Robinhood Restricts GameStop, AMC, Other Securities – Do Investors Have Claims?

Can investors bring a claim against Robinhood and other self-directed platforms for the recent purchase restrictions on GameStop, AMC, and other securities? The internet is buzzing with talk of class action lawsuits.  Our office is fielding inquiries.  But – from a claimants’ attorney perspective – there are high hurdles to overcome.

The securities trading platform Robinhood is under fire – again.  In December 2020, the trading platform agreed to a cease-and-desist order from the SEC, based on allegations of misleading customers regarding order execution quality and the hidden higher costs to its users compared to other broker’s prices.  Robinhood agreed to pay a $65 million civil penalty as part of that agreement.

Now, retail investors are slamming Robinhood, TD Ameritrade, and other platforms for restricting purchases of GameStop, AMC, Nokia, Blackberry, and other securities.  A significant portion of the news reporting this week has addressed various brokerage firms’ refusal to accept orders on those securities, and whether there’s any sort of recoverable loss associated with the refusals.  Legislators are posting on Twitter and demanding explanations in support of angry investors, and the SEC is “monitoring” the situation.

There’s a lot going on, and no single answer to the question.

Share values have zoomed upwards over the past few days.  Notably, this isn’t a total restriction on all trading of these shares.  The platforms still allow sales.   Given that the trading price surge is apparently due to retail investors rallying to snub institutional investors (like hedge funds) who have been shorting these companies, and thus profit off of falling stock value, this limited trading restriction appears to benefit the Goliaths over the Davids.   The prohibition of buy orders, and allowance of sell orders, has naturally driven the stock prices down, thereby protecting those who shorted the stocks.

Isn’t this “market manipulation” by the platforms, for the benefit of the institutional Goliaths?

The restrictions have an effect on the market – but whether or not it was unlawful “manipulation” with recoverable damages will likely be played out in the courts.  Here are five hurdles off the bat for retail investors wanting to sue these platforms:

First, the stock exchanges are also restricting trading activity.  For example, the New York Stock Exchange instituted a number of temporary trading halts on GameStop and AMC.  The halt is imposed, orders build, and when trading opens, the execution of the pent-up orders serves to move the stock price to a degree that triggers yet another market-based trading halt.  The NYSE is allowed to impose halts under a number of different regulatory rules.  There’s likely no wrongdoing there.

Second, some of the refusals are coming at the hands not of the brokers, but their clearing firms.  The president of WeBull has gone on record as saying that his clearing firm shut down the trading in those securities.  And to bolster the argument, the user agreement you signed when you opened your account probably had you expressly acknowledge and agree that the platform isn’t liable if a third-party clearing firm is causing the problem.

Third, for Robinhood, the very nature of their structure makes it difficult to fill orders on highly volatile stocks.  Your user agreement probably has language that says the firm will not actually accept traditional market orders.  Rather, every “market” order is really a limit order, to be filled at a price up to 5% higher than the last traded price.  Thus, if the stock price is moving upward quickly, it’s possible if not outright likely that the price will never be within that 5% band, and the order will therefore never fill.

Fourth, if you’re trading on margin, the brokerage firms can and have tightened margin restrictions on highly volatile stocks. Where you might have to maintain a 50% cushion for some securities, the restriction for these securities is now far higher.   It makes sense.  Firms aren’t willing to loan money to buy super volatile securities.  You would be hard-pressed to win a claim that the decision to not extend margin in these circumstances is an unreasonable decision.  By tightening margin requirements, the firms can shut down trading without actually shutting it down.

Fifth, these account contracts generally allow the brokerage firm to use its discretion to decline trades.  A quick look at Robinhood’s user agreement finds language “I understand Robinhood may at any time, in its sole discretion and without prior notice to Me, prohibit or restrict My ability to trade securities.”   Contractual terms may be challenged for various reasons, and the SEC can prohibit regulated firms from certain exculpatory and other types of language.   But broadly speaking – this kind of authorization to refuse trade instructions tends to hold up.

Online brokerage firms are also required to make commercially reasonable decisions and potentially reject trade instructions that don’t line up with an account’s trading objectives.  Meaning, if you have marked a “moderate” risk tolerance for your account, the firm should theoretically reject a trade in AMC or GameStop since those trades under current conditions are beyond speculative.

What are the damages?

Finally – even if there are potential private causes of action for retail investors to sue the platforms for restricting purchases, there may be a high hurdle to cross regarding determining what damages may be recoverable.

Assuming that share prices keep going up, even if the firm should not have rejected your trade instruction, could you recover damages?  The problem there is that the damages calculation is very speculative.  Your complaint is that you couldn’t buy the stock at “X” price.  Unless you have strong documentary evidence that you had the intent and ability to buy “Y” number of shares, your word alone may not be enough to carry your burden of proof.  Equally problematic is the issue of when you would have sold the securities.  It is highly unlikely that a court, jury, or arbitration panel is going to believe that you would have magically sold at the high point before the stock inevitably crashed to the appropriate valuation.  Once again, you’d have to prove the date, price, and amount of shares you otherwise would have sold.

How about an argument, once the share value starts dropping, that the platforms’ trading restrictions caused a market drop?  A drop in share value is a likely effect of the restriction. But does that mean the platform should be responsible for investment losses?  Even assuming it was a violation of law for the platforms to put the purchase restriction in place, and that the restriction was proved to be the cause of losses, damages calculations are still a speculative moving target.  If you can still sell your shares, the defense becomes that you failed to mitigate your losses by not selling when you could.

These problems inherent in calculating damages could be strong arguments to defeat an attempted class action case.

What now?

There are, of course, other harms caused by wild market volatility and trading platform restrictions.  Public confidence in our securities industry erodes when it looks like the rules and regulations meant to protect the Davids out there are doing more harm than good.   However, as should be clear now, securities regulation is incredibly complicated and can’t respond on a dime.

Based on current publicly available information, it is difficult to see a path forwards for recoverable claims by retail investors against self-directed platforms relating to the purchase trading restrictions of these securities.  That situation may change as more information becomes available.  More likely is that we’ll see regulation that addresses these issues and tries to ensure that pricing anomalies like these don’t happen again.

However, if a FINRA-registered broker-dealer recommended and sold you the stock, depending on the circumstances of the sale, your investment objectives and risk tolerance, and other factors, you may have a claim against the broker-dealer for your investment losses.  If you have questions about your investments feel free to call us or use our online inquiry tool.  We’ll be happy to speak with you and and see if we can offer assistance.

Darlene Pasieczny, AttorneyDarlene Pasieczny is a fiduciary and securities litigator at Samuels Yoelin Kantor LLP.  She represents clients in Oregon and Washington with matters regarding trust and estate disputes, financial elder abuse cases, securities litigation, and appellate cases.  She also represents investors nationwide in FINRA arbitration to recover losses caused unlawful broker conduct.  Her article, New Tools Help Financial Professionals Prevent Elder Abuse, was featured in the January 2019, Oregon State Bar Elder Law Newsletter.

 

Does My Investment Advisor Have Insurance?

Did you know – most stockbrokers and registered investment advisors (RIAs) are not required by law to carry errors and omissions insurance?

Beginning July 31, 2018, with an amendment to the Oregon Securities Law, Oregon became only state in the nation to require certain state-regulated financial professionals to carry errors and omissions insurance. These financial professionals must now carry at least $1 million in errors and omissions insurance in order to qualify for licensing in Oregon.

 

ORS 59.175 now provides:
. . .
(5)(a) Except as otherwise provided in paragraph (b) or (c) of this subsection, every applicant for a license or renewal of a license as a broker-dealer or state investment adviser shall file with the director proof that the applicant maintains an errors and omissions insurance policy in an amount of at least $1 million from an insurer authorized to transact insurance in this state or from any other insurer approved by the director according to standards established by rule.
(b) A licensed broker-dealer subject to section 15 of the Securities Exchange Act of 1934, as amended, is not required to comply with paragraph (a) of this subsection.
(c) A licensed state investment adviser who has its principal place of business in a state other than this state is exempt from the requirements of paragraph (a) of this subsection.

Why is this important?

Investors are rightfully confused about what protections they have when they sign over their life savings or transfer a retirement account to the care of a financial professional.  One might assume the advisor is insured, just like many attorneys, doctors, and other professionals are insured.

There is no current federal requirement for FINRA-registered brokers or SEC-registered investment advisors to carry basic errors and omissions (“E&O”) insurance. E&O insurance is a form of liability insurance for professionals who provide advice or other services. Some call it “professional liability insurance.”

You may have seen reference to “SIPC” on a sign in your advisor’s office, or on account statements from a firm. The Securities Investor Protection Corp. (SIPC) insures cash and securities in a brokerage account up to a certain amount of losses incurred because of the bankruptcy of a broker-dealer. SIPC does not cover losses caused by faulty or negligent conduct by the broker or brokerage firm.

Wait a minute – A financial advisor may handle millions and millions of dollars of investor money, but not carry insurance for professional misconduct?  Yes.

Investors may win a substantial recovery of losses that were caused by their financial professional’s misconduct, either through a FINRA arbitration award or court judgment. However, many awards and judgments go unpaid. A smaller firm may simply close shop rather than pay. Or a culpable advisor might leave his or her firm and start working for a business or investment vehicle that is not licensed by FINRA or the SEC. If there was applicable insurance that covered the investor claims, the insurance policy would pay the investor at least part if not all of the award or judgment.  Large firms that have significant net capital, or firms that otherwise responsibly carry insurance as a matter of choice, already provide reassurance that they can make good on a successful customer claim.

Generally speaking, E&O insurance should cover mistakes, errors, negligent conduct, and breaches of fiduciary duties by a professional relating to the professional service that result in harm to the client.  In the case of financial professionals, that usually takes the form of recoverable financial losses caused by unlawful conduct.  For example, losses caused by a broker (or RIA or someone dual-licensed as a broker/RIA) failing to follow client instructions, making recommendations to purchase investments that are “unsuitable” for that particular investor, or acting in a way that violates a fiduciary duty to the investor.

The good news for Oregon investors is that there are now at least some new protections at the state level, relating to certain financial professionals.  If you invest with a financial professional and want to know if they have E&O insurance – ask!  Responsible advisors and firms should be able to provide a clear explanation as to what protections their customers have in case of a customer claim to recover investment losses.

Darlene Pasieczny

Darlene Pasieczny’s practice at Samuels Yoelin Kantor LLP focuses on all stages of corporate and securities law issues, securities litigation and FINRA arbitration, fiduciary litigation in trust and estate disputes, elder financial abuse, and complex civil litigation. Darlene’s practice includes representing investors nationwide in investment disputes through FINRA arbitration.

Pasieczny Moderates PIABA Panel on Cryptocurrency Investment Regulation

Current cryptocurrency regulation and cryptocurrency investment regulation can be summed up in one phrase:  Regulation by Enforcement.

I moderated a great panel presentation this weekend on Cryptocurrency Investments, Supervision and Securities Regulation at PIABA’s mid-year CLE event in Los Angeles on May 5, 2018.  We discussed the current state of regulation as well as the nuts-and-bolts of blockchain technology: everything from Bitcoin, the basics of utility tokens, security keys, and even ranging into CryptoKitties.  Our audience included securities attorneys, law professors, and representatives from the Financial Industry Regulatory Authority (FINRA).  I was joined by Professor Benjamin Edwards (William S. Boyd School of Law, University of Las Vegas, Nevada), securities attorney and former SEC Enforcement officer Celiza Braganca (Braganca Law LLC), and industry expert Louis Straney (Arbitration Insight LLC).

Most securities professionals that I’ve talked with consider cryptocurrency investments the Wild West in terms of regulation and safeguards (minimal to none) for the investing public.   The North American Securities Administrators Association (NASAA), the association of state securities regulators, would agree.

Accumulating SEC enforcement actions and reports like the “DAO Report,” Release No. 81207 (June 25, 2017), are the current guides that issuers and industry participants have for what to do, or not do, so that an Initial Coin Offering (ICO) or Initial Token Offering (ITO) complies with existing federal and state securities laws. This kind of “regulation by enforcement” leaves industry participants guessing at what they can do as the technology changes.   And, the SEC and state securities regulators are by no means the only regulatory bodies overlapping with enforcement.  The Internal Revenue Service, FinCen, the CFTC, criminal law, and private class actions are all taking their pound of flesh from industry participants.   FINRA’s 2018 Regulatory and Examination Priorities Letter notes that the SRO will be keeping an eye on developments with ICOs and the supervisory and compliance mechanisms that brokerage firms have put in place for compliance with securities laws and FINRA rules.

But, since December, 2017, the US Commodity Futures Trading Commission (CFTC) has allowed cryptocurrency futures contract trading on the Chicago Mercantile Exchange.  Goldman Sachs recently announced that it will open a Bitcoin trading desk, and now the New York Times reports that the parent company of the New York Stock Exchange, Intercontinental Exchange, has been working on an online trading platform for large investors to buy and hold Bitcoin.   The confidence of these institutions may lead the market in another round of soaring blockchain hype and eager investors buying in … to what?

Warren Buffet made his feelings about clear when he called Bitcoin “probably rat poison squared” in an interview with CNBC over the weekend.

If a FINRA-licensed broker or SEC-licensed registered financial advisor makes recommendations for a customer to buy cryptocurrency investments, it could be a big red flag for a compliance department.  SEC Chairman Jay Clayton has basically said that he thinks all cryptocurrency-related investments are securities.  But the SEC hasn’t issued specific cryptocurrency regulations, and it seems to be relying on shutting down unregistered ICOs and ITOs to create a regulatory roadmap.  Do those offerings sound like Initial Public Offerings (IPOs)?  You are correct, that’s on purpose.  But, importantly, unlike an IPO, you get no ownership interest when buying into an ICO or ITO. There’s no there, there. Unfortunately for investors duped into participating in a fraudulent cryptocurrency offering or hacked offering, the likelihood is that your money is halfway around the world and difficult to recover from the issuer.

I suspect the future of cryptocurrency regulation will include increased claims for participant liability under state securities laws that offer broader investor protections than those provided by federal law.  Attorneys and accountants assisting issuers in these fraudulent offering should be held accountable under appropriate circumstances.  I bring participant liability claims under state blue sky laws to recover investment losses for individuals and groups of individuals.  And, if financial advisors are actively making purchase recommendations to clients otherwise unwilling to take on high risk, speculative investments, there could be viable FINRA arbitration claims against the brokerage firms that allow their brokers to make irresponsible, unsuitable recommendations.

If you have concerns about how your money is being handled by your financial professional, or concerns that you or a loved one might be the victim of financial exploitation, call me at 1-800-647-8130.  Consultations are free, and confidential.

Darlene Pasieczny’s practice at Samuels Yoelin Kantor LLP focuses on all stages of corporate and securities law issues, securities litigation and FINRA arbitration, fiduciary litigation in trust and estate disputes, and complex civil litigation. Darlene’s practice includes representing investors nationwide in investment disputes through FINRA arbitration.