Your Success Can Give Your Broker a Free Pass

Accomplished professionals may win lower settlements when suing brokers for damages.


Your broker has a lot of tricks up his sleeve. To get your money, he can be charming and attentive to your every need. He may bemoan all the burdensome forms you have to sign to open an account. To make your life easier, he will probably tell you to just sign where indicated, and he will fill in the details. He knows you are a busy person and is sensitive to your time constraints.

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Then the trouble begins. Every brokerage account I have reviewed is actively managed. This means the broker has recommended mutual funds where the fund manager attempts to beat a designated benchmark, individual stocks, alternative investments like private placement notes, or variable annuities. Rarely do these portfolios equal–much less beat–a globally diversified portfolio of low management fee stock and bonds index funds in an appropriate asset allocation. Yet, most investors are never presented with this option.

When the portfolio yields disappointing returns or significant losses, the broker turns the matter over to his legal department. The legal department pulls out the account opening documents. They note that you have agreed to mandatory arbitration administered by the Financial Industry Regulatory Authority (FINRA), a self-regulatory organization run by the securities industry. You have no right to a trial by a jury of your peers, no matter how badly your broker treated you.

During the arbitration, you are likely to be shown the investment objective designated on your account opening statement. You will be surprised to learn the broker had filled in aggressive, even though you were a conservative or a moderate risk investor.

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Now for the coup de grace defense. If you are successful in your business or profession, you should have known better. FINRA arbitrators typically embrace this defense and deny claims altogether or award a fraction of the damages claimed because of the business success of the investor. This argument should be laughed out of any Court in the country. Imagine a doctor defending a medical malpractice case by claiming you should have known the medication he prescribed would cause you harm because you are a successful plumber.

That’s exactly what happened to Duck Kyu Chang, a medical doctor, and his wife. Chang sued his broker for losses in his individual account and the pension account of his pathology practice. He claimed $2.7 million in damages caused by following his broker’s advice to over concentrate his portfolio in private placement notes. The arbitration panel found that almost 90 percent of Chang’s liquid assets were invested in these notes.

The panel awarded Chang only $805,110. It found Chang was partially responsible for his investment decisions. It noted that he was “intelligent” and “accomplished”. The decision didn’t indicate how much the award was reduced due to Chang’s intelligence and success as a pathologist. Unlike most FINRA tribunals, this panel rejected the broker’s claim that Chang’s medical knowledge, his interest in music theory, and his ability to use Quicken software to run his business, prevented him from recovering any of his losses.

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The fact that such a defense is even asserted should place you on notice of what you are in for if you try to recover losses for the misconduct of your broker and are successful in your business life. The best option is not to put yourself in a position where you can be victimized by a broker. It’s that simple. Don’t deal with them. Most people can invest without using any broker or adviser.

Dan Solin is a senior vice president of Index Funds Advisors. He is the author of the New York Times best sellers The Smartest Investment Book You'll Ever Read, The Smartest 401(k) Book You'll Ever Read, and The Smartest Retirement Book You'll Ever Read. His new book, The Smartest Portfolio You'll Ever Own, will be released in September, 2011.