A Brokers Contractual Obligations
Clearly, in a managed account a broker enters into a contractual arrangement with an investor to “handle” or “manage” their money. The agreement spells out the broker or manager’s obligations, and a breach of any of those obligations can lead to a claim by the investor for breach of contract.
But what about the non-discretionary account? Does the broker still have contractual obligations, and can the breach of any of those obligations result in liability on the part of the broker to the consumer?
Most account opening agreements contain two important parts which few investors notice or ever have explained to them. The first is the agreement to arbitrate. By opening the account, the customer agrees not to sue the broker in court and to arbitrate any disputes that may arrive.
Most account opening agreements also contain a clause that the transactions in the account will comply with Self-Regulatory Organization (SRO) rules, meaning primarily the rules of the Financial Industry Regulatory Authority (FINRA).
Courts have held that a violation of the SRO rules do not give the customer a cause of action for breach of contract. However, there is a long line of case law supporting the assertion that a brokers AGREEMENT to follow SRO rules does establish a contractual obligation to the customer, and that any breach of that obligation leads to a viable cause of action on the part of the customer.
A broker, in entering into the account agreement with the customer, undertakes express and implied contractual duties. A claimant must show that the broker failed to deliver the services it promised. Numerous SRO rules can be cited in establishing breach of contract claims including, but not limited to those that require the following:
A. High standards of commercial honor and just and fair dealing
B. Proper supervision
C. Suitability of specific transactions
D. Knowledge of the customers stated investment objectives
E. Good and ethical business practices/Good faith and fair dealing
With regard to the breach of the duty of good faith and fair dealing owed by a broker, (d) to the Restatement (2nd) of Contracts, section 205 states:
d. Good Faith Performance. Subterfuges and evasions violate the obligation of good faith in performance even though the actor believes his conduct to be justified. But, the obligation goes further; bad faith may be covert or may consist of inaction and fair dealing may require more than honesty. A complete catalogue of types of bad faith is impossible, but the following types are among those that have been recognized in judicial decisions: evasion of the spirit of the bargain, lack of diligence and slacking off, willful rendering of imperfect performance, abuse of a power to specify terms and the interference with or failure to cooperate in the other parties performance.
A claimant will normally assert that the broker, in breach of its contractual duties, failed to meet a standard of good faith and fair dealing. Claimants’ causes of action also normally include negligence, violation of state and federal securities laws, failure to supervise and others. Virtually all claims should also clearly assert a breach of contract cause of action.
To learn more about Dale Ledbetter, visit his website at www.dlsecuritieslaw.com.
Other posts from Dale Ledbetter
