Financial Loss Recovery Group - Article 4
How does a lawyer analyze a potential claim?
As with any tort claim, the lawyer first establishes what duty of care exists. The law has long moved from distinguishing between tort and contract claims, and even the vaunted "fiduciary duty" no longer carries its former significance. The duty of care in the financial advisor negligence field arises either at common law or in a regulation, deriving from the provincial securities legislation. Case law maintains that breach of a standard set by a regulator can found a claim in tort, provided that there is a causal connection between breach and loss. This brings the lawyer back to basic principles: duty, breach of duty and damages flowing from the breach.
That said, how does the lawyer analyze the claim?
The Initial Interview
The financial advisor's duty is simply to use due diligence to learn the essential facts about the client (those relevant to investment decisions) and to make appropriate recommendations based upon the client's needs and wishes. In occasional cases, a specific regulatory duty may arise (for example, not to front-run, to act on instructions, to account properly). Usually, the inquiry begins with the lawyer "knowing the client", that is, retracing the exact due diligence that the financial advisor ought to have performed at the first interview. What were the financial circumstances (means and needs) at the time of the initial interview with the financial advisor? What investing experience did the investor then have? What were the investor’s actual goals then? What were the goals as expressed to the financial advisor (if the topic arose at all)? From there, the lawyer covers the ground that the advisor actually covered, looking for differences between actual and proper efforts to learn the client’s essential facts.
The Contract
Usually, the financial advisor and the client enter into a form of contract. Did the client know it was a contract? Did the financial advisor fill it in, turn it around and say "sign here" or, worse, mail it to the client either in blank or pre-filled, with a Post-it note to "sign here" with an arrow? Getting past the validity of contract issue, did the contract oblige the financial advisor to act in a certain manner? For example, most discretionary management accounts provide in an Investment Policy Statement (IPS) the manner in which the financial advisor shall act (so much fixed income, so much risk, etc.). Were the choices explained? Did the client understand the nature (both the likelihood and the magnitude) of the risks involved? If the financial advisor agreed to make recommendations, did the client understand that the client (and not the advisor) was in charge of managing the account? Most clients do not understand that they remain the manager and the financial advisor is simply an advisor. This misunderstanding is often reinforced – or created – by the promotional literature of the advisor’s employer, which may use evocative words implying a greater level of service than that actually contracted.
Implementation
The financial advisor has a duty to match the client’s essential facts to appropriate investments. In order to fulfill this duty the financial advisor is responsible to perform due diligence on the investments recommended. The financial advisor cannot contract out of this duty.
The financial advisor also has a duty to warn the client about the risks of the recommended investments, individually, and as a package, within the portfolio. For example, a portfolio that holds 10 securities is very risky if all 10 are gold companies, regardless of how solid those companies’ balance sheets may be. Financial investments are very complex and this duty to warn is a fundamental part of the financial advisor’s duty to clients.
From there the lawyer has to see what the advisor did. Was the money invested all at once, in several chunks, after a prolonged wait? Was it invested in accordance with the wishes and needs of the client? Did it conform to the contract? Did the financial advisor get instructions before each trade (if required by the contract)? Did the financial advisor explain both the positives and the risks of the recommendation? If the client came up with the idea, did the investment conform to the client’s needs and expressed goals? If not, did the financial advisor give appropriate cautionary advice? Did the financial advisor account to the client as required by the regulator and by the contract? Of course, there are many regulators:
• compulsory, such as IIROC, MFDA and the securities commissions of each province,
• voluntary, such as the quasi-professional organizations that maintain the CFA, CFP, CLU and other designations.
Locate the Losses
Usually the losses are identifiable as a common theme, such as a high-risk strategy (e.g. naked or covered call options), over-concentration (too much invested in one sector), allocation (too little fixed income), or individual inappropriate trades (e.g. hedge funds, penny stocks). Each of these issues is made the subject of a specific supervision obligation by industry regulators, IIROC and the MFDA. Once the losses are found and valued, the lawyer tries to connect the dots ... Did the loss stem from a breach of the contract or from a breach of duty? If not, the loss, no matter how severe, is not actionable. If so, the lawyer can then proceed to determine whether to take the case, or to recommend action.
To Proceed or Not to Proceed
Financial advisor litigation is expensive. It requires experts to establish the duty of care, the breach and, possibly, the losses. Whether a particular hedge fund or investment strategy conformed to the needs of the client is very much a matter of value judgments that may be beyond a civil court to determine without expert guidance. Finding and paying an expert are matters of some complexity. Typically, the lawyer has to go it alone - without an expert - until the close of discoveries. Therefore, the lawyer must carry the burden of evaluating the claim until the litigation gets to settlement conference. Remember, the financial advisor has extensive and no-cost access to experts who work in-house for the dealer. The only thing levelling the playing field is the expertise of the lawyer, because the regulators and the brokerage firms certainly do not make the claims process user-friendly.
Lawyer-Client Relations
Remember that the client only consulted the lawyer after being burned by the financial advisor (or at least feeling that way). The client is now very risk-averse and wants the lawyer to give exactly the iron-clad guarantee that the financial advisor did not give. The lawyer should give an opinion, preferably in writing and after careful analysis. Unfortunately for the client, this analysis can cost a large amount and may still result in a negative or uncertain opinion. Even a certain opinion must allow for the uncertainty of the client bearing up on cross-examination, the delivery of unexpected documents, or the perils of a judge who sees it differently - in other words, exactly the perils of all civil trials. As with any litigation, the lawyer’s opinion will always be subject to change as events make the facts increasingly clear (or murky). In the field of financial advisor litigation, at least, the legal principles are pretty well established, but the case law makes extremely clear exactly how important it is to get the facts right.
If the lawyer acts on a contingency fee retainer, how much is fair? If the claim is under $100,000, the $33,000 implicit in a 1/3 contingency arrangement will not see a lawyer compensated unless the case settles early in the lawsuit. The client should understand that there is an exposure to very substantial defence costs should the claim fail - and all this with a client who has already lost enough money to prompt the inquiry into the merits of the claim in the first place.
Conclusion
It is no small wonder that very few lawyers undertake the prosecution of financial advisor negligence claims. The combination of the skills required to evaluate and prosecute the claim, and the financial depth (and willingness) to underwrite the prosecution, all make this area of practice an uninviting one, at best. Yet, the civil litigator will find that the field is rewarding, and similar to other civil areas with which the lawyer is familiar. With a little coaching, guidance and access to experts, the lawyer can get up to speed to do what plaintiffs' counsel do best - level the playing field to redress the wrongs done to their clients.
For assistance with your case, please contact John Hollander or Harold Geller at the Financial Loss Recovery Group of Doucet McBride LLP.
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