GAO Finds Investors' Arbitration Glass Half-Empty - TheStreet

GAO Finds Investors' Arbitration Glass Half-Empty

A government report shows that brokers pay zip on 50% of awards investors win in arbitration.
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Fifty percent of wronged investors who successfully brought their brokers into arbitration in 1998 never saw a cent of the money they were awarded, according to a

General Accounting Office

report released Tuesday.

In addition, the report says, almost two-thirds of investors who won arbitration awards during 1998 ended up being paid less than 20% of the money the arbitration panels granted them, an unpaid sum of almost $130 million.

The report, an update to a 1992 study of the arbitration process, leveled the harshest criticism at the

National Association of Securities Dealers

, or NASD, one of the self-regulatory agencies responsible for arbitration panels. Nearly all of the cases in which investors won arbitration awards but received no payment were before NASD arbitration panels, the General Accounting Office report found.

"Simply put, the GAO

General Accounting Office reports that the present arbitration system is deeply flawed, largely because of unpaid awards," Reps. John Dingell (D-Mich.) and Edward Markey (D-Mass.) wrote in a letter to

Securities and Exchange Commission

Chairman

Arthur Levitt

Tuesday. The two congressmen requested the General Accounting Office report.

"If the defrauded investor who has lost his life savings receives zilch of his arbitration award, it is small consolation that the process that produced this abominable result was fair and efficient," Dingell and Markey wrote.

The SEC declined to comment on the letter as a matter of protocol, a spokesman said.

Linda Fienberg, executive vice president of dispute resolution for the NASD, says the GAO's focus on unpaid awards is misdirected at arbitration cases. Recovery of awards is equally difficult in a traditional court venue when the defendant company or firm has gone out of business, she says.

"This is a problem that happens whenever you have a group of broker-dealers engaging in fraud," she says. "It wouldn't be any different if someone had a court judgment."

Fienberg says NASD plans to begin, within the next several weeks, notifying investors if a defendant in an arbitration claim has gone out of business or declared bankruptcy.

The report found 504 awards by NASD arbitration panels in 1998 that were unpaid or only partially paid, but the NASD claimed it received complaints of non-payment in only 142 cases. A General Accounting Office survey of investors showed the number of complaints was more than double that amount, indicating a far greater level of investor dissatisfaction with the arbitration process.

"We believe that this discrepancy needs to be investigated and resolved and better record keeping systems implemented and maintained," Markey and Dingell wrote.

Jonathan Kord Lagemann, a New York lawyer who has represented investor clients in arbitration cases, called the report's conclusions about unpaid awards astonishing. "It's certainly a shocking number. Good Lord, I had no idea," he says.

The General Accounting Office also concluded that NASD, which operates the

Nasdaq

market and helps regulate the nation's brokers and dealers, did not regularly monitor payments of awards following arbitration hearings.

Markey and Dingell also refer to as "bunk" the NASD's assertion that helping investors by enforcing payment of awards in arbitration might appear to be taking sides in the disputes.

The General Accounting Office, the investigative arm of

Congress

, concluded that the primary cause for nonpayment of awards was broker dealers going out of business and individuals leaving the securities industry. Lagemann agreed partly, saying the statistics might be driven in part by large awards against firms such as the now-defunct brokerage

Stratton Oakmont

.

The arbitration process is undergoing a number of changes with two pilot programs underway to give investors new choices in where and how they pose legal challenges to their brokers. (

TSC

wrote about those changes earlier this

year.)

The NASD,

New York Stock Exchange

and SEC should publicize the possibility that arbitration awards will go unpaid and should encourage investors to more thoroughly evaluate the backgrounds of their broker-dealers, the General Accounting Office report says.

It also suggested the SEC periodically examine nonpayment of awards in NASD and NYSE arbitration cases.