Those Burned by ‘Margin Calls’ This Year Are Hoping for Relief
Some investors who have been battling their brokerages over “margin calls” this year may find that they have stronger cases than they expected.
At least, that’s what some plaintiffs’ attorneys say. They argue that investors who were given little or no notice before their loan-financed stock accounts were liquidated in this year’s series of market sell-offs may be able to win in arbitration--if they can prove that the brokerages regularly gave them time to meet margin calls in the past.
The argument is controversial, and even some other plaintiffs’ attorneys scoff at it. They maintain that investors who have filed margin-related arbitration cases have little chance of prevailing if they signed agreements allowing the firms to sell them out at any point.
Nevertheless, even a glimmer of hope may be welcome news to the thousands of people who were pounded with margin calls as the market swooned in April and then again in the last few weeks.
As stocks fell, brokerages issued margin calls to people who had bought shares with borrowed money. A margin call is a demand that an investor put up fresh cash to cover account losses.
In the past, many brokerages gave investors three days to come up with the money. But this year, many firms demanded cash on the spot. If investors couldn’t produce it, the firms sold their securities to pay off the loans.
That produced howls of indignation from investors, a spike in complaints to federal regulators and a big jump in arbitration filings.
Margin-related complaints to the Securities and Exchange Commission shot up beginning in April and numbered 704 through Sept. 30, up from 414 in all of 1999.
There were 200 margin-related arbitration cases filed with the National Assn. of Securities Dealers through Oct. 18, up from 117 all of last year. Brokerage customers generally cannot sue their firms in disputes, but rather must submit to arbitration.
Investors who were hit with immediate margin calls decry what they see as ham-handed treatment by brokerages.
Christopher Spencer, a 31-year-old Burbank man who runs an online antique business, said he was outraged on a Sunday afternoon in April when online brokerage E-Trade said that if he didn’t add money immediately, his account would be liquidated. The brokerage denied his request that it wait until the next morning when his bank opened, Spencer said.
The account once was worth $120,000, but Spencer was left with a bill for almost $13,000, which the firm claimed it was owed for losses incurred in selling the stocks, Spencer said.
“What amounts to all the savings I had are in the toilet,” Spencer said.
An E-Trade spokeswoman said she did not have enough information on Spencer’s case to comment.
To win in arbitration, these investors must prove several points, attorneys say: that their brokers routinely gave them three days for past margin calls; that they had met those calls; and that they had good reason to believe the brokerage would always give them three days.
“If a client has demonstrated previously that he is ready, willing and financially able to meet margin calls, and has been given [three days] to do so in the past, it’s improper to liquidate him without notice,” argues Jacob Zamansky, a New York plaintiffs’ attorney. “An arbitration panel is likely to find that a pattern of conduct was established that the brokerage firm violated.”
There is legal precedent, Zamansky said, pointing to a 1994 federal appellate court case in which an investor was awarded $357,000 after suing a brokerage that liquidated part of his account in the 1987 market crash, even though he had met margin calls in the past.
Zamansky said he has made such “custom-and-practice” arguments in five arbitration cases in the last two years, settling two, with three others active.
Some experts agree that the argument could hold sway with arbitration panels.
“If you got three days [to meet a call] nine months ago and that’s the only basis you have, I don’t think that’s going to [fly], even in arbitration,” said Alan Bromberg, a securities-law professor at Southern Methodist University. “On the other hand, if there’s a more consistent pattern--if you’ve had several recent three-day notices--then I suspect arbitrators could say, ‘There was an informal amendment to the contract.’ ”
Other experts, however, reject that notion. “If the agreement says explicitly [that a brokerage can liquidate without notice], then the chances of prevailing in this kind of custom-and-practice argument really aren’t that strong,” said Henry Hu, a securities law expert at the University of Texas at Austin.
Brokerage attorneys, meanwhile, say the very nature of the prior-practice argument means a plaintiff must be a seasoned investor who should know he or she can be liquidated at any point.
In the end, investors are likely to end up with mixed results before arbitration panels because each case is unique and panels will take differing stances on the custom-and-practice argument, said John Coffee, a Columbia University law professor.
“Sometimes that [argument] may work and get you a partial recovery, and sometimes it may not and you’ll get nothing,” Coffee said.
*
Walter Hamilton can be reached by e-mail at walter.hamilton@latimes.com.
