A stockbroker is not permitted to indiscriminately sell any available investment product to any customer he or she chooses, nor may a broker follow a “one-size-fits-all” sales strategy. Such activities are forbidden by what is generally known as the “suitability rule.” The rule dictates that brokers’ recommendations to buy, sell, or hold securities or to follow a particular strategy must be compatible with the customer’s investment profile and must take into consideration the client’s age, investment experience, investment objectives, risk tolerance, time horizon, liquidity, financial situation, and tax status.
The suitability rule provides protection to investors, but it is far from ideal. For instance, it isn’t as strict as the “fiduciary duty” standard that requires registered investment advisers to act in their clients’ best interest. The suitability standard allows stockbrokers to sell any products that fit the client’s need, even if those products are not the best choices available or have high fees and commissions that benefit the broker.
The suitability rule apparently has come to be seen as less effective than FINRA would like. In recent years, FINRA has been attempting to persuade brokers to act in the best interest of their clients, and has particularly been targeting their sales of complex and risky products. These include things like structured notes, alternative mutual funds, and non-traded REITs.
FINRA’s Sanctions Guidelines
Still, the suitability rule remains the standard for the time being. Thus, FINRA has now decided to strengthen the rule’s deterrent effect by making revisions in FINRA’s Sanctions Guidelines. The guideline’s former suggested one-year suspensions for brokers making unsuitable recommendations has been doubled to two years. The guideline also now emphasizes that for fraudulent activity, brokers should be barred and firms should be expelled.
These higher levels of sanctions likely will be reserved for the most egregious cases, such as when the broker has a tainted disciplinary history or causes significant customer harm. Nevertheless, all brokers will have to be more wary when deciding whether it is worth the risk to put personal profit ahead of adherence to the suitability rule.
Hugh Berkson is a Securities Attorney with McCarthy, Lebit, Crystal & Liffman, Co. LPA. Hugh is rated AV® Preeminent™ by Martindale-Hubbell®.
He obtained a business degree in Finance from the University of Texas at Austin in 1989, and is a 1994 graduate of Case Western Reserve University School of Law, where he was a member of the Order of the Barristers and received both the American Jurisprudence Award, (National Mock Trial) in 1993 and the Jonathan M. Ault Mock Trial Prize for 1993-1994.