If the Shoe of the SEC Doesn't Fit: Self-Regulatory Organizations and Absolute Immunity

Abstract

The absolute legal immunity granted to self-regulatory organizations (SROs) in the securities industry has incited increasingly controversial concerns about the lack of accountability of financial regulators. Although SROs like the Financial Industry Regulatory Authority (FINRA) are deemed to 'stand in the shoes' of the Securities and Exchange Commission (SEC) by carrying out delegated, quasi-governmental duties in monitoring securities markets, their alternate role as private, commercial entities raises questions as to the fairness of expansive SRO immunity. Plaintiffs have historically been denied any redress even in instances of alleged SRO fraud, misconduct, and bad faith. In 2012, the U.S. Supreme Court declined to question the Second Circuit’s decision in Standard Investment Chartered Inc. v. National Association of Securities Dealers, which expanded SRO immunity to cover not only direct SRO functions on behalf of the government, but also actions that are “incident to” SROs’ regulatory functions. This Article supports the notion that legal immunity for SROs should be subject to a fraud exception, which would hold SROs accountable for the very same misconduct that such entities seek to police. To alleviate the common concern that limiting SRO immunity would lead to frivolous lawsuits overloading the courts, this Article will look to two requirements already in place that serve to prevent this possibility: 1) fraud cases are currently subject to heightened pleading standards and 2) the SEC must review any allegations against SROs before the court system may be invoked. In addition, by pointing out documented SEC shortfalls in SRO oversight, this Article will challenge the argument that favors expansive SRO immunity on the grounds that the SEC already adequately oversees SROs for potential abuses. By carving out a fraud exception from the expansive absolute immunity doctrine, plaintiffs would be granted the chance to seek legal recourse for those instances in which SROs have failed to stand in the shoes of the SEC.

Keywords: securities regulation, SROs, self-regulatory organizations, immunity, FINRA