The Financial Industry Regulatory Authority (FINRA) describes itself in glowing terms as "an independent, not-for-profit organization authorized by Congress to protect America's investors by making sure the securities industry operates fairly and honestly." The reality is quite different.
A flawed arbitration system
FINRA occupies a unique place in the regulatory framework. It's in charge of regulating brokers who must be licensed and registered by it. As part of its responsibilities, it administers an arbitration system to which customers of brokerage firms are required to submit disputes with brokers. It has long been my view that this cozy system -- which deprives investors of their right to a jury trial -- is inherently unfair to investors and is rigged in favor of brokers.
One study found the advanced age of arbitrators in the FINRA panel raised "serious concerns about their ability to effectively and fairly participate in arbitration proceedings." The same study also found the arbitrator disclosure process "fails to ensure that it provides updated and accurate background information and information related to potential conflicts of interest and bias to parties."
The study urged Congress to pass legislation making securities arbitration optional to investors.
A flawed "BrokerCheck" system
As part of its effort to burnish its image with investors, FINRA touts its "BrokerCheck" system. According to its web page, this system can tell you, among other things, whether a broker or brokerage firm has been subject to regulatory actions, criminal convictions and customer complaints. This is certainly information you should know before deciding to hire a broker. You would think making sure all the relevant information is accurate would be a priority for FINRA.
Blogs authored by Craig McCann, Ph.D, Mike Yan, Ph.D and Chuan Quin, Ph.D, who are affiliated with Securities Litigation & Consulting Group, raise troubling questions about the reliability of BrokerCheck. In one blog, the authors provided two examples of brokers who failed to disclose that customer complaints had been resolved against them. Instead, it listed these cases as "pending" up to 15 months after the adverse award was issued.
In the second blog, the authors found additional inaccuracies involving three more brokers.
This conclusion by the authors of the study is so damning it merits an immediate investigation into BrokerCheck and a determination of whether the process needs to be completely overhauled:
"With FINRA's unfettered access and our programming skills we're confident FINRA could find hundreds, maybe thousands, of brokers who have not reported customer complaints, settlements and awards. These brokers all should be swiftly fined and/or suspended."
An easy fix
If FINRA really believed "an essential component to investor protection is investor education," it would give these well-credentialed authors the access they seek to information that is readily available, take them up on their offer to provide the necessary programming, and identify brokers who should be sanctioned or removed from the industry.
Its failure to do so lends credence to those who believe the various processes at FINRA, including its mandatory arbitration system, serve to protect the industry it's supposed to regulate, and not the investors they have been charged to serve.
Addendum: I don't often make book recommendations, but I really enjoyed Odds On: The Making of an Evidence-Based Investor, by Matt Hall. Readers of this book will never become victims of the securities industry.
Dan Solin is a New York Times bestselling author of the Smartest series of books, including The Smartest Investment Book You'll Ever Read, The Smartest Retirement Book You'll Ever Read and his latest, The Smartest Sales Book You'll Ever Read.
The views of the author are his alone. He is not affiliated with any broker or advisory firm. Any data, information and content on this blog is for information purposes only and should not be construed as an offer of advisory services.