Punitive Damages in Securities Arbitration
| Publication year | 1991 |
| Pages | 2041 |
| Citation | Vol. 10 No. 1991 Pg. 2041 |
1991, October, Pg. 2041. Punitive Damages in Securities Arbitration
As a result of three recent decisions by the U.S. Supreme Court,(fn1) there has been a dramatic increase in the number and complexity of securities disputes resolved through arbitration. Claims involving the Securities Act of 1933, the Securities Exchange Act of 1934 and the Racketeer Influenced Corrupt Organization Act ("RICO") are subject to arbitration before forums sponsored by the Self-Regulatory Organizations ("SROs")(fn2) and the American Arbitration Association ("AAA"). Many securities arbitration proceedings also include common law claims for relief--- such as fraud, negligent misrepresentation and breach of fiduciary duty---on which punitive damages may be awarded by judges and juries. Arbitrators are awarding punitive damages with increasing frequency.
This article discusses the issue of whether arbitrators have the authority to award punitive damages. This issue is much debated and has created conflicts among the jurisdictions. Courts which have considered this issue have focused on the parties' agreement to arbitrate, which is usually part of the customer agreement signed by the parties, and the relationship between federal and state arbitration laws. Some courts have held that, as a matter of public policy, arbitrators cannot award punitive damages.(fn3) However, the trend is to permit punitive damages in arbitration pursuant to the Federal Arbitration Act ("FAA")(fn4).
In 1925, Congress enacted the FAA.(fn5) The FAA, which applies to contracts involving interstate commerce or maritime affairs,(fn6)does not expressly prohibit punitive damages. Because virtually all securities transactions involve interstate commerce, the FAA applies to securities arbitration proceedings unless otherwise agreed by the parties.
The FAA created federal substantive law, applicable in both federal and state court proceedings, which preempts any conflicting state law.(fn7) Therefore, if the FAA applies, the court must determine whether state law also is applicable and to what extent the state law is preempted.
In the past, arbitrators on SRO panels assumed that punitive damages were unavailable, even in the most egregious cases. This assumption arose from a number of New York state cases which held that arbitrators did not have the authority to award punitive damages. Because most customer agreements containing arbitration clauses also contained choice of law provisions specifically stating that New York law applied, arbitrators were advised (formally and informally) by the arbitration departments of the SROs that they could not award punitive damages.
The seminal New York case on the propriety of punitive damages in arbitration is Garrity v. Lyle Stuart, Inc(fn8) In Garrity, the New York Appeals Court held that
[s]ince enforcement of an award of punitive damages as a purely private remedy would violate public policy, an arbitrator's award which imposes punitive damages, even though agreed upon by the parties, should be vacated.(fn9)
Garrity, involved a dispute between a publisher and an author over royalty payments on a book. The publishing contract contained a broad arbitration clause, but it did not expressly provide for the imposition of punitive damages. The court found that the parties never agreed to or considered punitive damages for a breach of the publishing contract.(fn10) Notably, the Garrity opinion did not...
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