FINRA Discovery Requirements for Investors
The following is a transcription of a recent episode of Wall Street vs. Main Street, a radio show hosted by the firm’s managing partner D. Daxton White.
In this episode, Mr. White discusses FINRA Discovery Requirements for Investors.
Producer: Welcome to Wall Street versus Main Street, a different take on the investment show, with our host Dax White. Dax White is the managing partner of the White Law Group, a national securities fraud, securities arbitration and investor protection law firm with offices in Chicago, Illinois and Vero Beach, Florida. The White Law Group has represented hundreds of investors in FINRA arbitration claims against their brokerage firms and throughout this show Mr. White will shine a light on some of the tricks of the brokerage industry while also providing valuable information for investors on how to successfully navigate the investor/ financial advisor relationship.
Dax: Welcome everyone you’re listening Wall Street v Main Street. I’m your host Dax White and as our lead in indicated I’m a securities attorney that represents investors in claims against their brokerage firm. So we’re trying to call this a different take on an investment program. We’re not here to give investment advice or to give tips on here’s what’s going to happen in the market. Instead the objective of the show is to sort of pass along some of the information that I’ve gleaned through my practice in representing investors in these types of disputes that I wish the investment public sort of knew before they get to me. Information I think will make it a more even playing field for investors in that relationship with their financial advisor, because it’s a critical one. You’ve got this person whose managing your life savings and you’re making sort of assumptions on both their background and their obligations to you. Your hope is that they’re going to look out for you and help you get to that point where you can retire and live off your money. So what could be more important than that? But there are instances where I see that the brokerage industry has sort of set this field up such that they’ve got an advantage, both in terms of how the investments are structured, the commissions, the money they make off of you and so there is just information that I wish more of the investment public had. Questions that you could ask, to even that playing field and make it a more productive relationship.
And so each week that’s what we are sort of going to tackle as either information I’ve picked up from other cases, things to be on the lookout for or if you’ve already arrived at the point where you think maybe you need to do something, information on the arbitration process generally. That’s what you would be in if you had a dispute with your financial advisor. Buried in the fine print of your agreement is something that says that you waive your right to sue them in court and instead you’ve got to sue them in what’s called FINRA arbitration (it used to be called the NASD). And that’s what we do, is exclusively FINRA arbitration cases. And that actually is the topic this week, is a discussion of, you’ve decided, okay, I need to bring a claim. What would then be your discovery requirements, the requirements on you of the documents that you would need to produce in that type of dispute? What other information do they get to ask you, questions, etc? In my experience in talking to people who are considering bringing these types of claims, that is often the biggest hesitation. Usually by the time they get to us they’re sufficiently mad. That’s not the problem. If you’re calling a securities lawyer you’re probably at that point where you’re mad enough where you are willing to pull the trigger and bring a claim, but I think people are concerned about their ability to win. What are the odds that I’d actually prevail, but also what are my obligations? I’m obviously hiring a lawyer, I’m talking to you, what are you going to handle and what am I going to have to do. Fortunately there are FINRA rules that limit discovery relative to court and so that’s sort of the short answer to clients. But beyond that there’s also documents that are required of people in every case. That’s what we’re going to tackle.
The first thing that I think scares some investors away from being willing to bring a case is the idea of being deposed. Let’s say that you have never been involved in litigation and you don’t really like the idea of sitting across the table from your adversary’s attorney and being grilled for several hours, with them asking you a bunch of questions and you can’t really get up to leave or what have you. The nice thing about FINRA arbitration is that, there are some exceptions, but for the most part depositions are not permitted. FINRA arbitration generally, as an alternative dispute forum, the objective is to be more streamlined, less intensive, and depositions is one of those big things. Where there’s generally not going to be a deposition. You generally don’t have to worry about that. Obviously if you went to a hearing, you don’t settle the case, you go to a hearing, and you’re of course going to be cross-examined. You’re going to have to answer questions from your adversary’s attorney. But the vast majority of FINRA cases do settle. The numbers are about 80% so for a lot of people who bring these types of claims, they would not have to be deposed. That’s something I think people are generally frightened about. So we’ve taken that potentially off the table.
What are your requirements then in terms of producing documents and for me this is the big one. Where we have that discussion with potential clients and we tell them look, obviously we can draft a statement of claim and we can review the Answer and we can work up your case and obviously we’re going to be the ones to try your case. But where I really need you, is at a hearing where you’re my key witness and during the process when we need documents. Because you have them, and there are certain documents that we’re going to need both to prove your case but also certain documents that the brokerage firm is entitled to. And so for clients that is usually the biggest obligation for them, obviously at a hearing testifying, but before then because most cases settle, so the one that is going to happen in every case is the documents. What documents are you going to need to get and how voluminous is it and how onerous is it, etc. Those are questions that are generally being asked. And again the nice thing is because we’re in arbitration as opposed to court it is generally limited and historically it’s been done by FINRA rule. The first time they sort of made it uniform because what was happening is you had brokerage firms and investors fighting about what they wanted to produce in all these cases which created motions to compel production and fights over it and arbitrators having to step in. And so again that sort of runs counter to the general objective of arbitration which is to streamline this and try to make it easier. And so what FINRA (and at the time it was called the NASD) did is they stepped in and they tried to sort of uniform it. They got together with lawyers who represent brokerage firms and they got together with lawyers who represent investors and they got them together and said okay, here in this room, what can we agree that you need in every case, so we don’t have to fight about it. Here are the documents that brokerage firms have to produce every time. Don’t fight about it, just produce it. And there are documents that are considered presumptively discoverable. And then on the investor side, what are the documents that would need to be produced in every case. Don’t fight about, it just do it. And these are the documents that are presumptively discoverable and there’s a list and it’s called the discovery guide. And that is sort of the baseline of what your obligation is going to be in every case. That started in 1999, it’s evolved sort of in terms of its use and its process and it changed and made whole in 2011 when FINRA came out with (they issue these all the time, they’re called notice to members) a notice to the brokerage firms that are FINRA members. But they came out with Notice to Member 11-17 in 2011 which sort of established definitively, okay, here’s the discovery guide and now you don’t even have to ask for it. 60 days after the answer is filed here’s the documents each side is required to produce.
And there are lists and so if you are filing a customer case you look at list two, I’m a customer, here’s the documents I need to provide. So that is sort of the historical background of where we’re at the baseline. This is what we tell clients. Okay, let’s go through the list, here’s what you’re going to have to produce. Are you comfortable doing this? Because if you’re not, don’t bring your case. This is sort of the bare minimum. We’re going to take a quick break. When we get back I’ll go through what that discovery guide is and why, again the machination of this was you’ve got lawyers on my side of the fence and lawyers for brokerage firms getting together discussing okay, what do we need for every one of these cases. Here’s the documents we need and we’ll go through the basics of what the documents are and why, why would you need them, because for some of them, tax returns is the big one, but for some of them we get pushback from clients all time and, “why do I have to give you that.” So we’ll go through that when we get back.
You have been listening to Wall Street versus Main Street. I’m your host Dax White. Before the break we were talking about the basic requirements of any investor who decides to bring a FINRA arbitration claim against their financial advisor or brokerage firm. And we talked about sort of the history of how we’ve arrived at this baseline of documents that are presumptively discoverable in every case. And while this doesn’t completely encapsulate lists and it doesn’t preclude brokerage firms from asking for additional documents, these are the bare minimum. These are the documents you have to produce in every case and in my experiences generally speaking this is what would be required to go try a case. They’re going to ask for more stuff because they’re paying their lawyers a bunch of money so they have to do something. A lot of those additional requests in my experience are sort of out in left field, hey, let’s ask for and see if they don’t fight us on it but we often do. We often cite back to this discovery guide and say look, this is what’s presumptively discoverable for a reason and these additional documents you are asking for are not relevant and will be over burdensome for our client to go get them etc. Which isn’t to say there aren’t reasonable requests, of course there are, but the discovery guide and that Notice to Member I talked about before the break that establishes what the documents that are presumptively discoverable in every case. There’s a reason. Again the history is you had lawyers get together talk about okay what do you need to try this case you are and I know you need this and that let’s agree on okay here’s the documents we’re going to produce every time. And that’s again the FINRA discovery guide and so when you’re contemplating, I think I’ve been taken advantage of. Am I willing to actually go to through the process and for our clients a lot of that is okay what am I going to have to do? And for the most part it’s get the documents were going to need the documents required to produce. And so we’ll run through what those are. But overall what I would say is the documents that you are required to produce are the documents that a brokerage firm would need because almost all these cases what you are alleging is that the investment recommendations were unsuitable for you, that the financial advisor breached their fiduciary duty to you in recommending investments that you didn’t understand or you didn’t have experience for or were over- concentrating your portfolio etc.
And so the documents that you would need from the brokerage firm’s standpoint to either verify the validity of your claim and say the client hey, we need to pay on this one or to try to disprove those allegations, would be all the documents that would basically establish your investment experience, your income, your net worth, your investment objectives which is usually looking at previous investment experience because that would be suggestive of okay, “you done this in the past, you’re probably willing to do this again.” So it’s basically all the documents that would go into what’s your investment history? Who are you as an investor? What’s your background? Your education? Those things. So each of the ones on the list, they’re on the list because they would provide some of that information.
The first one and the one that is typically the most controversial at least with our clients, because people are just very protective of their tax returns, is tax returns. And what we hear from clients all time is and particularly in the world that we are in right now, where you have people filing fraudulent tax returns and you just don’t want that information out there. I understand that component of it, but also people are just protective of the information. They don’t want people knowing how much money they make. They don’t want people knowing, they are concerned with who’s going to see these. This is an aside, but generally speaking in these types of cases there are confidentiality agreements that are entered into as both sides are sensitive to this information being out there. And what it does is it essentially limits this information to the arbitration hearing only and it can’t be used for any other purpose. So to the extent that you give the tax returns to the brokerage firm it’s so that the lawyer on the other side or any business people that he would need to consult with, an expert or whatever, can review them and that’s the extent of it. The reason they’re relevant, the reason we tell clients, look we could object if you want to, but my guess is that ultimately you’ll be required to produce them because they are the number one item on the presumptively discoverable document list.
But also, more importantly if you don’t, there will probably be some negative inference made by the arbitration panel that you are hiding something. So certainly we suggest to clients that, I understand your reservations, let’s try to protect your confidential information, but we certainly suggest that you do produce these. And the reason is because a lot of the information that goes into determining whether or not these recommendations that you’re holding the brokerage firm responsible for were appropriate for you. A lot of that information is in your tax returns. You are obviously going to have your income on there. Income is certainly a component because let’s say that you are a 35-year-old doctor making a half million dollars a year and you are filing a lawsuit over a $50,000 investment. Your income can be important because the arbitration panel might look at that and go well, that is such a small percentage of his income, not even his net worth’s, but his income, maybe he was willing to take a risk on that particular investment. Juxtapose that to somebody who makes a $50,000 investment but they are retired have no income. That’s probably somebody who is willing to take on less risk. Income, that’s on your tax return, that would certainly be, that’s the reason that’s important, But also in your schedules, your K-1’s, you are also going to have reference to other investments and then that is another component of determining both the validity of your claim and from the brokerage firm’s perspective trying to defend that claim. It’s looking at your investment history. If you’re filing a claim holding a brokerage firm responsible for recommending that you buy XYZ oil and gas limited partnership and you’re arguing it’s super high risk and outside of your investment objectives, not what you wanted, but your tax returns reveal that you’ve done four other investments exactly like that through another brokerage firm, obviously that’s going to be critical information to their defense. And that would be in your K-1, because you would be getting distributions from that investment. So that’s why the tax returns are important and that’s why it’s number one on the list and again for whatever reason, and I do get it, but that’s the one that we usually get the most push back on.
The next one is financial statements and not every investor has this one. There’s not a lot of people out there that are constantly tracking their net worth and have updated financials so that if they get into a lawsuit can just print it up and send it to us. And so that brings up a critical point which is that FINRA rules do not require you to create documents. You either have it or you don’t. And so we come to you and say you got to give us your financial statements. If the response is “well, I don’t have a financial statement” then that’s the answer to the brokerage firm. These people don’t have one. And so that does happen in a lot of our cases but where we do see them, not necessarily somebody sitting at home tracking their net worth, where you would potentially have a financial statement is, let’s say that you tried to take out a mortgage in the last couple years. The bank in that context usually will have you fill out a financial statement. If you have a copy of it or you can get a copy of it, then that would be a document that would be responsive. And ultimately what the brokerage firm is looking for is something that would be pre-litigation you making a attested to statement about what your net worth, your financial situation is, as opposed to maybe what they would argue would be a self-serving representation of what that situation looks like now that you’re involved in litigation. They want to see one that was created before the dispute and that’s why they’re looking for that one and the reason of course it’s relevant it goes back to suitability again. Goes back to what you’re typically arguing these types of cases which is that the recommendation was inappropriate and again if we’re talking about that 35-year-old doctor who makes a half-million and oh by the way he’s also worth 5 million and he’s making a $50,000 investment, that’s information the brokerage firms going to want to want . Because they are going to look to the panel and say look, this was clearly a suitable investment. It didn’t work out, we’re sorry about that, that is not what we hoped, but for somebody to put in .1% of their net worth or whatever the number might be, in this investment program is not unsuitable for us to make that recommendation. So that’s why the financial statement would be relevant, that’s why it’s on the list.
The next one I think is pretty obvious to most people and that is going to be the correspondence between you and the brokerage firm. Obviously there’s going to be documents that are relevant in there in terms of discussions maybe you have with the brokerage firm where there are emails where you were saying “hey, you know, I don’t really like that, I think it’s too aggressive. I don’t want to do that.” That’s one you want your lawyer to have. But the brokerage firm they want to see them all because maybe there is one in there, that’s like “yeah, I understand the risk but I want to do it, sounds great, let’s do it.” And so correspondence between you and your financial advisor or you and the brokerage firm, that’s obviously going to be relevant and you are going to have to produce that.
The next one is going to be account statements with your other brokerage firms. And sometimes we get pushback on this too because again people are just very protective of their personal financial information. But again it goes back to that same analysis of trying to determine whether or not a recommendation is appropriate for you and your investment experience is in play. Again, if you’re trying to hold brokerage firm A responsible for an unsuitable investment strategy but you’re over at brokerage firm B investing in the exact same investments, good luck, that is going to be very difficult because the brokerage firms is going to argue, no, we weren’t doing anything unsuitable, we’ve doing exactly what you asked us to do. This is the type of investor you are, this is the risk that you’re willing to accept by evidence of the fact that you invest exactly the same way at a different brokerage firm. And we’re not talking necessarily about the same investments; we’re talking same strategy. Because maybe the same strategy worked at brokerage firm B and that’s why you’re not suing them but performance is not what’s at issue in these types of cases. What we’re talking about is suitability, what we’re talking about is strategy and the mere fact that yeah, I am willing to do that, but you guys lost me money. That’s not going to be a valid claim so again that’s why it’s on the list. The brokerage firm is trying to figure out, who is this person as an investor? And they’re trying to figure out okay, what’s their investment background. The perfect case, and there really are no perfect cases. The perfect case is somebody who has no investment experience, no other brokerage accounts, they had CDs, and they walk into a brokerage firm and they get put in horrible investments, they lose money and then they are so freaked out by the market that they then put that money under their mattress. And so your response in that one is “I don’t have account statements from other brokerage firms.” But most investors, that is not the case, usually this isn’t your first investment relationship with a financial advisor. You move for whatever reason you moved. Now you’re with the new one and they want to see okay, what’s your investment history, because that is usually suggestive of what type of investor you are. That’s why that one is on the list.
The next one is going to be the documents, agreements that you have with the firm certainly anything with respect to the transactions and I’m not going to hit them all so I do want to mention that if you want the full list of what’s required. I’m going to sort of do broad strokes. Here’s the big ones. Here’s the ones that people often have because there are some on the list but you don’t usually have them but if you want the full list go to our website Wall Street v MainStreet.com and look for this particular episode where we talk about discovery requirements and I’ll put on there the actual Notice to Member 11-17 that breaks these down.
The next one and I’ll just mention it because it is a perfect example of one where clients usually don’t have it but it is on the list. If you do have it, it certainly would be relevant and that’s an account analysis. Some people sit at home and they track their investments, look at performance and they break it out and that would be called an account analysis. If you’re somebody who’s doing that, certainly that would be relevant because it’s going to show damages and it is going to show how much you’re actually involved because that is certainly representative of somebody that is tracking their portfolio very closely. How often are you updating it? So that’s something that would be relevant. And that’s why it’s on the list. I would say that most of our clients don’t fall in that situation. It is very rare that our clients actually have this, but it is on the list.
The next one would be notes. Certainly if you had meetings with the financial advisor and you took notes that would be important, that would be relevant. In part because I think arbitrators look at contemporaneous notes well before litigation as potentially even more significant than something that might be written or testified to. Because you’re writing that long before you even thought about suing your financial advisor.
The next one would be statements of claim. If you’ve sued a previous financial advisor you have to produce those because if you’re making the same argument before, now you’re making it again, that would be relevant.
The next one would be documents showing the ownership of a business, again that would go toward sophistication, would go towards your general work experience because it would be hard to argue that a financial advisor took advantage of you if you are a CEO who’s runs very successful businesses.
And the last one I’ll go into is resumes and that’s because it breaks down your work experience and obviously you’ve got a MBA that’s going to be relevant. So that’s the basic list. If you want to look at the rest of them, check us out on the website WallStreetvMainStreet.com and tune in next week as we tackle more topics on the same basic subject. Thanks.
Producer: You’ve been listening to Wall Street v. Main Street. The views expressed by the participants of the program are their own and do not represent the views of nor are they endorsed by the White Law Group, its officers, directors, employees, agents, representatives, shareholders, nor any of its subsidiaries. None of the content should be considered legal advice. As always, consult a lawyer.
This transcription has been created by Dragon Software. There may be grammatical or translation errors. For clarification, listen to Episode 16.