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Fixing Mandatory Securities Arbitration: What Part about “Customer Choice” was Unclear?
Posted on Categories Arbitration, Arbitration Agreements, News, Regulation, Statistics & SurveysTags , , , , , ,

By George H. Friedman*

I recently authored a post in my blog at the Securities Arbitration Commentator, CFPB Issues Final Report on Arbitration, Telegraphing a Ban or Limits on Arbitration. Should SEC follow Suit? While the short answer was “no,” I did go on to explain my thinking. The blog post touched off a lively discussion on LinkedIn in which critics contended that my support of mandatory predispute arbitration agreements (“PDAAs”) in the customer-broker/investment adviser context was misplaced. My response was “I advocate for customer choice on whether to arbitrate. Read what I wrote!” Turns out the commenters and I don’t differ on whether customers should have a choice. We just disagree on timing.

What I Said

In response to whether SEC should use its Dodd-Frank power to limit or abolish PDAA use if CFPB as expected does so, I said it should not. I explained my thinking, pointing out that: 1) Dodd-Frank treats securities arbitration differently than the consumer contracts regulated by CFPB (Dodd-Frank section 921 does not require the SEC to do anything about PDAAs in customer-broker contracts); 2) securities arbitration is already regulated by the SEC; 3) the two main problems cited in the CFPB Report – class action waivers and hidden arbitration clauses – don’t exist at FINRA; and 4) FINRA’s program is fair!

My Plan

I then elaborated on what SEC might do should it decide to exercise its authority under Dodd-Frank section 921, opining that four simple provisions would make for a good rule:

  1. Customer choice, but before a dispute arises: the customer should have a choice about whether to submit disputes to arbitration, but this choice should be made when the contract is signed. Requiring all parties to agree to arbitration after a dispute arises – could actually harm customers because businesses offering services would sometimes decline to arbitrate, making the dispute resolution process unpredictable for the customer.
  1. Clear, knowing, and voluntary agreement to arbitrate: To ensure that customers knowingly and voluntarily agree to arbitrate, SEC’s rule should require that the individual separately initial/click the arbitration agreement. Rule 2268 already governs the content and placement of arbitration clauses.
  1. Promote web-based arbitration systems: an arbitration system that steers consumers to travel to a “brick and mortar” arbitration hearing to resolve disputes that typically involve modest amounts is not a good idea. It’s a particularly poor one when the consumer’s interactions with the business have been entirely online. Customers should have the option of using an online ADR system.
  2. Establish procedural fairness criteria: the new rules should also require that any customer arbitration system adhere to basic standards of procedural fairness. As I’ve already stated, FINRA’s program is that model.

So, what’s the Problem?

My critics have a problem with the first part of my plan. It cannot be because some aspect of “the customer should have a choice about whether to submit disputes to arbitration” was unclear. No, dear readers, the problem lies in this part:

… but this choice should be made when the contract is signed. Requiring all parties to agree to arbitration after a dispute arises – could actually harm customers because businesses offering services would sometimes decline to arbitrate, making the dispute resolution process unpredictable for the customer.

Their point is that retail customers usually don’t have lawyers when they open brokerage accounts, and as a result they will get hoodwinked into agreeing to arbitrate. My point is that after a dispute arises, all parties are usually represented by counsel and typically one party or the other by that point has a strategic or tactical reason not to arbitrate. In plain English, no one will agree to arbitrate after a dispute arises, and that would be bad for all concerned, especially customers.[1] I should elaborate on why I think this is a problem.

Timing is Everything

I blogged recently on the proposed Arbitration Fairness Act of 2015, opining that it’s still a bad idea. Let me borrow heavily from that blog post:

  • The bill would require both sides to agree to arbitration after a consumer dispute arises. First, assuming all sides will agree to arbitrate after a dispute arises is a fool’s paradise.   Research shows clearly that, at that juncture, one side or the other has a strategic or tactical reason not to agree to arbitration. [2] And assuming that it will always be the consumer that rejects arbitration is wrong. That door would swing both ways. A business could decide to go scorched-earth litigation on a case by case basis, dragging consumers through protracted and costly litigation.
  • The dispute resolution process would become unpredictable. A consumer would have no way of knowing which disputes would go to arbitration and which would end up in court.
  • Dispute resolution providers may not be there. With caseloads becoming unpredictable and sporadic, alternate dispute resolution providers might find it untenable to maintain their fora. This is not theoretical; it’s already been discussed by a high-ranking FINRA official. Then-FINRA President Linda Fienberg at an SEC Investor Advisory Committee meeting in 2010, “… expressed concern that, if the small claims came to arbitration while the larger claims were pursued in court, FINRA's arbitration forum would lose money as it relies on the filing fees and costs of the larger claims to fund its operations.”[3] As I wrote in the Securities Arbitration Commentator two years ago, when you break the glass and ring the fire alarm, you want to be sure there’s a fire brigade to respond.[4]
  • Costs would rise. And who would bear the cost of all this uncertainty? The consumer.
  • And litigation stinks. Also, let’s think about where these disputes would end up if PDAAs are banned – in court. Going to court is terrible for all parties, especially consumers. Granted, in some parts of the country litigation is relatively quick and inexpensive, and a consumer occasionally gets a large jury verdict against a business,[5] but in general it takes a long time, is very costly, and is subject to both extensive discovery and relatively liberal dismissal standards. If arbitration is eliminated, I stand by my stated belief that litigation would be a poor way for the parties to resolve their differences.

Sticking to My Guns

Friedmans are a stubborn breed. So is my Mom’s side of the family – perhaps more so. Accordingly, I stand by my previous statements:

  • The customer should have a choice about arbitration, but at the time the contract is signed or clicked.
  • Hoping for a post-dispute agreement is a pipedream and would actually harm consumers.
  • The customer should knowingly agree to arbitrate.
  • The customer should not be denied an account if they opt not to agree to arbitration.
  • Any arbitration system would have to meet established fairness criteria.

Readers of course are free to disagree with my views. I’ve built an ADR career spanning four decades based on the premise that reasonable people can disagree. But if you challenge me on the facts, you’d better get yours lined up.


Borrowing from yet another one of my blog posts, the supporters of consumer arbitration -- typically businesses such as brokerage firms -- and those that hate it -- typically consumer rights advocates -- are locked in a polarized death embrace, with each side demanding that their view prevail. Opponents of consumer arbitration want mandatory PDAAs banned outright. Supporters want arbitration left alone. I suggest that by insisting that they get what they want – instead of what they need - they are both wrong. As the Rolling Stones song says, “You can't always get what you want, but if you try sometimes, you just might find you get what you need.” My approach gives both sides what they need: a fair system that gives consumers the choice they want and businesses the predictability and risk management they crave. Or, somewhat like another song says, “all we are saying is give choice a chance.”


*George H. Friedman, an ADR consultant and Chairman of the Board of Directors of Arbitration Resolution Services, Inc., retired in 2013 as FINRA’s Executive Vice President and Director of Arbitration, a position he held from 1998. In his extensive career, he previously held a variety of positions of responsibility at the American Arbitration Association, most recently as Senior Vice President from 1994 to 1998. He is an Adjunct Professor of Law at Fordham Law School. Mr. Friedman serves on the Board of Editors of the Securities Arbitration Commentator. He is also a member of the AAA’s nation roster of arbitrators. He holds a B.A. from Queens College, a J.D. from Rutgers Law School, and is a Certified Regulatory and Compliance Professional (Wharton-FINRA Institute)


[1] If what my detractors were really suggesting is that FINRA Rule 12200, which gives customers the right to unilaterally require arbitration with their broker, would survive abolition of PDAAs, they are dreaming. That’s a subject for another blog post.

[2] See generally Black, Barbara, How to Improve Retail Investor Protection After the Dodd-Frank Wall Street Reform and Consumer Protection Act, 13:1 Univ. of Pa. L. Rev. 59, 104 - 106 (2011), available at <visited April 15, 2015>.

[3] See Securities and Exchange Commission Investor Advisory Committee - Minutes of May 17, 2010 Meeting, available at <visited April 15, 2015>.

[4] Friedman, George, The Arbitration Fairness Act: a Well-intentioned but Potentially Dangerous Overreaction to a Legitimate Concern, 2013:1 Securities Arbitration Commentator 1 (June 2013), available at <visited April 15, 2015>.

[5] See, e.g., Barlyn, Suzanne, South Carolina jury awards $8.1 million to investor who was misled by BB&T (June 30, 2014), available at <visited April 15, 2015>.