investors who won their cases last year collected nothing, and 28 cents of each $1 awarded were left unpaid.
A Finra spokeswoman tells FA-IQ that the data on unpaid awards may not necessarily mean customer claimants received no payment for monetary damages. In several unpaid awards, customers may have already received a settlement amount with one or more parties before the award order is handed down, she says. This is what happened in the arbitration case against Diaz and First Allied Securities. Although Diaz did not comply with the award order, the firm had already previously reached a settlement with the 17 clients.
The problem of unpaid arbitration awards is “not unique” to Finra’s arbitration forum, according to the spokeswoman.
“Customers encounter this challenge across the forums in which they may pursue action – whether state or federal court, a dispute resolution forum administered by a regulator, a private arbitration venue, or otherwise,” she says.
The problem isn’t the venue but the “respondent’s inability or unwillingness to pay,” she adds.
The spokeswoman says Finra “has taken many steps in recent years to use the tools within its power to help customers recover the awards they are owed” and is considering several proposals to deal with this problem.
Finra has an expedited suspension procedure for broker-dealer firms or registered individuals who don’t pay arbitration awards. If claimants haven’t been paid within 30 days of being granted an award, they can request the expedited suspension process. After that request is filed, Finra then sends the derelict parties a letter informing them they have 21 days to do one of the following: pay the award; formulate a payment plan and get the claimants to agree to the plan; file for bankruptcy; or – for Finra members – request a hearing to argue an inability to pay.
Finra believes that unless a broker-dealer firm or registered individual has a valid defense for non-payment, the threat of suspension “can be an effective tool to compel payment of an award or settlement.”
Yet Diaz had been barred from the industry for two years and eight months before the Finra arbitrator ordered him and First Allied Securities to pay 17 clients the $4.3 million in damages.
Just like Diaz, “most” of the broker-dealer firms or registered individuals who skip out on paying arbitration awards are “inactive” in the industry, according to Finra.
“Inactive respondents are less likely to be able to pay an award, and Finra is constrained in its ability to help enforce collection,” the self-regulator notes.
Finra says it informs customers who file an arbitration claim when the respondent broker-dealer firm or registered individual is inactive. Finra says it also explains to the customers the implications of having an inactive respondent and advises the customer to consider adding other respondents that are still active in the industry and could pay damages.
Kay Gordon, a New York-based partner at Nelson Mullins Riley & Scarborough and co-head of the law firm’s investment management group, says customer claimants of unpaid arbitration awards can go to court to seek the execution of the order and the court could potentially order the garnishment of a respondent’s assets.
“The problem is any collection efforts will also cost money and it often results in the reduction of the award” that the claimants were supposed to receive, Gordon says. “It’s extremely frustrating but I don’t think it’s any different than any situation that doesn’t involve a broker-dealer, and in a different venue, whether in arbitration or in court.”
Proposals to solve the problem of unpaid arbitration awards include one that would impact the membership status of broker-dealer firms that have pending unpaid awards or firms that employ registered individuals with unpaid awards.
Finra’s proposed amendments to its Membership Application Program rules aim to create more incentives for the timely payment of arbitration awards by stopping individuals from switching firms or preventing firms from using asset transfers to avoid paying arbitration awards.
The changes to the rules would authorize Finra to deny a new membership application from a firm if the applicant or its associated persons are subject to pending arbitration claims. The changes won’t let Finra deny a continuing membership application from a firm that’s already a member, but it could subject that firm to restrictions, such as not hiring more associated persons with pending unpaid arbitration awards.
The changes would also address situations in which a member firm with substantial arbitration claims seeks to avoid paying claims by shifting its assets – typically customer accounts, or its managers and owners – to another firm and closing.
Finra is also considering other approaches to help with the recovery of unpaid arbitration awards, but these would require SEC rulemaking, federal legislation or SEC approval of Finra rulemaking. These include: requiring broker-dealer firms to raise or preserve capital for unpaid awards; expanding the coverage of Securities Investor Protection Corporation – which has around $2.5 billion in an investor protection fund – to include unpaid awards; creating a second brokerage industry fund, separate from SIPC, for unpaid awards; or requiring broker-dealer firms to have insurance for unpaid awards.
Piaba believes, however, that a recovery pool of funds out of fines collected by Finra would be the most effective way to help harmed investors recover their losses. The group says Finra is “fully capable of funding the pool” from fines it collects from rule violators.
Finra ordered broker-dealer firms to pay fines totaling $64.9 million in 2017, 63% lower than the $173.8 million – a record high – collected in 2016.