FINRA Arbitrators Admit FINRA SEC Regulatory Settlements In UBS Puerto Rico Case

September 4, 2018

In the aftermath of Hurricane Maria, Puerto Rico was devastated. Long before that natural disaster hit the island, a man-made storm of equally epic proportion made landfall and hammered the Commonwealth's economy. Over three years ago, Puerto Rican government officials conceded that the public debt was not repayable and the local economy was headed into a death spiral. As the crisis grew and mushroomed, Wall Street just didn't seem to care. It was an opportunity. There were commissions and fees yet to be made. All of which increased the industry's appetite for even riskier debt, which would get sold in tranches or bundled into mutual funds, and, as such, dumped on an unwary and foolish public. As we still sort through the mess in 2018, yet another lawsuit emanating from that era of unsustainable financing pits four public customers against UBS.

Case In Point

In a Financial Industry Regulatory Authority ("FINRA") Arbitration Statement of Claim filed in September 2015, in connection with their investments in Puerto Rico closed-end funds, public customer Claimants asserted breaches of fiduciary duty, contract; and third-party-beneficiary-contract; negligence; negligent supervision; fraud; violation of the Puerto Rico Uniform Securities Act; and violations of Section 10(b) of the Securities Exchange Act and Rule 10b-5 thereunder. Claimants sought at least $1,000,000.00 compensatory damages; rescission; punitive damages; interest; costs; and attorneys' fees,  In the Matter of the FINRA Arbitration Between Jose E. Diaz-Martinez, Iris N. Burgos-Rodriguez, Jose A. Diaz-Burgos, and Nellie Aponte-Flecha, Claimants, vs. UBS Financial Services, Inc., UBS Financial Services Inc. of Puerto Rico, Respondents (FINRA Arbitration  15-02316, August 29, 2018).

UBS Respondents generally denied the allegations, asserted various affirmative defenses, and sought the expungement of all references to this matter from the Central Registration Depository records ("CRD") of any financial advisors or other UBS personnel identified in the Statement of Claim or otherwise affected by the Statement of Claim.

A Matter of Limits

On or about September 18, 2017, UBS Respondents filed two Motions in Limine to Exclude:

1. Evidence Relating to Claims of Alleged Fund Mismanagement: Respondents asserted that pursuant to FINRA Arbitration Rule 12205, Claimants' derivative claims that are barred and all evidence relating to such claims should be excluded. Claimants argued that their claims were not derivative and that FINRA has a longtime policy supporting a liberal introduction of evidence. The Panel denied the Motion.

SIDE BAR: FINRA Arbitration Rule 12205: Shareholder Derivative Actions

Shareholder derivative actions may not be arbitrated under the Code.

2. Regulatory Settlements: Respondents asserted that regulatory settlements are inadmissible because they contain unadmitted and unadjudicated findings. Further, Respondents argued that the regulatory settlements are not an indication of liability and the admission of such settlements would undermine strong public policy in favor of settlement agreements. Similarly, the Respondents asserted the prejudicial value of such an admission outweighs any possible probative value. Claimants countered that the SEC and FINRA findings of fact focus on the same fraud and other illicit conduct at issue in the arbitration and, seeking to hoist Respondents on their own petard, Claimants also cited FINRA's longstanding policy supporting the liberal introduction of evidence. Claimants argue that  even if the federal rules of evidence did apply to the FINRA arbitration, the SEC and FINRA findings and consent orders are unquestionably admissible. In response to Respondents' apparent citation of case law in their favor, Claimants attempted to dismiss same as inapplicable, outdated, and non-controlling case law that has no precedential value -- further, Respondents' reliance on an SEC administrative law decision is misplaced. The Panel denied the Motion.


The FINRA Arbitration Panel found UBS Respondents are jointly and severally liable, and ordered them to pay to Claimants $300,000.00 in compensatory damages.

Separately, the Panel denied Respondents requested expungement.

Bill Singer's Comment

Yes . . . there is motion practice in FINRA arbitrations and that practice may be robust. Consequently, a party may move to limit the introduction of certain evidence or, more extremely, move to exclude its introduction in its entirety.  When confronted with motion in limine, FINRA arbitration panels do indeed exhibit a liberal -- frankly, a very liberal -- bias in favor of accepting whatever is offered. The most common expression of that liberal policy is in a given Panel's pronouncement that it will accept a piece of evidence or testimony "for what it's worth." That statement often strikes fear in those opposing the admissibility of a document or testimony, and, on the other side of the table, it may elicit huge smiles.  

When a party seeks to introduce likely-to-be-contested documents/testimony, the gamesmanship often involves an expectation that even if the offered evidence/testimony is rejected by the arbitrators, human nature, being what it is, you can't unring a bell, you can't squeeze the toothpaste back into the tube, you can't get the genie back into the bottle, and, well, you pick and choose among the many metaphors. The cynical proponent of such evidence may hope that even in losing the motion to admit, that the triers of fact will have been prejudiced -- the well is poisoned. Arbitrators and jurors are instructed to disregard such taint but sometimes that's just not a realistic expectation. 

In today's featured FINRA arbitration, the UBS Respondents attempted to preclude the introduction of what seems to have been both SEC and FINRA regulatory settlements involving the firm. In state and federal courts, the public policy is to encourage settlements and thereby conserve judicial resources. In an effort to promote compromise authored by parties, the procedural rules of the courts generally prohibit the introduction of efforts to negotiate settlements (failed or successful) and of the terms of settlements themselves. 

SIDE BAR: Federal Rule of Evidence 408: Compromise Offers and Negotiations

(a) Prohibited Uses. Evidence of the following is not admissible -- on behalf of any party -- either to prove or disprove the validity or amount of a disputed claim or to impeach by a prior inconsistent statement or a contradiction:

(1) furnishing, promising, or offering -- or accepting, promising to accept, or offering to accept -- a valuable consideration in compromising or attempting to compromise the claim; and

(2) conduct or a statement made during compromise negotiations about the claim -- except when offered in a criminal case and when the negotiations related to a claim by a public office in the exercise of its regulatory, investigative, or enforcement authority.

(b) Exceptions. The court may admit this evidence for another purpose, such as proving a witness's bias or prejudice, negating a contention of undue delay, or proving an effort to obstruct a criminal investigation or prosecution.

In contrast to extensive rules of evidence promulgated for the state and federal courts, FINRA's arbitration practice is notably lacking in both form and substance on that same topic Notably, FINRA seems to revel in the fact that its arbitrators are "not required to follow state or federal rules of evidence."

SIDE BAR: FINRA Arbitration Rule 12604: Evidence

(a) The panel will decide what evidence to admit. The panel is not required to follow state or federal rules of evidence.

(b) Production of documents in discovery does not create a presumption that the documents are admissible at the hearing. A party may state objections to the introduction of any document as evidence at the hearing to the same extent that any other objection may be raised in arbitration.

All of which brings us back to the dueling arguments about whether evidence of UBS's regulatory settlements should be admitted into evidence by the FINRA Arbitration Panel. In the court system, the likely answer would be "NO;" however, even in the courts judges sometimes find "another purpose" to shoehorn into evidence reference to settlement discussions or the settlement itself. Rare as that end run may be, it happens. Rare or not, the policy in the courts is to not accept such prejudicial exhibits absent a probative reason. 

In recent years, particularly after the Great Recession, we witnessed more jurists citing with disapproval many settlements entered into by criminal prosecutors and Wall Street regulators that opted for the declaration that the settlement was made "without admitting or denying the facts." In a number of high profile cases, respected jurists voiced concern that given the horrific harm caused to the economy by a given financial institution's fraud or criminality, that such misconduct should not be protected behind "inadmissible" settlement agreements, which should have been accompanied by a waiver of inadmissibility or a clear expression of an admission of wrongdoing. 

So, sure . . . yeah, I could see why UBS might want to move to limit the introduction of inflammatory evidence referencing regulatory settlement, particularly if Puerto Rico was involved. And, like duh, I can also see why public customers in FINRA arbitrations might want to do whatever it takes to get such inflammatory information right under the noses of the arbitrators. Unfortunately, the FINRA Arbitration Decision only hints at what the disputed evidence was. Although the FINRA Arbitration Decision does not reference which SEC or FINRA settlement documents were at issue, let's just imagine it was:

In the Matter of UBS Financial Services Incorporated of Puerto Rico, Respondent (Order Instituting Administrative Proceedings, Making Remedial Findings, and Imposing Remedial Sanctions;  '34 Rel. No. 76013; Admin. Proc. File No. 3-16846 / September 29, 2015)

UBS Financial Services Incorporated of Puerto Rico,  Respondent (FINRA AWC #2013039142101 / September 29, 2015)