In a Nutshell: Ratification in the Securities Context

March 30, 2015 Uncategorized

In the world of securities litigation and arbitration, broker-dealers and their financial advisors often raise the defense of ratification when attempting to defeat a claim by a customer investor that the broker-dealer/financial advisor placed him or her in unsuitable investments, thereby causing losses in his or her account. Let’s say, for example, that a woman, Christine, opens a brokerage account with a broker-dealer firm, Regal Investments (“Regal”), and its financial advisor, Ronald. Christine chooses “growth with income” as her investment objective, but Ronald takes his interpretation of this investment objective to an extreme, and invests Christine in high-yield, preferred shares of companies in the automotive and banking sectors of the market. On top of that, Ronald uses margin in the account to leverage the investments. When a protracted recession hits, and strikes the automotive and banking sectors with particular ferocity, Christine’s nest egg of $1 million gets wiped out over the course of about 18 months. Christine files suit, claiming, among other things, that Regal and Ronald were negligent and breached their fiduciary duty to Christine in placing her in such unsuitable securities, which lead to the decimation of her account. In defense, Regal and Ronald argue that Christine ratified all activity in her account over an extended period. In deciding the case, a court or arbitration panel would likely have to consider the following:

In California, “[r]atification is the voluntary election by a person to adopt in some manner as his own an act which was purportedly done on his behalf by another person, the effect of which . . . is to treat the act as if originally authorized by him. [Citations omitted.] A purported agent’s act may be adopted expressly or it may be adopted by implication based on conduct of the purported principal from which an intention to consent to or adopt the act may be fairly inferred, including conduct which is ‘inconsistent with any reasonable intention on his part, other than that he intended approving and adopting it. [Citations omitted.]’” Rakestraw v. Rodrigues (1972) 8 Cal.3d 67, 73. Generally, the effect of a ratification is that the authority which is given to the purported agent relates back to the time when he performed the act. Ballard v. Nye (1903) 138 Cal. 588, 597; see also, Civ. Code § 2307 (“An agency may be created, and an authority may be conferred, by a precedent authorization or a subsequent ratification” (emphasis added).).

Importantly, in securities cases, when the customer receives confirming documents and does not object she ratifies the trading activtiy. See, e.g., Brophy v. Redivo, 725 F.2d 1218 (9th Cir. 1984); Jaksich v. Thompson McKinnon Securities Inc., 582 F. Supp. 485 (S.D.N.Y. 1984); Altschul v. Paine, Webber, Jackson & Curtis, Inc., 518 F. Supp. 591 (S.D.N.Y. 1981). Likewise, a customer who was aware of the transactions in her account and failed to object timely is estopped to assert that the transactions were unauthorized or excessive. See, e.g., Ocrant v. Dean Witter & Co., 502 F.2d 854, 858-59 (10th Cir. 1979); Landry v. Hemphill, Noyes & Co., 473 F.2d 365, 373-74 (1st Cir.), cert denied, 414 U.S. 1002 (1973).

Here, unless Christine can establish additional facts, such as Ronald having de facto control over her accounts, her claims may suffer due to the strength of Regal and Ronald’s ratification defense. The lesson here is that investor claimants and broker-dealers and financial advisors both must consider whether, even if the activity in the investor claimant’s account was unsuitable, the claimant nevertheless ratified her activity by not protesting at all when she received trade confirmation after trade confirmation, as well as account statement after account statement, over an extended period of time. If you are an investor, you should always review all of your trade confirmations and account statements, and should immediately contact your broker-dealer or financial advisor if you are suspicious of, confused by, or in any way do not approve of the activity in your accounts. If you stand by and do nothing while your account drops in value due to a risky investment strategy gone wrong, you may be out of luck. On the other hand, if you are a broker-dealer or financial advisor, you should always consider the defense of ratification whenever a claimant investor makes allegations that the activity in his or her account was unsuitable and cost him or her losses.

Posted by: Adam C. Nicolai, esq. and Ryan Gustafson, esq., March 27, 2015