Mastrobuono v. Shearson Lehman Hutton, Inc.

1995-03-06

Headline: Choice-of-law clause does not stop arbitrators from awarding punitive damages; Court reverses lower courts and enforces the arbitral punitive award, affecting investors in arbitration.

Holding: The Court held that the arbitration agreement did not clearly preclude punitive damages, and under the Federal Arbitration Act the arbitrators’ punitive award must be enforced rather than vacated.

Real World Impact:

Makes arbitral punitive-damage awards more likely to be enforced when contracts are ambiguous.
Requires drafters to state explicitly if they want to bar punitive damages in arbitration.
Affects investors and brokerages in securities disputes resolved by arbitration.

Topics: arbitration, punitive damages, contract choice-of-law, securities disputes

Summary

Background

Antonio and Diana Mastrobuono opened a securities account with a brokerage using a standard-form Client Agreement. The agreement’s paragraph 13 said New York law would govern and required disputes to be settled by arbitration under NASD or exchange rules. Arbitrators awarded the Mastrobuonos $159,327 in compensatory damages and $400,000 in punitive damages. The broker paid compensatory damages but asked courts to vacate the punitive award; the District Court and Seventh Circuit did so relying on New York law that bars arbitrators from awarding punitive damages.

Reasoning

The Court addressed whether the Federal Arbitration Act (FAA) requires enforcement of the arbitral punitive award. Reading the contract as a whole, the Court found the choice-of-law clause ambiguous and the arbitration clause (pointing to NASD rules that allow “damages and other relief”) broad enough to include punitive awards. Under FAA principles, ambiguities are resolved in favor of arbitration and ambiguous language is construed against the drafter. The Court therefore held the arbitration panel had authority to award punitive damages and reversed the Seventh Circuit.

Real world impact

The decision means arbitration awards that include punitive damages are more likely to be enforced when contracts do not clearly exclude those remedies. Businesses that draft standard-form arbitration contracts will need to say plainly if they intend to bar punitive damages. The Court noted its decision does not turn on whether a court reviews arbitrators de novo or deferentially, a separate question pending in another case.

Dissents or concurrances

Justice Thomas dissented, arguing the choice-of-law clause plainly incorporated New York law (which forbids arbitral punitive awards) and that Volt requires enforcing such contractual choices.