Davis v. Oppenheimer & Co.

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Filed 5/11/04 Davis v. Oppenheimer & Co. CA1/4
NOT TO BE PUBLISHED IN OFFICIAL REPORTS
California Rules of Court, rule 977(a), prohibits courts and parties from citing or relying on opinions not certified for
publication or ordered published, except as specified by rule 977(b). This opinion has not been certified for publication or
ordered published for purposes of rule 977.
IN THE COURT OF APPEAL OF THE STATE OF CALIFORNIA
FIRST APPELLATE DISTRICT
DIVISION FOUR
JOHN J. DAVIS, JR., Individually and as
Trustee, etc.
Plaintiffs and Respondents,
v.
OPPENHEIMER & CO. et al.,
Defendants and Appellants.
A102929
(San Francisco County
Super. Ct. No. CGC-03-416751)
An investor sued his securities brokers for breach of fiduciary duty and other
alleged wrongs arising out of the brokers’ investment advice and management of a
brokerage account. The brokers moved to compel arbitration of the dispute pursuant to
the parties’ brokerage agreement, which provides that all controversies shall be submitted
to binding arbitration, and to stay proceedings until arbitration was complete. (Code of
Civ. Proc., §§ 1281.2, 1281.4.) The trial court denied the brokers’ motion.
The court found that the agreement’s forum selection provision failed because the
selected arbiters were the New York Stock Exchange (NYSE) or the National
Association of Securities Dealers, Inc. (NASD), and neither organization will conduct
arbitrations in California unless the parties waive application of California arbitrator
disclosure and disqualification standards that are the subject of a pending judicial
challenge. The brokers appeal, contending that the investor is not entitled to an
arbitration compliant with state arbitration standards because those standards are
preempted by federal law, or otherwise invalid. We conclude that the state arbitration

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standards are preempted by federal law as applied to NYSE and NASD arbitrations, and
accordingly reverse the trial court’s order denying the brokers’ motion to compel
arbitration and to stay proceedings.
FACTS
Respondent John J. Davis, Jr., individually and as trustee for the John J. Davis, Jr.
1989 Living Trust, sued his securities brokers, appellants Oppenheimer & Co., Inc.,
CIBC World Markets Corp., and David S. Carey (collectively, CIBC).1 The complaint,
filed January 27, 2003, alleges breach of fiduciary duty and related wrongs arising out of
CIBC’s investment advice and management of a securities brokerage account opened in
1995 and actively managed through at least August 2002.
On April 10, 2003, CIBC moved to compel arbitration of the dispute pursuant to
the client agreement (Agreement) executed upon opening the account, which provides
that all controversies shall be submitted to binding arbitration. The trial court denied
CIBC’s motion to compel arbitration, by order filed May 23, 2003. The court found that
the Agreement’s forum selection provision failed because the selected arbiters, the NYSE
or the NASD, will not conduct arbitrations in California unless the parties waive their
rights under California arbitrator ethics standards adopted in July 2002. (Cal. Rules of
Court, appen., div. VI, Ethics Standards for Neutral Arbitrators in Contractual Arbitration
(California Standards).) The question on appeal is whether Davis is entitled to proceed
before an arbitration panel that is compliant with the California Standards. CIBC argues
that Davis is not so entitled because the California Standards are preempted by federal
securities law providing different arbitration rules.
1 Davis opened his brokerage account with Oppenheimer & Co., Inc. in 1995. In 1997,
Oppenheimer & Co., Inc. merged with CIBC Wood Gundy Securities Corp. and
Oppenheimer Holdings to form CIBC Oppenheimer Corp., which was later renamed
CIBC World Markets Corp. David S. Carey is the investment advisor who handled
Davis’s account.

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DISCUSSION
The question of whether the California Standards are preempted by the federal
Securities Exchange Act of 1934 (15 U.S.C. § 78a, et seq. (the Exchange Act)), and rules
promulgated under the Exchange Act, is a pending issue before our Supreme Court.
(Jevne v. Superior Court (2003) 113 Cal.App.4th 486, review granted March 17, 2004,
S121532 (Jevne).) We conclude, as did the Second District in Jevne, that the California
Standards are preempted by the Exchange Act with respect to arbitrations before the
NYSE and NASD. (Jevne, supra, 113 Cal.App.4th at pp. 506-508; accord Mayo v. Dean
Witter Reynolds, Inc. (N.D. Cal. 2003) 258 F.Supp.2d 1097, 1108-1112 (Mayo).) We
therefore reject Davis’s contention that his performance under the arbitration clause has
been rendered impossible, and is thus excused, because he cannot arbitrate his claims
without “giving up rights and protections that he is entitled to under California law.” The
California Standards are preempted by federal law, and thus Davis is not entitled to
proceed before an NYSE or NASD arbitration panel compliant with the California
Standards.
A. The Exchange Act and the NYSE and NASD Arbitration Rules
The NYSE, a national securities exchange, and the NASD, a national securities
association, are “self-regulatory organizations” (SROs) registered with the United States
Securities Exchange Commission (SEC) pursuant to the Exchange Act. (Alan v. Superior
Court (2003) 111 Cal.App.4th 217, 222 (Alan); Mayo, supra, 258 F.Supp.2d at p. 1101.)
The Exchange Act authorizes SROs to regulate their members but that self regulation is
subject to extensive oversight, supervision, and control by the SEC. (Alan, supra, at
p. 222.)
“ ‘The Exchange Act directs SROs to adopt rules and by-laws that conform with
the Exchange Act . . . . With some exceptions . . . , the SEC must approve all SRO rules,
policies, practices, and interpretations prior to their implementation . . . . Each SRO must
comply with the provisions of the Exchange Act as well as its own rules . . . . [¶] One of
the functions of the SROs is to provide arbitral fora for the resolution of securities

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industry disputes . . . . Securities broker-dealers routinely include arbitration clauses in
their customer agreements . . . . As a result, both the NYSE and the NASD . . . provide
arbitration services to their members. The SEC has expansive power to regulate the SRO
arbitration programs.’ ” (Alan, supra, 111 Cal.App.4th at pp. 222-223, quoting Mayo,
supra, 258 F.Supp.2d at pp. 1101-1102.)
“Arbitration services provided by the NYSE are conducted in accordance with the
NYSE Arbitration Rules; those provided by [NASD] are conducted in accordance with
the NASD Code of Arbitration Procedure.” (Mayo, supra, 258 F.Supp.2d at p. 1102.)
The NYSE and the NASD arbitration rules and procedures are substantially similar to
each other in all matters relevant here. Those rules provide a comprehensive system for
arbitrations, and include rules governing disclosures of potential conflicts of interest and
procedures for disqualification of arbitrators. (NASD rules 10312-10313; NYSE rules
608-611.)
B. The California Standards
In 2001, the Legislature enacted Code of Civil Procedure section 1281.85, which
directed the Judicial Council to promulgate ethical standards for neutral arbitrators, and
which imposed these standards on persons serving as neutral arbitrators. (See Sen. Bill
No. 475 (2001-2002 Reg. Sess.).) In response to that directive, the Judicial Council
issued the California Standards, effective July 1, 2002, which include extensive
disclosure requirements and standards for disqualification. (California Standards,
Standards 1, 3, 7-10.) If an arbitrator fails to make the disclosures required by the
California Standards, a court must vacate the arbitration award. (Code Civ. Proc.,
§§ 1281.9, subd. (a)(2), 1281.91, 1286.2, subd. (a)(6).)
C. SEC Response to the California Standards
The NYSE and NASD have challenged the California Standards as preempted by
federal law. (See Jevne, supra, 113 Cal.App.4th at pp. 492-493, fn. 2.) Pending a
definitive resolution of that issue, the SEC approved an NYSE interim rule requiring
investors to arbitrate their securities disputes outside California or waive the California

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Standards. (NYSE rule 600(g); see 68 Fed. Reg. 57496-01 (Oct. 3, 2003).) NASD has a
similar SEC-approved rule. (NASD rule IM-10100; see 68 Fed. Reg. 17713-01
(April 10, 2003).)
D. Preemption
The laws of the United States are “the supreme law of the land.” (U.S. Const., art.
VI, cl. 2.) “[S]tate law that conflicts with federal law is ‘without effect.’ ” (Cipollone v.
Liggett Group, Inc. (1992) 505 U.S. 504, 516.) Federal preemption may arise in three
circumstances: express preemption by explicit statutory language; field preemption by
pervasive federal regulation; or direct preemption by an actual conflict such that it is
impossible to comply with both state and federal requirements, or state law obstructs
accomplishment of the purposes and objectives of Congress. (English v. General Electric
Co. (1990) 496 U.S. 72, 78-79.) Only conflict preemption is implicated in this case.
We conclude, as did the Jevne and Mayo courts, that the disqualification rules of
the California Standards present an actual conflict with the NYSE and NASD rules,
resulting in direct preemption. (Jevne, supra, 113 Cal.App.4th at pp. 501-502; Mayo,
supra, 258 F.Supp.2d at pp. 1107, 1110.) The California Standards provide that a
superior court judge make the ultimate decision on the disqualification of an arbitrator.
(California Standards, Standard 10; see Code Civ. Proc., § 1281.91.) In contrast, the
director of arbitration makes the ultimate decision on disqualification under the NYSE
and NASD rules. (NYSE rules 609-611; NASD rules 10308-10313.)
The California Standards “greatly reduce, if not eliminate in practice, the role of
the Director of Arbitration in the disqualification process.” (Mayo, supra, 258 F.Supp.2d
at p. 1107.) This conflict between the California Standards and SRO arbitration rules is
not without consequences. National uniformity maintained by submission of all
disqualification requests to the director of arbitration would be lost were another decision
maker substituted for the director of arbitration in California securities arbitrations. In
addition to thus frustrating the objectives of the SEC-approved arbitration rules, the
California Standards also directly conflict with those rules as it is impossible for a private

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party seeking disqualification of an arbitrator to comply with both sets of procedures. An
investor must either submit his or her disqualification request to a superior court judge
(California Standards) or to the director of arbitration (NYSE and NASD rules). This
direct conflict mandates a finding of preemption.
In light of our conclusion that the California Standards are preempted by the
Exchange Act, it is unnecessary to address CIBC’s argument that additional grounds for
finding preemption exist, or that the Judicial Council exceeded its mandate in making the
California Standards applicable to SROs.
Our finding of federal preemption of the California Standards also obviates
Davis’s claim that the SRO’s interim rules requiring out-of-state arbitration or waiver of
the California Standards excuses his performance under the arbitration clause. (See
NYSE rule 600(g).) Davis argues that the object of the arbitration clause is now
impossible because he cannot pursue arbitration before the NYSE or NASD, as specified
in the arbitration clause, “without giving up rights and protections that he is entitled to
under California law.” The California Standards are preempted by federal law, and thus
Davis is not entitled to proceed before an NYSE or NASD arbitration panel compliant
with the California Standards.
Davis’s arguments that the required waiver of the California Standards constitutes
a modification of the Agreement, and makes the Agreement unconscionable, are similarly
flawed. The California Standards conflict with federal law and are thus “ ‘without
effect.’ ” (Cipollone v. Liggett Group, Inc., supra, 505 U.S. at p. 516.) It follows that the
waiver of California Standards does not modify the parties’ contract, which has always
provided for application of NYSE or NASD arbitration rules. There is also nothing
unconscionable about requiring affirmation of the governing arbitration rules and waiver
of ineffective, conflictual rules that are preempted.
Alan v. Superior Court, supra, 111 Cal.App.4th 217 at p. 230, is not to the
contrary. In that case, the trial court granted a securities broker’s motion to compel
arbitration and the appellate court reversed and remanded for a factual determination as
to whether an out-of-state venue for arbitration was reasonable. The court did not

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consider the waiver alternative to an out-of-state venue, and expressly declined to address
whether the California Standards were preempted. (Id. at pp. 230-231.) Unlike Alan, the
preemption issue has been fully litigated in this case and, having found that the California
Standards are preempted by federal law, those standards can provide no basis for
invalidating the parties’ Agreement.
DISPOSITION
The order denying the motion to compel arbitration and to stay trial court
proceedings is reversed. The case is remanded with directions to enter an order granting
the motion. The parties shall bear their own costs incurred on appeal.
_________________________
Sepulveda, J.
We concur:
_________________________
Reardon, Acting P.J.
_________________________
Kline, J.

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