For years, the debate over mandatory arbitration clauses and class-action waivers in consumer financial services contracts has largely focused on questions of consumer protection, access to justice, the validity of class action waivers in arbitration provisions, and the value of class actions as a tool for redressing systemic consumer harm and litigation policy.

Our Consumer Financial Services Group pioneered the use of class action waivers in consumer financial services and other types of contracts. For about 25 years or so, we have encouraged clients struggling with the defense of class actions to implement arbitration provisions as a way of reducing overall litigation costs. Indeed, we became the “go-to” law firm for banks and other consumer financial services providers interested in implementing consumer arbitration provisions. Because of our extensive experience in counseling those firms to deploy arbitration provisions with class action waivers, we also became the “go-to” firm to defend those banks and other companies sued in class action lawsuits. We had great success in getting courts (including the U.S. Supreme Court) to enforce arbitration provisions which, in turn, resulted in a substantial reduction in class action lawsuits filed against our clients. 

A new academic study approaches the issue from an entirely different perspective: What does the stock market think these provisions are worth?

In a recent paper entitled The Value of Class-Action Waivers: Evidence from Invalidation of the CFPB Arbitration Rule, Professor James Fallows Tierney of Chicago-Kent College of Law examines whether investors place economic value on the protection that arbitration agreements and class-action waivers provide against class-action litigation. His conclusion: investors appear to do so. It is gratifying to see that our belief that that would be the case has now been vindicated by Professor Tierney’s study and paper.

Background

The study centers on the long-running controversy surrounding the promulgation of the final arbitration rule by the Consumer Financial Protection Bureau (CFPB).

Following a multi-year study of arbitration agreements in consumer financial services contracts (including 3 CFPB hearings held throughout the country at which Alan Kaplinsky, the then chair and now Senior Counsel of our Consumer Financial Services Group, testified on behalf of the banking industry), the CFPB in 2017 issued a final rule that would prohibited providers of many consumer financial products and services from using arbitration agreements to bar consumers from participating in class actions. The Bureau concluded that class actions served an important role in consumer protection and that class-action waivers impeded consumers’ ability to obtain relief for harm caused by such consumer financial services providers.

Industry participants, including many members of our Consumer Financial Services Group, strongly opposed the rule, arguing that arbitration agreements provide an efficient and cost-effective means of resolving disputes and that eliminating class-action waivers would expose financial institutions to substantial litigation costs without producing meaningful consumer benefits.

Before the rule could take effect, however, Congress invoked the Congressional Review Act and repealed it in November 2017.

The Study

Professor Tierney uses an event-study methodology to analyze how investors reacted to eleven significant regulatory and legislative events occurring between 2012 and 2017 that affected the likelihood that class-action waivers would remain enforceable.

The study examined stock-price movements of 47 publicly traded consumer financial services companies that were potentially affected by the CFPB rule. The author compared those firms with a control group and measured whether stock prices moved in response to developments that either increased or decreased the likelihood that the CFPB arbitration rule would ultimately take effect.

The underlying premise is straightforward. If investors believed that class-action waivers provided meaningful protection against litigation costs, then stock prices of affected firms should decline when the prospects for the CFPB rule improved and should rise when the prospects for repeal increased.

According to the study, that is generally what occurred.

Key Findings

The paper reports that firms subject to the CFPB rule experienced stock-price movements that were significantly different from those of control firms and generally moved in the predicted direction.

Perhaps most notably, the study found that the strongest market reaction occurred when the U.S. Senate approved the Congressional Review Act resolution repealing the CFPB rule. (Alan was heavily involved in the effort to get 51 votes for the Senate to repeal the rule). According to the paper, firms affected by the rule significantly outperformed control firms around that event, suggesting that investors viewed repeal as economically beneficial.

The author concludes that the results are “consistent with investors pricing arbitration protection as a meaningful source of firm value.”

In other words, the market appears to have believed that preserving arbitration clauses containing class-action waivers reduced expected litigation exposure and increased firm value.

What the Study Does—and Does Not—Show

The study is noteworthy because it attempts to quantify, through market reactions, the economic consequences of changes in arbitration policy. However, it is important to recognize the limits of what the research establishes.

The study does not demonstrate that arbitration is superior to litigation as a matter of public policy. Nor does it establish whether consumers are better or worse off when class-action waivers are enforced. Those issues remain the subject of ongoing legal, economic, and policy debates.

Instead, the paper addresses a narrower question: how investors expected financial institutions to be affected by changes in the enforceability of class-action waivers.

As with all event studies, the findings ultimately reflect investor expectations rather than actual future outcomes. Market participants may or may not have accurately predicted the real-world consequences of the CFPB rule had it remained in effect.

In addition, some observers may question whether certain stock-price movements reflected reactions to arbitration policy specifically or broader perceptions regarding the regulatory environment facing consumer financial services providers during the relevant period.

Why the Study Matters

Although the CFPB’s arbitration rule was repealed nearly a decade ago, debates over arbitration clauses and class-action waivers continue in Congress, state legislatures, regulatory agencies, and the courts.

For industry participants, the study provides empirical support for the proposition that arbitration agreements and class-action waivers have substantial economic value. For consumer advocates, the paper underscores the extent to which these provisions may affect firms’ expected exposure to aggregate litigation.

Regardless of one’s views on arbitration policy, the study offers a novel perspective on a long-running controversy. Rather than focusing on legal doctrine or competing policy arguments, it asks what investors believed was at stake financially. The answer, according to Professor Tierney’s analysis, is that investors viewed the continued enforceability of class-action waivers as an important contributor to firm value.

The paper is therefore likely to be of interest not only to scholars of arbitration and consumer protection law, but also to financial institutions, litigators, regulators, and policymakers engaged in the continuing debate over the role of arbitration in consumer finance.