FINRA Structured Note Arbitration Highlights Risk of Punitive Damages
10 April 2025
Introduction
When counsel advises market participants of the securities law risks that can arise from offerings of complex products, the focus is typically on the remedies described in the federal securities laws and related FINRA rules. For example, misstatements in an offering document can result in a rescission right on the part of investors or a claim for damages.1 Violation of FINRA's suitability and other rules can result in FINRA assessing penalties.2
A recent decision of a FINRA arbitration panel3 involving a U.S. broker dealer illustrates the powerful impact of an additional potential legal liability – punitive damages.
The case at hand involved some of the typical types of allegations that have resulted in FINRA action in recent years. For example, the award refers to the broker overconcentrating customer accounts in structured notes, violating its fiduciary duty to customers, permitting and encouraging offerings of custom structured notes using text messages in violation of the SEC's recordkeeping requirements (the texts also allegedly contained inaccurate and misleading terminology), and inadequate supervision of the relevant brokers. In addition, here, the claims related not only to the federal securities laws and FINRA's rules, but were also brought under the Florida Securities and Investor Protection Act, as the broker had operations relating to the state of Florida.
Punitive Damages
In its decision, the arbitration panel noted that the broker:
"had actual knowledge of the wrongfulness of the conduct and the high probability that injury or damage to Claimants would result and, despite that knowledge, intentionally pursued that course of conduct, resulting in damage."
This finding brought into play the punitive damages that are provided under Florida Statutes Sections 768.72 and 768.73. Section 768.72(2) permits the imposition of punitive damages where the trier of fact, based on clear and convincing evidence, finds that the defendant was guilty of intentional misconduct or gross negligence. Depending on the circumstances of a particular case, Section 768.73 permits the imposition of punitive damages that are 3x or 4x of the relevant damages, or that may be unlimited in amount.4
In this case, the arbitrators imposed punitive damages at the 3x level. The punitive damages brought additional damages of more than $80 million on the defendants, as the compensatory damages amounted to more than $26.50 million.5
Conclusion
FINRA's arbitration award describes the broker's actions in this case as "egregious." The broker's alleged actions, and the imposition of the relevant provisions of the Florida statute, resulted in damages that far exceeded the investor's out-of-pocket losses. Accordingly, the case serves as a reminder that violations of relevant rules can have consequences that significantly exceed what one might expect from the economics of a particular transaction, and the specific losses incurred.
- See Section 12 of the Securities Act of 1933.
- See for example FINRA Rule 8310.
- The arbitration award is available at the following link: https://www.finra.org/sites/default/files/aao_documents/23-01342.pdf
- The 4x punitive damages may be imposed where the wrongful conduct was motivated solely by unreasonable financial gain and that the unreasonably dangerous nature of the conduct, together with the high likelihood of injury resulting from the conduct, was actually known by the relevant defendant. The unlimited punitive damages may be imposed in cases where the defendant had a specific intent to harm the claimant. (The latter is probably less likely to occur in the context of securities offerings, where the issuer and distributor most likely do not intend to cause a loss.)
- News reports about the case indicate that the broker intends to appeal these significant awards.
