How Do Arbitrators Determine Suitability?
In the securities industry, suitability is a term used to define the process of matching investments with a customer’s stated profile, which includes their investment objectives, risk profile, income needs, tax status, net worth, age, employment status and any other factors that may be relevant to the particular customer’s situation. In other words, did the Financial Advisor recommend appropriate (i.e., suitable) investments that were designed to achieve the investor’s objectives and still remain within their risk profile.
In securities arbitration, suitability claims are the most common pled legal claims. Financial advisors often fail to conduct an appropriate level of due diligence before recommending investments to their clients. Appropriate due diligence requires the Financial Advisor to spend a sufficient amount of time understanding the client’s needs and the benefits and risks of the investments being recommended. Often, other factors, such as the commission a Financial Advisor is permitted to charge for the purchase of one investment versus another, motivates an investment recommendation. This would be an example of an unsuitable recommendation because the Financial Advisor is putting their interests ahead of the client.
The Financial Industry Regulatory Authority (FINRA) suitability rule 2111 provides that a Financial Advisor must have a reasonable basis for recommending a transaction or investment strategy to a customer. This is referred to as “customer specific suitability.” For example, an investor looking for conservative income should not own aggressive growth securities. Similarly, an investor who needs liquidity should not own annuities or structured products, which often have penalties associated with early redemptions.
FINRA Rule 2111 further expanded the old suitability rule, which only focused on the purchase and sale of securities. Now, a Financial Advisor’s suitability obligations also apply to recommendations to “hold” securities. This situation frequently arises when there is market volatility and the customer inquires whether they should make changes to the portfolio. If the Financial Advisor recommends holding the securities, the suitability rule is triggered.
Depending on the nature of the customer’s claim, different, more technical aspects of the suitability rule may be triggered. For example, FINRA Rule 2111 imposes a duty on the Financial Advisor to have a sound basis for recommending the number or volume of transactions in an account. This concept is referred to as “quantitative suitability.” In other words, a specific security may be appropriate for a given customer but becomes unsuitable wen the Financial Advisor buys/sells that same security twenty times in one month, generating high commissions.
The Wolper Law Firm represents investors nationwide in securities litigation and arbitration matters. Matt Wolper, the Managing Principal of the Wolper Law Firm, is a trial lawyer who has handled hundreds of securities cases during his career involving a wide range of products, strategies and securities. Prior to representing investors, he was a partner with a national law firm, where he represented some of the largest banks and brokerage firms in the world in securities matters. Simply put, he knows how the other side evaluates cases, which gives you a competitive advantage.
If you have experienced investment losses, and you have questions or concerns regarding the suitability of your portfolio, contact the Wolper Law Firm at 800.931.8452 or email@example.com for a free, confidential consultation and case evaluation.