Investors Have a Question About SEC’s Policy Shift on Arbitration: Cui Bono?

US Securities and Exchange Commission Chair Paul Atkins says letting corporations require shareholders to resolve legal claims through arbitration instead of the courts will help “make IPOs great again.”

Some investors are asking for whom.

Corporations? Check. The policy shift lets companies curb legal expenses and avoid damaging publicity by inserting mandatory arbitration clauses in registration statements that are required by the SEC before their shares can be sold on public exchanges. Shareholders? Not so much. They risk losing a powerful tool to protect their own interests.

Diminishing Deterrent

“Forced arbitration would block investors from joining together in court to hold companies accountable for securities fraud,” said Marcie Frost, CEO of the California Public Employees Retirement System. Better known as CalPERS, it’s the largest public pension fund in the US, with more than 2 million members and $500 billion in assets. “These class-action lawsuits are a critical way to hold companies accountable for defrauding investors. This would not only reduce recovery for harmed investors but also diminish the deterrent effect that class-action suits often provide.”

The numbers bear that out: Class-action securities settlements in 88 cases totaled about $3.7 billion in 2024, according to data collected by Cornerstone Research. That compares with just $345 million returned to investors through SEC enforcement in the same period.

Atkins points out that the new policy doesn’t weigh in on whether mandatory arbitration is good or bad for investors (though he expects “robust” debate on that point) or preferable to lawsuits:

• Instead, it removes arbitration from the factors the agency considers in deciding whether to clear the sale of company stock to the public. 
• “This position is not an invention of the commission, but rather an acknowledgment of current Supreme Court precedent,” said Commissioner Hester Peirce. “Knowing that the SEC will not put its thumb on the scale, companies can decide whether they want to include arbitration provisions.”

The policy reverses a stance taken by the agency’s Division of Corporation Finance since the early 2010s, when it began refusing to greenlight registration statements that included an arbitration clause, referring them instead to the commission and effectively deterring companies from using the tactic. 

While the agency previously questioned whether US securities laws of the 1930s, passed after the stock market crash of 1929 led to the Great Depression, overrode broad US government support for arbitration in the Federal Arbitration Act of 1925, it now says they do not.

That decision reflects the changing position of the US Supreme Court, which held in 1953’s Wilko v. Swan that investors couldn’t be forced to give up their right to pursue claims in court, but reversed itself in 1989.

“Arbitration has long been recognized under federal law as a valid alternative to class actions, and the SEC’s move simply removes its prior bias against it without mandating anything,” Lawrence Cunningham, director of the Weinberg Center for Corporate Governance at the University of Delaware, told The Daily Upside. 

Resolving disputes through arbitration “doesn’t eliminate remedies or accountability,” he added. “This is ultimately a matter of balance, not absolutes.”

Stacking the Deck: By not considering the benefits or drawbacks of arbitration, however, the SEC ignored “overwhelming evidence” that letting companies force it on shareholders doesn’t serve the public interest, said Commissioner Caroline Crenshaw, the four-member panel’s only Democrat. Instead, she said, it voted “to stack the deck against investors — this time primarily small, retail shareholders in public companies.”