United States District Court, Southern District of New York
January 2, 1990
JULIA M. RUIZ, PLAINTIFF,
CHARLES SCHWAB & CO., INC. AND JEFF PESKIN, DEFENDANTS.
The opinion of the court was delivered by: Owen, District Judge:
MEMORANDUM & ORDER
Plaintiff Julia Ruiz seeks recovery from defendants Charles
Schwab & Co., Inc. ("Schwab") and Jeff Peskin for alleged fraud
and violations of section 10(b) of the Securities Exchange Act of
1934, 15 U.S.C. § 78j(b). Defendants now move for summary
Ruiz opened an account with Schwab in 1986. Shortly thereafter,
while in Schwab's offices, Ruiz asked a Schwab registered
representative, George Osorio, to recommend an investment
advisor. Since Schwab is a discount brokerage firm, it neither
employs investment advisors nor allows employees to recommend
them to Schwab clients. Ruiz alleges that Osorio nonetheless
referred Ruiz to Peskin, who was standing nearby at the
time.*fn1 Although Peskin is not a Schwab employee, Peskin and
many others who transact business through Schwab receive "VIP
status" from Schwab based upon the amount of commissions they
generate. Peskin therefore could and did use Schwab's VIP Lounge,
which was inaccessible to the general public.*fn2 In his
conversations with Ruiz, Peskin referred to the lounge as "his
office;" the Schwab switchboard accepted telephone calls for
Peskin, transferring them to the VIP lounge.
Some time after she met Peskin, Ruiz signed a limited power of
attorney ("LPOA") that enabled Peskin to trade on her behalf in
her Schwab account.*fn3 Although
Peskin never explicitly represented himself as a Schwab employee,
and the LPOA explicitly stated that Peskin was not a Schwab
employee,*fn4 Ruiz nonetheless claims that she did not read the
form she signed and continued to think that Peskin was a Schwab
Ruiz now sues Peskin for alleged acts of "churning"*fn5 and
fraudulent statements and omissions related to Peskin's options
trading in Ruiz's account at Schwab.*fn6 Ruiz seeks to impose
derivative liability on Schwab. Ruiz suffered a $200,000 loss on
the options as a result of the October, 1987, stock market
An investment advisor, as well as a broker-dealer, can be
liable for churning under § 10(b) of the Securities Exchange Act
of 1934. Armstrong v. McAlpin, 699 F.2d 79 (2d Cir. 1983).
Although Peskin and Ruiz dispute the turnover rate in Ruiz's
account, Ruiz has demonstrated a genuine question of material
fact as to whether Peskin's trading volume constituted unlawful
churning in light of Ruiz's investment objectives.
Similarly, although Peskin claims that he received no
commissions for his activities on Ruiz's behalf, proof of
commissions is unnecessary for establishing churning liability.
See Kaufman v. Merrill Lynch, Pierce, Fenner & Smith,
464 F. Supp. 528, 535 (D.Md. 1978). Moreover, Ruiz has demonstrated
that Peskin received a number of indirect benefits from Schwab
due to the volume he generated. For example, Schwab gave Peskin
reduced commission rates for his own account based upon his
overall volume of trading in any accounts he controlled.
Furthermore, Peskin received the benefits associated with
continued VIP status so long as he maintained an active trading
With regard to Ruiz's fraud allegations, the parties dispute
the amount of information Peskin provided Ruiz with regard to the
risks of options trading, thereby making summary judgment
inappropriate on this record.
Ruiz asserts three theories under which Schwab is liable
derivatively for Peskin's alleged churning and
misrepresentations. The first is that Schwab by its conduct bears
liability for permitting Peskin to appear to be acting for it,
that is, apparent authority. Since the doctrine of apparent
authority applies when the principal's own conduct contributes to
the agent's ability to mislead, General Overseas Films Ltd. v.
Robin Intern., Inc., 542 F. Supp. 684, 689 (S.D.N.Y. 1982),
aff'd, 718 F.2d 1085 (2d Cir. 1983), the critical inquiry is
whether Schwab's conduct permitted Ruiz actually and reasonably
to believe that Peskin was authorized by Schwab. See Bernstein
Centaur Ins. Co., 644 F. Supp. 1361 (S.D.N.Y. 1986).
Although a number of equivocal circumstances support Ruiz's
belief, Schwab in the LPOA did provide Ruiz with information that
set forth unequivocally that Peskin was not a Schwab employee.
Ruiz's neglect in not reading the LPOA that she signed does not
constitute conduct on the part of Schwab. Furthermore, even if
Peskin did have apparent authority prior to Ruiz's receipt of the
LPOA form, her act of signing that form put her on notice that
such apparent authority had been terminated.
Second, Ruiz claims controlling person liability as to Schwab
under section 20(a) of the Securities Exchange Act of 1934,
15 U.S.C. § 78t.*fn8 This requires a showing that the alleged
controlling person was a culpable participant in the activities
of the controlled person whose conduct is claimed to violate the
securities laws. See Gordon v. Burr, 506 F.2d 1080 (2d Cir.
1974). Furthermore, in order to be considered a controlling
person, Schwab must have had "some indirect means of discipline
or influence short of actual direction . . . and the failure of
the controlling person to diligently enforce a proper system of
internal supervision may be sufficient for liability," Kaufman
v. Merrill Lynch, Pierce, Fenner & Smith, 464 F. Supp. 528, 538
With regard to Ruiz's churning claim, Schwab's influence over
Peskin and its arguable culpability therefore is a genuine issue
of material fact still in dispute. See Kaufman, 464 F. Supp. 528.
The execution of a limited power of attorney does not
relieve Schwab of all of its responsibilities to investors. See
id. Since Schwab supervisors monitored the volume and
commissions on customer accounts, it is possible that Schwab
would or should have been aware of any unlawful churning in
Ruiz's account. See Kaufman, 464 F. Supp. at 534-35.*fn9
Finally, Ruiz seeks to hold Schwab liable as an aider or
abettor of Peskin. Three elements are necessary to establish such
liability: 1) a violation by a primary wrongdoer, 2) knowledge by
the alleged abettor, 3) proof that the abettor substantially
assisted in the wrongdoing. Armstrong v. McAlpin, 699 F.2d 79,
91 (2d Cir. 1983). Second Circuit authority holds that the
knowledge requirement is satisfied if the alleged aider and
abettor recklessly disregarded the facts. See id. at 91.
However, such liability does not apply to "a broker-dealer who
merely executes orders for `unsuitable' securities made by an
investment advisor vested with sole discretionary authority to
control the account." Rolf v. Blyth, Eastman Dillon & Co.,
Inc., 570 F.2d 38 (2d Cir. 1978), cert. denied, 439 U.S. 1039,
99 S.Ct. 642, 58 L.Ed.2d 698. Likewise, inaction ordinarily does
not constitute substantial assistance, "except when it was
designed to aid the primary fraud or it was in conscious and
reckless violation of a duty to act." Armstrong, 699 F.2d at 91
The fiduciary duty of a broker to a customer is a factual
question, see Kaufman, 464 F. Supp. at 536. Given Schwab's
monitoring of the trading volume in customer accounts, a material
question exists as to whether Schwab's inaction in this limited
area was in reckless disregard of a duty to act. See Nelson v.
Hench, 428 F. Supp. 411 (D.Minn. 1977).
Accordingly, Peskin's motion for summary judgment is denied,
and Schwab's motion for summary judgment is granted except as to
the limited issue delineated in the preceding paragraph of this
memorandum, as to which it is denied.