Duty of Brokers to Customers

A duty of care is owed by a stock broker to their customers. This duty demands that the broker put the interests of the customer first and act in such a way as to serve their client’s interests. There are several aspects of a broker’s duty of care as follows:

• A stock broker should only trade when a customer orders it;
• A broker must follow a customer’s order precisely and try to get the best available price;
• The broker must disclose important facts relating to possible investments and trades and should not make any misrepresentations;
• A brokerage firm has a duty to supervise the brokers who work for it. The brokerage firm must ensure that its brokers comply with securities laws;
• A brokerage firm must take the appropriate actions if their broker violates the law.

A stock broker does not have a fiduciary duty to their clients. They are, however, regulated in their professional activities by the federal Securities Exchange Act of 1934 as well as the rules of the Financial Industry Regulatory Authority (FINRA).

What Would be Considered Violations of Securities Laws?

Federal securities laws, state “blue-sky” laws, consumer protection statutes and rules established by FINRA all work to protect customers from the following violations by brokers and brokerage firms:

• Fraud and Misrepresentation: This occurs when a broker either knowingly does not disclose an essential piece of information to a customer, or knowingly lies in relaying important information to a customer. In either case, if the information, or lack of information, has a negative impact on the customer, the customer may have grounds for a lawsuit;
• Negligence and Malpractice: A broker has a duty to manage a customer’s account in the best interest of the customer and in a competent manner. If a broker fails to act in the best interests of their customer, even if it was not intentional, the broker could be liable for negligence based on malpractice. An example of malpractice would be a broker’s failure to properly diversify the customer’s portfolio when the broker had the authority and duty to do so;
• Breach of Contract: This usually relates to the New Customer or New Account Agreements the customer signs when they open an account. When the broker does not follow the instructions of the customer, does not adequately manage the account, or does not operate in good faith, the broker may be in breach of contract;
• Unsuitable Trading: A broker has a duty to know their customer and their customers’ needs in relation to investing. The broker should be aware of the customer’s financial situation, knowledge of investing, investing goals, and tolerance for risk. When a broker makes any investing recommendations to the customer, they must keep these factors in mind.
  • If the broker makes recommendations that clearly would not be appropriate given the customer’s needs, the broker could be liable for damages to the customer. This duty of suitability is based on a FINRA rule. Under the FINRA suitability rule, stockbrokers must ensure that any financial products they sell to investors are truly appropriate for their individual needs.
  • Or, if the broker allows the investor to make his own decision that would not be in the investor’s best interest without informing the investor of the potential negative consequences or the unsuitability of the move, the broker could be liable for damages to the customer;
• Churning: The broker cannot promote excessive trading in securities in order to further their own interest in earning commissions. The broker must keep in mind the character of the customer’s account, and recommend trades to the customer only when and as often as it would be beneficial to the customer;
• Failure to Supervise: A brokerage firm must put in place a protocol that operates to supervise brokers. It should make sure they do not violate any securities laws. A brokerage firm should be able to show that these procedures were reasonably effective in deterring any violations.

Examples of acts on the part of stockbrokers that would breach the duties they owe to their clients and may constitute malpractice include:

• Failing to do due diligence on prospective investments that the broker recommends;
• Recommending investments that turn out to be scams or frauds, if the broker knew the investments were frauds or would have discovered this if they had done their due diligence;
• Failing to adequately diversify a client’s investment portfolio or take other steps to help a client minimize losses from the failure of any one investment;
• Misrepresenting facts about a proposed investment;
• Churning, or conducting excessive trades on a client’s account for the purpose of generating fees earned by the stockbroker.

Unfortunately, it is also true that the law allows stock brokers to do the following things and they are entirely legal:

• Sell financial products that pay the highest commissions to their clients;
• Offer clients products that are proprietary to their firm; and
• Make investment recommendations that involve a conflict of interest without disclosing this to their clients.

So, it is important to remember that stock brokers can engage in practices that would not be allowed if the broker had a true fiduciary duty to their clients. In recent years, federal regulators have tried to impose a fiduciary duty on stockbrokers. This would make it clear that their recommendations would never involve undisclosed conflicts of interest.

Of course, brokers and brokerage firms have fought against this type of regulation and certain elected representatives have worked to keep the status quo in place and have stopped the proposed implementation of a rule that would offer more protection to investors.

If a person believes that their stockbroker has violated rules or their duty of care, they should consult a personal injury lawyer. They may have grounds for a lawsuit for professional negligence against their broker or their broker’s firm or both.

Again, examples of the kind of moves on the part of a broker that might qualify as malpractice would be:

• A high volume of trades in a client’s account, a practice known as “churning”
• Unauthorized trading by the broker
• Investments that are completely inappropriate for the client’s risk profile
• Significant changes in a portfolio’s composition
• Lack of diversification
• Performance that does not match market conditions
• Lack of proper communication.

If a person sees evidence of these practices in their investment account, they will want to consult a lawyer.

In a lawsuit for stockbroker negligence, the goal would be to collect damages that would put the client victim back to the financial position they would have been in had the stockbroker performed their job competently. This may mean reimbursement for a financial loss. Or, it could even be compensation for a missed opportunity for profits.

What Should I Do if My Broker Has Violated Their Duty to Me?

If you feel that your broker has acted incompetently or has violated rules by making trades that did not serve your interests, you may want to consult a criminal lawyer.

Your lawyer can analyze the facts and tell you if your broker has violated their duty of care or the rules of their trade or your contract with him. You may be entitled to money damages for any violations by your broker that resulted in negative financial consequences to you.