[Federal Register Volume 78, Number 185 (Tuesday, September 24, 2013)]
[Notices]
[Pages 58580-58583]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2013-23127]


-----------------------------------------------------------------------

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-70442; File No. SR-FINRA-2013-023]


Self-Regulatory Organizations; Financial Industry Regulatory 
Authority, Inc.; Order Approving Proposed Rule Change Relating to 
Amendments to the Code of Arbitration Procedure for Customer Disputes 
Concerning Panel Composition

September 18, 2013.

I. Introduction

    On February 1, 2013, the Financial Industry Regulatory Authority, 
Inc. (``FINRA'') filed with the Securities and Exchange Commission 
(``Commission''), pursuant to Section 19(b)(1) of the Securities 
Exchange Act of 1934 (``Exchange Act'') \1\ and Rule 19b-4 
thereunder,\2\ a proposed rule change amending the Code of Arbitration 
Procedure for Customer Disputes (``Customer Code'') to simplify 
arbitration panel selection in cases with three arbitrators. Under the 
proposed rule change, FINRA would no longer require a customer to elect 
one of the two existing panel-selection methods. Instead, parties in 
all customer cases with three arbitrators would use the same selection 
method. Specifically, FINRA would provide all parties with lists of ten 
chair-qualified public arbitrators, ten public arbitrators, and ten 
non-public arbitrators. FINRA would permit the parties to strike four 
arbitrators on the chair-qualified public list and four arbitrators on 
the public list. However, any party could select an all-public 
arbitration panel by striking all of the arbitrators on the non-public 
list.
---------------------------------------------------------------------------

    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
---------------------------------------------------------------------------

    The proposed rule change was published for comment in the Federal 
Register on June 20, 2013.\3\ The Commission received fifteen comment 
letters on the proposed rule change,\4\ and, on August 7, 2013, 
received FINRA's response to the comments.\5\ The text of the proposed 
rule change is available on FINRA's Web site at http://www.finra.org, 
at the principal office of FINRA, on the Commission's Web site at 
http://www.sec.gov, and at the Commission's Public Reference Room.
---------------------------------------------------------------------------

    \3\ See Exchange Act Release No. 69762 (June 13, 2013), 78 FR 
37267 (June 20, 2013), (``Notice'').
    \4\ See Letters from Philip M. Aidikoff, Partner, Aidikoff, Uhl 
and Bakhtiari, dated July 10, 2013 (``Aidikoff Letter''); Ryan K. 
Bakhtiari, Aidikoff, Uhl and Bakhtiari, dated July 10, 2013 
(``Bakhtiari Letter''); David T. Bellaire, Esq., Executive Vice 
President and General Counsel, Financial Services Institute, dated 
July 11, 2013 (``FSI Letter''); Steve A. Buchwalter, Attorney, dated 
July 10, 2013 (``Buchwalter Letter''); Steven B. Caruso, Esquire, 
Maddox Hargett Caruso, P.C., dated June 18, 2013 (``Caruso 
Letter''); George Friedman, Esq., dated June 25, 2013 (``Friedman 
Letter''); Glenn S. Gitomer, McCausland Keen & Buckman, dated July 
11, 2013 (``Gitomer Letter''); Jill I. Gross, Investor Rights 
Clinic, Pace University School of Law, dated July 11, 2013 (``Pace 
Law Letter''); Scott C. Ilgenfritz, President, Public Investors 
Arbitration Bar Association, dated July 11, 2013 (``PIABA Letter''); 
Christine Lazaro, Esq., Acting Director, and Pamela M. Albanese, 
Legal Intern, St. John's University School of Law Securities 
Arbitration Clinic, dated July 9, 2013 (``St. John's Law Letter''); 
Seth E. Lipner, Professor of Law, Zicklin School of Business and 
Deutsch & Lipner, dated July 2, 2013 (``Lipner Letter''); David P. 
Neuman, Stoltmann Law Offices, dated July 2, 2013 (``Neuman 
Letter''); Mark E. Sanders, Attorney, dated July 11, 2013 (``Sanders 
Letter''); Debra G. Speyer, Esq., Law Offices of Debra G. Speyer, 
dated July 10, 2013 (``Speyer Letter''); and Leonard Steiner, 
Attorney, dated July 10, 2013 (``Steiner Letter'').
    \5\ Letter from Margo A. Hassan, Assistant Chief Counsel, FINRA 
Dispute Resolution, to Elizabeth M. Murphy, Secretary, Commission, 
dated August 7, 2013 (``FINRA Letter'').
    Although the Speyer Letter was dated July 10, 2013, it was 
submitted on September 13, 2013. Since it supports the proposal, we 
have not asked FINRA for an additional response.
---------------------------------------------------------------------------

    This order approves the proposed rule change.

II. Description of the Proposed Rule Change

A. Current Panel Composition Methods at the Forum

    Under the Customer Code, parties in arbitration participate in 
selecting the arbitrators who serve on their cases. Until January 31, 
2011, the Customer

[[Page 58581]]

Code contained one panel composition method for cases with three 
arbitrators (generally cases with claims of more than $100,000).\6\ 
This method provided for a panel composed of one chair-qualified public 
arbitrator, one public arbitrator, and one non-public arbitrator (the 
``Majority Public Panel Option''). To begin the selection process, 
FINRA used its computerized Neutral List Selection System (``NLSS'') to 
generate random lists of ten arbitrators in each of the three 
categories. The parties selected their panel through a process of 
striking and ranking the arbitrators on the lists generated by NLSS. 
The Customer Code permitted the parties to strike the names of up to 
four arbitrators from each list. The parties then ranked the 
arbitrators remaining on the lists in order of preference. FINRA 
appointed the panel from among the names remaining on the lists that 
the parties returned.\7\
---------------------------------------------------------------------------

    \6\ See FINRA Rule 12401 which provides that if the amount of a 
claim is more than $100,000, exclusive of interest and expenses, or 
is unspecified, or if the claim does not request money damages, the 
panel will consist of three arbitrators, unless the parties agree in 
writing to one arbitrator.
    \7\ Under the Majority Public Panel Option, a customer can 
ensure the participation of a non-public arbitrator.
---------------------------------------------------------------------------

    FINRA states that customer advocates argued that the mandatory 
inclusion of a non-public arbitrator in a three-arbitrator case raised 
a perception that FINRA Dispute Resolution's forum was not fair to 
customers. In order to address this perception, FINRA amended the panel 
composition rule (old FINRA Rule 12402), and related rules, of the 
Customer Code to, among other things, implement a new panel composition 
rule (current FINRA Rule 12403) for customer cases with three 
arbitrators.\8\ Under FINRA Rule 12403, customers may choose between 
two panel composition methods: (1) The Majority Public Panel Option and 
(2) the all public panel option (the ``All Public Panel Option''), 
which allows any party to select an arbitration panel consisting of 
three public arbitrators.
---------------------------------------------------------------------------

    \8\ See Exchange Act Rel. No. 63799 (Jan. 31, 2011), 76 FR 6500 
(Feb. 4, 2011) (``2011 Order'') and Regulatory Notice 11-05 (Feb. 
2011).
---------------------------------------------------------------------------

    If a customer choses the All Public Panel Option, FINRA sends the 
parties the same three lists of randomly generated arbitrators that 
they would have received under the Majority Public Panel Option (i.e., 
ten chair-qualified public arbitrators, ten public arbitrators, and ten 
non-public arbitrators). However, Rule 12403 allows either or both 
parties to strike any or all of the arbitrators on the non-public 
arbitrator list. FINRA will not appoint a non-public arbitrator if 
either party individually or both parties collectively strike all the 
arbitrators appearing on the non-public list or if all remaining 
arbitrators on the non-public list are unable or unwilling to serve for 
any reason. In these situations, FINRA will select the next highest-
ranked public arbitrator to complete the panel. In other words, if a 
customer chooses the All Public Panel Option, any party can ensure that 
the panel will have three public arbitrators by striking all the 
arbitrators on the non-public list.
    FINRA Rule 12403 provides that a customer may choose a panel 
composition method in the statement of claim (or accompanying 
documentation) or at any time up to 35 days from service of the 
statement of claim. To make the customer aware of his or her available 
options, FINRA states that it generally notifies the customer in 
writing that he or she may elect the All Public Panel Option within 35 
days from service of the statement of claim. In the absence of an 
affirmative choice by the customer, the Majority Public Panel Option is 
the default composition method.

B. Proposal to Use One Panel Composition Method at the Forum

    Based on its experience with the two panel composition methods, 
FINRA is proposing to amend Rule 12403 to use one panel composition 
method in all customer cases.\9\ That method would mirror the All 
Public Panel Option, with one clarifying change relating to striking 
and ranking arbitrators. Currently, Rule 12403(d)(3)(B)(i) provides 
that ``[e]ach separately represented party may strike up to four of the 
arbitrators from the chairperson and public arbitrator lists for any 
reason by crossing through the names of the arbitrators.'' FINRA is 
proposing to clarify that provision by amending it to state that 
``[e]ach separately represented party may strike up to four of the 
arbitrators from the chairperson list and up to four of the arbitrators 
from the public arbitrator list for any reason by crossing through the 
names of the arbitrators.''
---------------------------------------------------------------------------

    \9\ In the Notice, FINRA represented that from February 1, 2011 
(the date the current panel composition rule went into effect) 
through March 31, 2013, customers in approximately three-quarters of 
eligible cases have chosen the All Public Panel Option. Of the 
customers using the Majority Public Panel Option, 77 percent have 
done so by default rather than by making an affirmative choice 
(i.e., these customers did not make an election in their statement 
of claim or accompanying documentation, and did not respond to the 
follow-up letter FINRA sent). FINRA also represented that over the 
same time period customers selecting the All Public Panel Option 
have chosen to strike all of the non-public arbitrators in 66 
percent of the cases during the ranking process. Customers have 
ranked one or more non-public arbitrators in 34 percent of cases and 
four or more in 13 percent of cases proceeding under the All Public 
Panel Option. Industry parties have ranked one or more non-public 
arbitrators in 97 percent of cases and have ranked four or more non-
public arbitrators in 90 percent of cases.
---------------------------------------------------------------------------

III. Discussion of Comment Letters and FINRA's Response

    As noted above, the Commission received fifteen comment letters on 
the proposed rule change. Thirteen comment letters expressed support 
for the proposal, although two of these thirteen also raised specific 
concerns.\10\ Two commenters opposed the proposal in part.\11\ The 
comment letters and FINRA's response are summarized below.
---------------------------------------------------------------------------

    \10\ See FSI Letter and PIABA Letter.
    \11\ See Friedman Letter and Pace Law Letter.
---------------------------------------------------------------------------

    Eleven commenters expressed support for the proposal.\12\ In 
particular, one commenter expressed wholehearted support for the 
proposal.\13\ Other commenters noted their support for making the All 
Public Panel Option the default option. For example, several commenters 
stated that making this method the default would relieve customers of 
the burden associated with affirmatively selecting an all public panel; 
\14\ while others stated that making this method the default would 
protect investors with arbitration claims.\15\ Other commenters 
expressly noted their support for implementing a single method of panel 
selection. For example, one commenter stated that implementing a single 
panel-selection method would benefit public investors and the integrity 
of the arbitration forum.\16\ Another commenter stated that a single 
method would benefit public investors, particularly pro se 
claimants.\17\
---------------------------------------------------------------------------

    \12\ See Aidikoff Letter, Bakhtiari Letter, Buchwalter Letter, 
Caruso Letter, Gitomer Letter, Lipner Letter, Neuman Letter, Sanders 
Letter, Speyer Letter, St. John's Law Letter, and Steiner Letter.
    \13\ See Buchwalter Letter.
    \14\ See Gitomore Letter, Lipner Letter, Neuman Letter, Speyer 
Letter, St. John's Law Letter, and Steiner Letter. See also Pace Law 
Letter.
    \15\ See Bakhtiari Letter and Sanders Letter.
    \16\ See Caruso Letter.
    \17\ See Aidikoff Letter.
---------------------------------------------------------------------------

    One commenter generally supported the proposed rule change, but 
expressed concern that, if it was approved, FINRA would stop tracking 
the disparity in results between all public panels and those that 
include non-public arbitrators.\18\ This commenter also suggested that 
FINRA amend the definition of ``public arbitrator'' to exclude 
attorneys who spend a

[[Page 58582]]

significant portion of their time representing investors and claimants 
in FINRA arbitrations. This commenter's suggestion would effectively 
prevent those attorneys from serving as ``public arbitrators'' on 
arbitration panels.\19\
---------------------------------------------------------------------------

    \18\ See FSI Letter (stating that ``all public panels deliver 
more favorable outcomes for investors than those panels with non-
public arbitrators that understand the financial industry.'').
    \19\ Id.
---------------------------------------------------------------------------

    FINRA responded that it will continue tracking award results 
separately for all public panels and majority public panels and will 
consider the cause for any disparity if the data suggest the need to do 
so. FINRA also stated that it is not proposing to amend its arbitrator 
definitions, and therefore believes that the commenter's suggestion is 
outside the scope of the proposed rule change. FINRA noted, however, 
that it is separately reviewing its non-public and public arbitrator 
definitions for potential changes, including whether to exclude 
attorneys who spend a significant portion of their time representing 
investors and claimants in FINRA arbitrations.
    Another commenter also generally supported the proposed rule 
change.\20\ This commenter also suggested that FINRA emphasize in its 
transmittal letter accompanying the arbitrator ranking form and the 
arbitrator disclosure reports that each party has the ability and right 
to have the case heard by an arbitration panel comprised of only public 
arbitrators. This commenter expressed the view that emphasizing the two 
alternative types of panels available under the revised rule and the 
ability and right of the parties to have their cases heard by an all-
public panel would be appropriate and beneficial to investors.\21\
---------------------------------------------------------------------------

    \20\ See PIABA Letter.
    \21\ Id.
---------------------------------------------------------------------------

    FINRA responded that it will revise the transmittal letter 
accompanying the arbitrator ranking form and the arbitrator disclosure 
reports to clarify earlier in the letter that any party has the option 
of selecting an all public panel.
    Two commenters opposed the proposal, in part, because it would 
eliminate a customer's ability to ensure that a non-public arbitrator 
is empaneled.\22\ Both commenters suggested that there may be 
circumstances in which a customer may want a non-public arbitrator on 
his or her panel. For example, one commenter noted that a customer may 
believe that a non-public arbitrator would be a better arbiter of the 
professional norms of the broker-dealer activity at issue in an 
arbitration.\23\ Both commenters stated, however, that under the 
proposal a broker-dealer counterparty could frustrate a customer's 
objective by striking all ten names on the non-public arbitrators list. 
Alternatively, these commenters recommended (1) that FINRA retain the 
two current panel composition methods and (2) if the customer does not 
affirmatively opt out of the All Public Panel Option within 35 days, 
the default would be the All Public Panel Option instead of the current 
Majority Public Panel Option. The commenters expressed the belief that 
this method would preserve a customer's right to ensure the presence of 
a non-public arbitrator on his or her panel while addressing FINRA's 
concern about inexperienced parties inadvertently failing to exercise 
their right to elect the All Public Panel Option.\24\
---------------------------------------------------------------------------

    \22\ See Friedman Letter and Pace Law Letter.
    \23\ See Pace Law Letter.
    \24\ Id.
---------------------------------------------------------------------------

    FINRA acknowledged the commenters' concern that parties would no 
longer be guaranteed the option of having a non-public arbitrator on 
their panel.\25\ FINRA noted, however, that forum users have not 
generally raised this concern with FINRA. In addition, FINRA stated 
that if either party or both parties strike all the names on the non-
public arbitrators list, or if the non-public arbitrator they select is 
not available to serve, the parties can still agree to empanel a non-
public arbitrator. In this situation, the parties could ask FINRA to 
send a supplemental list of non-public arbitrators for the parties' 
review. FINRA indicated that it would generally accommodate such 
requests.
---------------------------------------------------------------------------

    \25\ See FINRA Letter. As stated above, under the All Public 
Panel Option, any party can ensure that the panel will have three 
public arbitrators by striking all the arbitrators on the non-public 
list.
---------------------------------------------------------------------------

    FINRA agreed with commenters that the non-public arbitrators on its 
roster are capable of identifying and judging poor broker conduct.\26\ 
However, FINRA stated that the public arbitrators on its roster are 
also capable of doing so. FINRA explained that both customer and firm 
representatives frequently use expert witnesses at a hearing. 
Accordingly, in FINRA's view, if a customer is concerned about whether 
an all public panel can properly identify poor broker conduct, he or 
she will generally already have access to an expert witness to testify 
about industry practices. FINRA stated that customers will rarely have 
to incur additional expenses related to the use of expert witnesses 
because of the proposed rule change. FINRA further indicated that the 
benefits of simplifying the panel selection method outweigh this 
potential for additional costs.
---------------------------------------------------------------------------

    \26\ See Friedman Letter and Pace Law Letter.
---------------------------------------------------------------------------

    In sum, FINRA stated that based on its experience using the two 
panel selection methods, it believes that a simpler approach to panel 
selection would benefit all parties using its forum and would improve 
the efficiency of case administration. Therefore, FINRA declined to 
amend its proposal as suggested by the commenters.

IV. Discussion and Commission's Findings

    The Commission has carefully reviewed the proposed rule change, the 
comments received, and FINRA's response. Based on its review, the 
Commission finds that the proposed rule change is consistent with the 
requirements of the Exchange Act and the rules and regulations 
thereunder applicable to a national securities association.\27\ In 
particular, the Commission finds that the proposed rule change is 
consistent with the provisions of Exchange Act Section 15A(b)(6),\28\ 
which requires, among other things, that FINRA rules must be designed 
to prevent fraudulent and manipulative acts and practices, to promote 
just and equitable principles of trade, and, in general, to protect 
investors and the public interest.
---------------------------------------------------------------------------

    \27\ In approving the proposed rule change, the Commission has 
considered the impact on efficiency, competition, and capital 
formation. See 15 U.S.C. 78c(f).
    \28\ 15 U.S.C. 78o-3(b)(6).
---------------------------------------------------------------------------

    More specifically, the Commission believes that the proposal is 
consistent with the provisions of Exchange Act Section 15A(b)(6) 
because it would (a) simplify the arbitrator selection process for all 
parties and FINRA staff while leaving in place the method used by 
customers in approximately three-quarters of customer cases since the 
method became effective; and (b) ensure that customers would not 
inadvertently miss the opportunity to select an all public panel 
because it would be the default option. In the 2011 Order, we noted 
commenter concerns that customers without attorneys, or attorneys new 
to the practice of securities arbitration, might not elect the All 
Public Panel Option within the prescribed deadline, or might not 
appreciate the significance of making such an election.\29\ In light of 
those comments, FINRA implemented the notification procedure discussed 
earlier. As stated above, the proposed rule change would further 
ameliorate these concerns by making the All Public Panel Option the 
default option.
---------------------------------------------------------------------------

    \29\ Supra note 8.

---------------------------------------------------------------------------

[[Page 58583]]

    In addition, the Commission believes that the proposed rule change 
would not increase, and could decrease, the burden parties incur in 
panel selection. FINRA would continue to send the parties the same 
three lists of arbitrators. While the parties could choose to continue 
to review all three lists, they could also choose to strike all of the 
non-public arbitrators and only review the remaining two lists.
    We appreciate the concerns of some commenters, and recognize that 
some customers may want to empanel a non-public arbitrator in a 
particular matter. Therefore, we are requesting FINRA to gather 
statistics for a period of one year from the effective date of this 
rule change and report to the Commission on the number of cases in 
which a customer ranking a non-public arbitrator nonetheless receives 
an all public panel.
    For the reasons stated above, the Commission finds that the rule 
change is consistent with the Exchange Act and the rules and 
regulations thereunder.

V. Conclusion

    It is therefore ordered, pursuant to Exchange Act Section 
19(b)(2),\30\ that the proposed rule change (SR-FINRA-2013-023) be, and 
it hereby is, approved.
---------------------------------------------------------------------------

    \30\ 15 U.S.C. 78s(b)(2).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\31\
---------------------------------------------------------------------------

    \31\ 17 CFR 200.30-3(a)(12).
---------------------------------------------------------------------------

Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2013-23127 Filed 9-23-13; 8:45 am]
BILLING CODE 8011-01-P