Is my Financial Advisor Allowed to Trade in my Account Without my Permission?

The short answer is no.

When a customer opens an investment account with a brokerage firm, he or she is typically given the option to choose between a discretionary or non-discretionary account.  A discretionary account gives the assigned broker or financial advisor the latitude, or discretion, to buy or sell securities in the account without the customer’s prior authorization.  In non-discretionary accounts, a broker does not have that discretion and must obtain the customer’s permission prior to each transaction.

For reasons that may seem obvious, discretionary accounts are somewhat of a rarity in the brokerage world, in part because they require much more supervisory oversight than non-discretionary accounts.  Discretionary accounts are naturally prone to a higher risk for abuse or mismanagement of funds, as there is less customer input and oversight of the trading.  Thus it should be no surprise that the securities laws for discretionary accounts are especially geared towards investor protection.

The Financial Industry Regulatory Authority (FINRA) Rule for Discretionary Accounts, Rule 2510 part (b), is clear that customers must agree in writing to accept a discretionary account in the first place:

“No member or registered representative shall exercise any discretionary power in a customer’s account unless such customer has given prior written authorization to a stated individual or individuals and the account has been accepted by the member, as evidenced in writing by the member or the partner, officer or manager, duly designated by the member, in accordance with Rule 3010.”

FINRA Rule 3010 refers to FINRA’s overarching rule on supervision (since superseded by FINRA Rules 3110 and 3170), although part (c) of Rule 2510 sets out its own separate supervisory provision in requiring brokerage firms to monitor and review each transaction within a discretionary account:

“The member or the person duly designated shall approve promptly in writing each discretionary order entered and shall review all discretionary accounts at frequent intervals in order to detect and prevent transactions which are excessive in size or frequency in view of the financial resources and character of the account.”

Given the above, one might think that it is rare for a broker to trade with discretion in a non-discretionary account, but that is not the case.  Brokers often trade in non-discretionary accounts without the required written authorization, and yet it is also true that customers often do not complain or immediately object.  In large part, this is because most customers who walk into an investment firm have no knowledge of what the FINRA rules say.  When customers do make a formal complaint and initiate litigation in FINRA Arbitration, the forum where customer financial disputes are typically litigated, it is usually only because the customer has finally suffered an investment loss from the unauthorized discretionary trading.

A broker’s motivation to trade without a customer’s permission may not always be nefarious, but it is a violation of federal securities law and denies a consumer the right to make an informed investment choice.  Further, many brokerage firms, as part of their litigation strategy to defend unauthorized discretionary trading, will attempt to paint the customer as being selectively opportunistic by pointing out that the customer never complained when the broker made money in the account, yet now complains when he or she has suffered losses.  Another related defense strategy is one of “ratification,” where brokerage firms will argue that the broker obtained the customer’s permission through implied consent, maintaining that the customer implicitly ratified the unauthorized trading by remaining silent and allowing the broker to continue with repeated discretionary trading.

This line of reasoning expects regular retail consumers to know the securities laws as if they were practicing attorneys.   It also reads the securities laws right out of existence.  FINRA Rule 2510 clearly describes the violation of trading with discretion in a non-discretionary account, but it does not end with “. . . unless later ratified by the customer.”  Securities laws are in place to protect the ordinary consumer, and it is important for attorneys representing investors who have suffered investment losses to be prepared to handle these types of ingenuous litigation defenses.