Vetting a Broker Is Harder Than It Looks

We spoke with Colleen Honigsberg, an assistant professor at Stanford Law School, where she studies corporate and securities law. Here are excerpts from our interview.

Many investors use BrokerCheck.finra.org, a search tool managed by the Financial Industry Regulatory Authority, or Finra, to investigate complaints and disciplinary actions against brokers. Is it true that a lot of these actions have been erased or expunged? If you’re a broker, clearing your infraction record is surprisingly easy. We found that 70% of expungement requests were granted by Finra arbitrators between 2007 and 2016. Finra’s website says expunging records is an “extraordinary remedy,” so I was shocked that the success rate was so high. Sometimes, a recorded infraction is truly an error, but we found that errors accounted for only 5% of granted expungements. In our review, certain arbitrators granted expungements for 100% of infractions, while others never granted one. And there’s no way for investors to find out through BrokerCheck if a broker had a record expunged or had tried and failed to expunge an infraction. That’s important because brokers who were denied expungement had high rates of repeat infractions—almost five times higher than average.

Given what you found, should investors still use BrokerCheck? Yes. There are some types of misconduct, such as criminal or regulatory infractions, that cannot be expunged using the arbitration process. BrokerCheck can also help you determine whether a broker has a pattern of misconduct.

From just $107.88 $24.99 for Kiplinger Personal Finance

Become a smarter, better informed investor. Subscribe from just $107.88 $24.99, plus get up to 4 Special Issues

CLICK FOR FREE ISSUE

Sign up for Kiplinger’s Free Newsletters

Profit and prosper with the best of expert advice on investing, taxes, retirement, personal finance and more - straight to your e-mail.

Profit and prosper with the best of expert advice - straight to your e-mail.

Sign up

What else can investors do to vet the brokers they might hire? It doesn’t hurt to search Google for your broker’s name to see if they’ve made the news. Finra has another search tool (www.finra.org/arbitration-and-mediation/arbitration-awards) that investors can use to look up arbitration awards and theoretically see expungement results. The search function isn’t great, but it’s better than nothing.

Finra has proposed changes that would make it harder for brokers to scrub their records. Would those address the problems you found? Not fully. They might make a dent, but Finra doesn’t have a lot of regulatory power over the expungement process right now. That could change if Congress were to give Finra more authority. Some lawmakers have shown an interest in doing that, but they haven’t introduced legislation to change the status quo.