FINRA’s Optional All Public Panel Program

What are the details of this program and will it make the FINRA arbitration process and/or FINRA arbitration outcomes more favorable to customers?

The purpose of this article is to analyze the Financial Industry Regulatory Authority’s (“FINRA”) Optional All Public Panel and its likely effects on the success of customers’ arbitration actions.

I.          Background.

In the fall of 2010, FINRA proposed a permanent rule, SR-2010-053, which would allow customers to elect to have their arbitration case heard by an all-public panel.  See SR-2010-053 Proposed Rule Change by Financial Industry Regulatory Authority (hereinafter “Proposed Rule Change,” available at http://www.finra.org/Industry/Regulation/RuleFilings/2010/P122354.   The traditional composition of a FINRA panel for claims with alleged damages of over $100,000.00 is a public chairperson, a second public arbitrator, and a non-public arbitrator.  Id at 4.  Using an electronic Neutral List Selection System (“NLSS”), a list of ten (10) arbitrators falling into one of the three above-referenced categories is created and mailed to parties, who then strike up to four names and rank the remaining names within each category.  Id.   FINRA administrators then select a panel based on the parties’ strikes and rankings.  Id.  FINRA’s explanation in connection with the proposed rule was as follows:

FINRA is proposing to amend the Customer Code to provide customers with the option to choose between two panel selection methods – the current panel selection method, which would be labeled “Composition Rules for Majority Public Panel” (“Majority Public Panel”), and a new panel selection method, which would be labeled “Composition Rules for Optional All Public Panel” (“Optional All Public Panel”).  Under the proposed rule change, customers could choose the panel selection method; neither firms nor associated persons could choose the selection method.

The Majority Public Panel option would continue to provide for a panel of one chair-qualified public arbitrator, one public arbitrator, and one non-public arbitrator, and would retain the current limit of four strikes for each arbitrator list.  The new Optional All Public Panel provision, if chosen by the customer, would allow parties to select an all public arbitration panel.  Under this new provision, FINRA would send the parties the same three lists of randomly generated arbitrators that they would have received under the Majority Public Panel option, but FINRA would allow each party to strike any or all of the arbitrators on the non-public arbitrator list.  If individually, or collectively, the parties struck all of the non-public arbitrators, FINRA would complete the panel by appointing a public arbitrator.  Thus, by striking all the arbitrators on the non-public list, any party could ensure that the panel would have three public arbitrators.

The proposed rule change would apply only to customer disputes.  It would not apply to arbitrator selection in disputes involving only industry parties.

Id. at 4-5.

FINRA’s stated rationale for the new rule was an explicit acknowledgement of the investing public’s perception that the FINRA arbitration process is biased in favor of the securities industry:

FINRA believes giving customers the option of an all public panel will enhance confidence in and increase the perception of fairness in the FINRA arbitration process.  All customers will have greater freedom in choosing arbitration panels, and any customer will have the power to have his or her case heard by a panel with no industry participants.

FINRA believes that providing customers with choice on the issue of including a non-public arbitrator on the panel deciding their case will enhance the customers’ perception of the fairness of our rules and of the FINRA securities arbitration process.

Id. at 5, 12.  In fact, in a 2008 study conducted by the Securities Industry Conference on Arbitration, and funded by FINRA, revealed the following:

[I]nvestors are fed up with having to arbitrate their claims against securities firms in a forum that they view as biased, expensive, and unfair.  The reasons for this collective dissatisfaction with what is supposed to be a neutral arbitral forum likely include the following:  FINRA requires at least one securities industry insider to serve on every arbitration panel . . . [e]specially in recent years, when brokerage firms have been consolidating at a record pace, any industry arbitrator could sometime in the future be employed by a firm involved in the arbitration.

See Amy Radon, The Time for Change in Securities Arbitration Has Come, available at http://www.publicjustice.net/Resources/Backgrounds/time-for-change-in-securities-arbitration.aspx.

FINRA ran a pilot of this new selection process from October 6, 2008 through early 2011.  Id. at 6.  In the 2008-2009 year, eleven (11) brokerage firms volunteered to participate, including Ameriprise, Charles Schwab, Edward Jones, Fidelity, Merrill Lynch, Morgan Stanley Smith Barney, TD Ameritrade and UBS.  FINRA, Public Arbitrator Pilot Program Frequently Asked Questions, available at http://www.finra.org/ArbitrationMediation/Parties/ArbitrationProcess/NoticesToParties/P116995.  In the 2009-2010 year, the number of participating firms increased to fourteen (14).  Id.  The brokerage firm participants elected to extend the pilot through a third year, set to end on October 5, 2011 if the program was not made permanent and applicable to all customer disputes by then.  Id.

On December 16, 2010, FINRA submitted changes to the proposed rule SR-2010-053 as follows:

- FINRA will notify investor customers in writing that they have 35 days from the service of their Statement of Claim on Respondent to elect the Optional All-Public Panel, and FINRA will showcase the rule change in its written materials and on its website; and

- To allow customers to elect the Optional All-Public Panel in writing within 35 days from service of the Statement of Claim, regardless of whether the customer is the claimant or respondent.

See Amendment No. 1 to SR-2010-053 (hereinafter “Amendment No. 1″), at 8, available at http://www.finra.org/web/groups/industry/@ip/@reg/@rulfil/documents/rulefilings/p122657.pdf..

By December 14, 2010, the Securities and Exchange Commission (“SEC”) had received 125 comments to the proposed rule change.  See Amendment No. 1 at 3.   Only one of those commentators opposed the rule change – Harvey Wacht of Shufro, Rose & Co., LLC, an independent asset management firm.  Id. at 4, 6.  The Wacht Comment argued that “[w]ithout an experienced, disinterested securities professional on the panel . . . public arbitrators are deprived of the opportunity to understand the context in which the alleged misconduct occurred.”  See November 18, 2010 Comment on FINRA File No. SR-FINRA-2010-053 (hereinafter the “Wacht Comment”), available at http://www.sec.gov/comments/sr-finra-2010-053/finra2010053-2.pdf.  The Wacht Comment  goes on to blame the level of denial of customers’ arbitration claims not on industry bias, but on FINRA’s “low threshold” for filing claims. Id.

On January 31, 2011, the SEC approved SR-FINRA-2010-053 as amended, making all customers who had not received arbitrator ranking lists by January 31, 2011 eligible for the Public Program.  See SEC Release No. 34-63799, available at http://www.finra.org/web/groups/industry/@ip/@reg/@rulfil/documents/rulefilings/p122878.pdf.  If, however, a customer fails to make an election of the Public Program, the default will be a Majority Public Panel.  Id.

The complete text of FINRA’s new rule governing the arbitrator selection process for claims alleging damages of over $100,000.00, and thus necessitating a panel of three (3) arbitrators, is available at http://finra.complinet.com/en/display/display_main.html?rbid=2403&element_id=4141. FINRA even has a section of its website devoted to the Optional Public Panel, available at http://www.finra.org/ArbitrationMediation/Parties/ArbitrationProcess/NoticesToParties/P122873.

II.         The Effect on Customers’ Success.

Whether the presence of the Optional All-Public Panel will impact the long-term success rate of customers in FINRA arbitrations remains to be seen. See Barbara Black, Harvard Business Law Review Online: FINRA Proposed Rule Change Would Give Customers Option of All-Public Arbitration Panel at 5-6, available at http://www.hblr.org/2010/11/finra-proposed-rule-change-would-give-customers-option-of-all-public-arbitration-panels/ (“Panels have not yet issued a sufficient number of awards to enable accurate statistical analysis of the effect of the alternative panel structure.  However, FINRA cited the positive reaction from participants in the pilot program as a motivating factor for its proposed rule change.”).

However, FINRA statistics as of August 1, 2011 on the pilot program show the following:

- 82% of the cases involving an all-public panel resulted in settlement, compared to 71% in 2010 cases with the traditional panel composition;

- 65% of the cases heard by an all-public panel resulted in an award for the customer, compared with 48% in 2010 cases with the traditional panel composition;

- Cases involving all-public panels took, on average, one month more to conclude that cases with traditional panel composition, 15.2 months vs. 14.6; and

- “Results of surveys on closed Pilot Program cases and meetings with constituents indicated that parties in Pilot Program cases did not use expert witnesses more often because they had an all-public panel.”

FINRA, Public Arbitrator Pilot Program Summary Sheet With Interim Results, available at http://www.finra.org/ArbitrationMediation/Parties/ArbitrationProcess/NoticesToParties/P122535.

Further, it is unclear what percentage of customers will elect the Optional All-Public Panel.  Surprisingly, during the pilot, many customers elected to include a non-public arbitrator on their panel:

During the Pilot, a substantial percentage of customers opted for a majority public panel.  From launch of the Pilot in October 2008, until December 1, 2010, in 74 percent of cases eligible for the Pilot, customers accepted a non-public arbitrator on their panel either by choosing not to participate in the Pilot or by ranking one or more non-public arbitrators.

***

During the period at issue, 1,047 eligible cases were filed (583 customers opted into the Pilot, 452 declined to participate, and 12 were still pending). Of the 583 customers that opted into the Pilot, customers returned their rankings in 506 cases (77 rankings pending). Customers proceeding in the Pilot chose to rank one or more non-public arbitrators on the list in 255 of the 506 cases. Either by choosing not to participate in the Pilot (452) or by ranking one or more non-public arbitrators (255), 707 customers (74 percent) in 958 cases (583 customers opting into the Pilot plus 452 declining to participate, less 77 rankings pending) agreed to have a non-public arbitrator.

See Amendment No. 1 at 7-8.  Therefore, perhaps any future difference in success rates of customers before a Majority Public Panel and customers before an Optional All Public Panel may not have to do so much with the panel as with the type of customer who opts for one panel composition over the other.

IV.       Conclusion.

If you have questions regarding possible claims eligible for FINRA arbitration, we would be happy to discuss your current circumstances with you.  To arrange for a consultation concerning your legal matter, please contact Robert Mitchell at robertmitchell@mitchell-attorneys.com, or at (602) 468-1411.  Robert Mitchell is widely respected as one of the best securities attorneys in Phoenix, Arizona and has been representing parties in securities arbitration cases before FINRA for more than two decades.

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