Are Brokerage Firms Responsible For Investment Losses Caused By A Financial Advisor’s Misconduct?

Brokerage firms are financially responsible for investment losses caused by the misconduct of their employees under a legal doctrine known as respondeat superior, which is latin for “let the master answer.”

The Financial Industry Regulatory Authority (FINRA) has also implemented Rule 3110, which requires all brokerage firms to “establish and maintain a system to supervise the activities of each associated person that is reasonably designed to achieve compliance with applicable securities laws and regulations.” The failure of a brokerage firm to implement and enforce reasonable supervisory and compliance rules will expose the brokerage firm to liability.

Most brokerage firms have electronic supervisory tools that allow them to monitor daily trade activity in customer accounts. Brokerage firms review trading activity for concentration, suitability (i.e., whether the trade is consistent with the customer’s investment objectives and risk profile), commissions and investment losses. In addition to daily trade monitoring, brokerage firms review account activity on a monthly activity report that is intended to flag exceptional trade activity.

In the 21st century, most brokerage firms have implemented a reasonable system of supervision. The failure to supervise more frequently occurs due to a lack of follow through by brokerage firm management when red flags are identified. For example, if a trade is flagged as potentially unsuitable, the brokerage firm manager should speak with the Financial Advisor and, if necessary, review the account as a whole to determine if the Financial Advisor’s response makes common sense and is consistent with the client’s needs and objectives. In many instances, it may be necessary to contact the client and speak with them directly. This type of follow through is the best way for management to ensure that a customer is invested in suitable securities. The failure of the brokerage firm to take these reasonable steps is evidence of negligent supervision.

In addition, some financial advisor are recidivist violators of firm policy and/or regulations. It is the responsibility of brokerage firms to identify these employees and take reasonable steps to ensure their compliance with applicable policy and regulations or discharge them. Practically speaking, retaining financial advisors with numerous customer complaints, regulatory infractions or rule violations in a compliance risk for a brokerage firm and a danger to customers. When recidivist Financial Advisors engage in misconduct, and a customer files a claim or arbitration, the likelihood of a brokerage firm being held financially responsible for investment losses caused by that misconduct is enhanced.

Attorney Matthew Wolper

Attorney Matthew WolperMatt Wolper is a trial lawyer who focuses exclusively on securities litigation and arbitration. Mr. Wolper has handled hundreds of securities matters nationwide before the Financial Industry Regulatory Authority (FINRA), American Arbitration Association (“AAA”), JAMS, and in state and federal court. Mr. Wolper has handled and tried cases involving complex financial products and strategies ranging from traditional stocks and bonds to options, margin and other securities-based lending products, closed/open-end mutual funds, structured products, hedge funds, and penny stocks. [Attorney Bio]