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It’s Not That Easy to Win Damages Against a Broker for Bad Advice

1/18/2004

Los Angeles Times

Investors who are thinking about suing their brokers over losses suffered during the recent bear market might take heart from the case of John and Patricia Murray.

The Los Angeles retirees, who filed an arbitration claim in 2002 against Prudential Securities alleging they’d gotten bad investment advice two years earlier, recently won their case, receiving 100% of the damages they’d claimed plus 10% interest and repayment of all their expenses. Their loss: about $158,000. Their award: $239,670.

It’s important to note, however, that the outcome in the Murray case is unusual. Though the couple’s attorney, Ryan Bakhtiari, said he had noticed increased sympathy for victims in recent securities arbitration cases, it’s far more common for investors to get only a portion of what they claim to have lost.

“It’s not enough to lose money,” said Bakhtiari, an associate with Aidikoff & Uhl in Beverly Hills. “You have to prove wrongdoing.”

Bakhtiari says he turns away 14 out of 15 potential litigants because they don’t have a strong enough case.

What made the Murrays so successful in arbitration?

Most investors who have a complaint with their broker or brokerage firm are required to submit their case to an arbitration panel instead of filing suit in court. Unlike ordinary court cases, arbitration hearings aren’t held in public, although the decisions are published.

Nor do the arbitrators explain why they ruled as they did, so it’s unlikely that a case will set a precedent and it’s harder to glean lessons from individual suits, said Bill McDonald, a Los Angeles securities consultant who frequently serves as an arbitration panelist.

“What you end up doing is looking at the facts of each specific case and making a judgment based only on those facts,” McDonald said. “You don’t feel compelled to follow precedent.”

Motives in Question

That said, certain circumstances are far more likely to produce investor awards, attorneys said. Unsophisticated customers who lose money by relying on a professional’s advice can win if they prove that the advice was tainted by the broker’s personal profit motive or was unsuitable for them. However, even sophisticated investors can win cases if they can prove that they relied on tainted advice, Bakhtiari said.

The most common complaint in recent years has been the one pressed by the Murrays: unsuitability. This is an allegation that a broker sold an investment that, by its nature, didn’t meet the client’s needs. If an unsuitable investment results in a loss, attorneys said, the client has a decent chance of winning an arbitration case.

When opening a brokerage account, an investor fills out a questionnaire about his or her age, financial assets, risk tolerance and investment goals. Many brokerage firms send confirmation letters to new clients reiterating the main points gleaned from the questionnaire.

Securities brokers have an obligation to do two things, Bakhtiari said. They must know enough about their clients to know what types of investments are suitable for them, and they must know enough about the investments they’re recommending to know whether those specific securities fill that bill.

Investors should fill out the brokerage questionnaire carefully and save a copy, attorneys said. If an investor files an arbitration complaint, these forms can help prove their case.

The Murrays, who are in their mid-70s, had been dealing with Prudential for a number of years, but their account was transferred to a new broker in the late 1990s. Their account documents noted that the couple’s primary investment goals were to preserve capital and generate income from their savings, and that always had been the investment approach they’d pursued. The trouble began in 2000, when John Murray retired and needed to roll over a $200,000 lump-sum retirement plan distribution. The Prudential broker suddenly strayed from the couple’s investment approach and bought shares in a mutual fund that primarily was invested in risky and highly volatile technology stocks, Bakhtiari said.

The Murrays didn’t find out about the investment until they received a confirmation statement in the mail. They immediately objected.

“We couldn’t believe that she would put us in this,” Patricia Murray said. “We explained that our money was in fixed income and we wanted it to stay that way because, at our ages, if we lose money, we don’t have the time to earn it back.”

In their complaint, the Murrays claimed the broker assured them that all was well and that they should stick with the investment. They uneasily agreed – and the value of the fund’s shares immediately began to slide.

The breaking point came when the broker bought a similarly risky investment when one of their certificates of deposit matured six months later, the Murrays charged. Again, the couple said, the broker acted without checking with them.

They now had $300,000 in highly speculative investments, and their portfolio, which had gone from being primarily fixed income and conservative, was now 70% invested in high-risk stocks, Bakhtiari said. At the same time, technology stocks were dropping, and the value of the risky funds that their broker had purchased on their behalf had been cut in half.

“We listened to her [the broker] because we trusted her,” Patricia Murray said. “We were beside ourselves, not knowing who to turn to or what to do.”

Formidable Claim

Bakhtiari said the Murrays came to him with the makings of a winnable case: The investments their broker had purchased were clearly unsuitable for their conservative profile. Their objections to the change in strategy were ignored. They had suffered a sizable loss. And what may be an equally significant element in the alchemy of legal judgments was that the Murrays appeared to be both honest and genuinely offended by what had happened.

A spokesman for Prudential Securities declined to comment.

It’s not unheard of for investors to win weaker cases, attorneys said, such as when they didn’t immediately notice an unsuitable investment or object to it when they did, or when the investors were somewhat less risk-averse. Sometimes investors can win even if they have some risky securities in their portfolio but objected to their broker buying additional volatile investments that threw their asset allocation strategy out of line, said Steven Sherman, a San Francisco securities lawyer.

Investors also can win arbitration cases if they can prove that they relied on advice or investment research that had been tainted by the brokerage firm’s investment banking relationships. Last year, the biggest Wall Street brokerage firms reached a settlement with regulators over charges that they issued misleading stock research.

The chances of winning a substantial award like the Murrays’ drop sharply if the investor participated in the activity that caused the investment loss or allowed the activity to take place. That makes it all the more important to take a realistic look at the losses and chance of success before pursuing a case, Bakhtiari said. The cost of arbitration, though cheaper than going to court, is significant. Unless the losses are fairly large, Bakhtiari said, it’s tough to justify the cost of the claim.

Added Sherman, “You rarely get everything you’ve asked for.”


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