Securities brokers typically have contractual rights to liquidate holdings in an account that is “undermargined”, which occurs where there is not enough cash or equity to secure the margin loan that has been advanced by the broker to the owner of the account. In two recent appellate decisions, courts have confirmed that brokers can strictly enforce such rights and that investors bear the risk of being undermargined.

 

Ontario Court of Appeal: Susin Estate[1]

 The plaintiff held two margin accounts at TD Waterhouse (TDW). A TDW representative called the plaintiff to advise him that his accounts were undermargined and in a high-risk margin call position. The TDW representative told the plaintiff that if he did not cover the margin as soon as possible (i.e., contribute sufficient cash or additional securities to cover the margin shortfall), then TDW would have to liquidate securities in the account. The TDW representative also advised the plaintiff, “your account might be sold out at any time … so it may be today, may be tomorrow, may be Friday, may be next Monday.” Later that day, TDW liquidated the securities in the plaintiff’s accounts to cover the margin deficit. The plaintiff sued TDW, alleging that TDW was not permitted to rely on its strict rights given the foregoing discussion.

On appeal, the Ontario Court of Appeal upheld the motion judge’s dismissal of the action. The Court confirmed that TDW could strictly rely on the terms of the margin agreement and that nothing said on the call between the TDW representative and the plaintiff was inconsistent with those terms.[2] Significantly, the Court cautioned that if the representative’s words were in conflict with the margin agreement, then a court would consider whether the brokerage had, by words or conduct, limited or altered its strict rights in a margin agreement:

 

… There may be a case where the words and conduct of a commercial lender require, in fairness, a careful assessment of their interplay with the strict contractual words. In this case, no such inquiry is required because there is an essential unity between the contractual wording and Kuchmar’s language in the phone call.[3]

 

Quebec Court of Appeal: Hirsch[4]

 The plaintiffs alleged that Richardson Wealth Limited (Richardson) exercised its contractual rights “abusively” when it liquidated the plaintiffs’ margin accounts after the plaintiffs failed to satisfy a margin call for nearly $8 million. Due to a technical glitch in the defendant’s brokerage platform, the margin available to the plaintiffs was unintentionally magnified above the intended ceiling, allowing the plaintiffs to borrow significantly more than would otherwise have been permitted. When this glitch was discovered, Richardson relied on its contractual right to make a margin call and liquidated some of the securities in the account. 

As in the Susin Estate case discussed above, the Quebec Court of Appeal upheld the trial judge’s decision finding that the margin agreement provided Richardson with broad discretion to make a margin call and to require the plaintiff to promptly inject additional cash or other assets into the account to satisfy that call, failing which Richardson had the right to liquidate the assets in the investment account. The Court concluded that the technical glitch on Richardson’s platform did not impact the parties’ rights under the margin agreement. The Court also noted that because the plaintiffs were experienced investors, irrespective of the technical glitch, they knew or ought to have known of the margin requirements and that their accounts were at risk of a margin call.

 

Takeaways

1. A brokerage is free to act in accordance with the terms of its margin agreement to protect its own position.[5]

2. Unless required to do so by their margin agreement, securities brokers should be cautious when giving notice of a margin call to remain consistent with the margin agreement. Securities brokers should not offer assurances to investors that investors could argue altered the broker’s rights under the margin agreement.

3. The duty to exercise contractual rights in good faith, recently addressed by the Supreme Court of Canada in Wastech Services, was not expressly considered in either decision.

Securities brokers exercising their discretion to liquidate an investor’s account must consider how the duty of good faith applies in the circumstances. The duty of good faith will not trump the broker’s contractual rights to limit its losses provided it is not motivated by any improper factors. As the Supreme Court noted:

 

I hasten to say that the role of the courts is not to ask whether the discretion was exercised in a morally opportune or wise fashion from a business perspective. The common law recognizes that “[c]ompetition between businesses regularly involves each business taking steps to promote itself at the expense of the other. . . . Far from prohibiting such conduct, the common law seeks to encourage and protect it”

Not only does this deferential approach ensure “some elbow-room” for the “aggressive pursuit of self-interest” …, but it also prevents good faith from veering into “a form of ad hoc judicial moralism or ‘palm tree’ justice” … In this context, then, courts must only ensure parties have not exercised their discretion in ways unconnected to the purposes for which the contract grants that power.[6]

 

 

[1] Susin Estate v. TD Waterhouse Discount Brokerage, 2022 ONCA 101.

[2] Ibid. at para. 13.

[3] Ibid. at para. 16.

[4] Richardson Wealth Limited v. Andrew Hirsch, 2022 QCCA 148.

[5] Questrade Inc. v. Gu, 2011 ONSC 4106 at para. 24 (C.A.); also R.B.C. Dominion Securities Inc. v. DeBora, [1991] O.J. 1863 (Ont. Gen. Div.).

[6] Wastech Services Ltd. v. Greater Vancouver Sewerage and Drainage District, 2021 SCC 7 at paras. 73-4.