I will examine the liability regime under Greek law when banks or other investment firms advise their clients to invest in atypical financial products. I will be talking mostly about banks but my findings apply to investment firms as well. I will leave outside cases of fraud, i. e., cases where bank employees deliberately give false information or advice to their clients. Here is an example: A bank advises its client to invest in NFTs (non-fungible tokens) assets, but fails to provide all relevant information or fails to adequately warn the client about the risks involved. The investment is not successful and the investor suffers losses. Does the investor have a compensation claim against his bank?
The first question when dealing with the issue is: What are atypical financial products? There is no formal definition in Greek law. Moreover, there is hardly any useful definition generally. One way to understand atypical products is in contrast to typical ones. Atypical is a product if it is not typical. But what are typical financial products? Maybe one could speak about conventional versus alternative investments. But, besides old-fashioned financial investments (bonds, shares, cash) anything more exotic could be seen as alternative or unconventional. And since there is hardly any sector of the economy that innovates so extensively in the products and services it provides as the financial sector, what is unconventional today may be conventional tomorrow.
On the other hand, investment products that are seen as alternative or unconventional (e.g. investments in precious metals, paintings, real estate, or even wine) are unconventional only in the sense that they are recommended by banks as alternatives to financial instruments. There is for instance nothing unconventional per se in investing in gold or real property. Do these alternative investments have anything in common with investing in exotic new assets of the digital economy such as NFTs?
Regulated and unregulated products
In my view, a more productive distinction when examining the liability of banks when recommending financial assets to invest in would be between regulated and unregulated products. Non-legal criteria, such as the statistical occurrence in financial transactions, the novelty of their design, their connection with technology, etc., are not so useful as elements of a definition in connection with legal questions. Such features are found in both classes of assets, both typical and atypical. Conversely, regulation for a class of products may have a significant impact on the question of liability. In any case, the distinction between regulated and unregulated assets can serve as a close proxy for the distinction between typical and atypical ones. I consider here as unregulated all products that are not the subject of specific legal treatment as investment assets. Under this definition investment advice for a 90-year-old bottle of wine and a specific NFT would fall under the same notion as they are both not regulated as investment assets. On the other hand, a derivative contract relating to commodities is an unconventional investment. But it is nevertheless a financial instrument and thus regulated by MiFID.1
A good starting point for the analysis of the liability for unregulated products could be the liability for regulated ones. This will determine the impact of regulation on the liability and highlight the crucial points in which the liability for regulated products is similar to or different from the liability for unregulated ones.
This poses the question of how regulation influences the liability regime. I will consider this question using the example of MiFID, the most comprehensive legislative text regarding the provision of investment services in Europe.
Investor protection is a core aim of MiFID. However, the Directive does not contain any rules establishing the obligation of banks to pay damages to investors in case of a breach of the conduct of business rules stipulated in it. If and to what extent investors can sue their banks for damages caused by investment services is outside of its scope and left to the discretion of the national law of each Member State.
Only art. 69(2) (final part) of MiFID, shows in the direction of liability: It obliges Member States to establish mechanisms to ensure that compensation may be paid or other remedial action be taken in accordance with national law for any financial loss or damage suffered as a result of an infringement of the directive. Nevertheless, the impact of this provision on the liability of banks should not be overestimated. First, its inclusion in art. 69 of MiFID, which sets out the supervisory powers of the competent authorities, indicates that it covers administrative measures and not judicial remedies. Secondly, it leaves the configuration of the ways in which compensation will be granted in the hands of the national legislator and does not directly prescribe any liability of banks.
Generally, MiFID relies, for the enforcement of its standards, on administrative law means. It lays upon the national supervisors the task of ensuring that its conduct of business rules are observed by market participants, which should further lead to the harmonization of the investment services within the single European market. The primary concern of MiFID is not the corrective (ex post) justice between banks and their clients (investors) in case of a breach of its rules. The Directive focuses rather on the preemptive (ex ante) enforcement under the supervision of the national public authorities. The MiFID conduct of business rules are not conceived as directly shaping the legal relationship between banks and investors. MiFID does not establish private law rights and obligations.
This is also the view of the Court of Justice of the European Union (CJEU). In its judgment of 30 May 2013 case Bankinter, the court ruled that it is for the internal legal order of each Member State to determine the contractual consequences of non-compliance with the obligations of MiFID. Of course, the particular case was only about the validity of the contract between the bank and the investor. Nevertheless, the ruling of the CJEU seems to have a wider scope and to encompass all civil law consequences of the violation of MiFID rules, including compensation for damages.
MiFID, not least because of its central role within the European investment services law, is exemplary for the broader choice of the European legislator in the financial law to let the Member States free to decide the civil law consequences for the infringement of its rules, including liability for damages. Rules on the civil liability of market participants are, if they exist at all, generally narrow in their scope. For example, the recently adopted MiCA Regulation2 contains rules on civil law liability, but this liability is only for the information given in a crypto-asset white paper or for the loss of crypto-assets held in custody. It is not for banks suggesting investment in crypto-assets.
The Greek law transposing MIFID does not provide any rules regarding the liability for investment advice on with financial instruments. It follows that investors who have suffered damages must rely upon general rules of civil law for compensation. In particular, they may rely on contractual or pre-contractual liability, tort law, and professional liability.
Contractual liability stems of course from a contract. However, as the relevant case law shows there is often no explicit agreement between the bank and its client for the provision of investment advice. This is not an obstacle to establishing contractual liability. In the majority of cases, it should be easy to accept an implicit agreement. Regardless of whether the bank approaches the investor or vice versa, the fact that the bank gives investment advice must, as a rule, be construed as an offer for or as an acceptance of a binding agreement. In this regard, it is crucial that the provided advice is of great economic importance for the investor who in turn relies on his bank for proper advice, whereas the bank expects a direct or usually indirect benefit from the advice.
As a next step, the exact breadth of the bank’s obligations towards its client must be determined. Here the principle of good faith plays the central role, especially in the case of an implicitly concluded agreement. According to art. 200 of the Greek Civil Code (CC), contracts are to be interpreted as required by good faith. In the same vein, art. 288 CC stipulates that a debtor must perform his obligations according to the requirements of good faith. So, the main question would be here: Which are the requirements of good faith with respect to the advice that the bank must provide? Surely, not any investment advice would be adequate.
Based on the principle of good faith, the bank has a general obligation to provide correct, complete, and understandable investment advice, in order to help the investor make an educated investment decision tailored to his specific needs. What is required, in any specific situation, depends on the circumstances of the case, but in general, two main factors are crucial: the individual investor (“know your customer”) and the specific investment object (“know your product”). First, the bank needs to tailor the recommendation of an investment to the personal characteristics of the investor. Secondly, the bank must tailor the advice to the nature and risks of the intended investment that are of importance to the investor’s decision. This entails the duty to disclose information about the investment (including foremost its risks) in a manner that makes it understandable to the individual investor, depending on the investor’s knowledge, experience, and expertise.
It should be clear by now that the contractual duties of the bank based on good faith overlap in their content with the regulatory duties imposed by MiFID in art. 24 and 25. Most notably here the suitability test stipulated by art. 25(2)(1) of MiFID (the advice must be tailored to the specific investor’s needs) imposes duties similar to those mentioned earlier.
However, the regulatory duties laid down in MiFID do not become automatically and directly part of the contractual duties of the bank. The regulatory conduct of business rules and the contractual duties of banks should be seen as two distinct legal frameworks for the provision of investment services. The first legal framework (regulatory duties) operates when the supervisory authorities enforce the rules of the Directive and it aims at harmonizing the European investment services landscape by adopting uniform duties that all banks must observe towards their clients when offering investment services. The second framework (contractual duties of care) deals with the (ex post) application of justice in each individual case based on the rules and principles of the Greek contract law. According to this model, the regulatory conduct of business rules of MiFID cannot find their way directly into the contractual obligations program without the application of civil law concepts and most notably the principle of good faith. These concepts act as gateways or mediators between the rules of MiFID and the civil law rules applied by the courts when adjudicating compensation claims.
This does not mean that the conduct of business rules of MiFID should not be considered by the courts when determining the contractual duties of banks towards their investors. On the contrary, the conduct of business rules of MiFID incorporate the extensive, decades-long experience and expertise of the regulatory authorities on an international level. They indicate the level of investor protection that is regularly necessary for the proper functioning of financial markets.
However, the conduct of business rules in MIFID are generally designed to address the typical risk situations affecting large groups of investors, whereas, in some respects, they are ultimately the product of political compromises between the Member States. Conversely, courts adjudicate concrete cases in which atypical situations may arise, that have to be taken into consideration. Here is where the flexibility of the principle of good faith comes into play when applied in contract law. It allows (indeed it compels) courts to consider the peculiarities of each individual case and do justice to the parties. They must do that by considering the specific circumstances that come up each time and accommodate unusual situations, that could not have been encompassed in a general rule.
It follows that in most cases, where the conflicting interests of the parties are more or less typical, the courts can (and mostly should) as a rule, apply the principle of good faith in accordance with MiFID. In addition, however, this approach leaves room for considerable deviation when the courts adjudicate atypical cases, i. e., cases that are in some crucial respects different from the usual circumstances that the legislator of MiFID had considered. In such cases, good faith may dictate a different set of contractual duties depending on the peculiarities of the situation at hand. In particular, it may impose more extensive or stricter contractual obligations than the regulatory duties.
For example, MiFID permits disclosure of information to investors in a standardized format (art. 24(5)). This can be adequate for most cases, but not always. As an example, in a case adjudicated by a Greek court, the investor, a retiree, and a former sailor and later construction worker, had only graduated elementary school. He took investment advice from his bank and was persuaded to invest in Lehman Brothers securities. The court decided that, if the claimant had been explicitly warned orally by the bank employees about the true risks of his investment, he would have refrained from it. The standardized written warning by the bank was deemed not enough in this case. Here, the bank observed its regulatory duties but not its contractual duties.
Similar duties towards the investor can arise during negotiations, based again on the principle of good faith according to art. 197 CC. As with contractual obligations, pre-contractual duties would have to be determined on a case-by-case basis. Nevertheless, establishing the liability of banks on pre-contractual duties would be of little importance in connection with investment advice, as in the majority of these cases an agreement is implicitly concluded. Pre-contractual duties would become practically important if one were reluctant to accept such an implicit agreement.
Whether contractual or pre-contractual, bank duties towards the investor give rise to liability if breached, according to general civil law rules.
Contractual liability is however not the path preferred by Greek jurisprudence in connection with investment services. Greek courts base their decisions invariably on tort law, even when they refer, in their obiter, to an (impliedly concluded) investment services agreement. This is made possible by the relatively open wording of art. 914 CC, which sets illegal behavior as a basic condition of civil liability.
Despite this preference, the substantial arguments used by Greek courts in the context of tort law are hardly different from those presented above with regard to contractual liability. Even when they operate within tort law, courts resort to general principles and, more often than not, to the same principle of good faith that dominates contract law, in order to find if a bank has violated a general duty of care towards its client. Hence, it should not come as a surprise that their results are quite similar to the ones they would have reached if they had argued within contract law. In essence, the line of reasoning explained before in connection with contractual liability is the same as the line of reasoning that the courts make use of based on tort law.
At the same time, however, the courts are explicitly citing the conduct of business rules laid down in the legislation implementing MiFID in conjunction with art. 914 CC. The violation of these rules establishes the illegality of the bank’s behavior.
Nevertheless, the courts do not clarify the relationship between the general principle of good faith and the specific conduct of business rules of MiFID. It seems plausible that they treat the conduct of business rules stipulated in the investment services legislation as legally provided manifestations of the same duties that the courts would otherwise derive from general principles. If this is correct, it implies that, absent any specific legislatively defined conduct of business rules, the application of general principles would be enough to establish similar duties of care, which would in turn lead to the same result, namely liability for negligence. This may be crucial in connection with unregulated products.
Under both contract and tort law, the investor would have to prove a) that the bank has breached its duties, and b) that he has suffered damages because of this breach. Depending on the circumstances, this can be difficult to achieve.
Art. 8 of the consumer protection law alleviates the problem by reversing the burden of proof if the investor is a consumer, i. e., any natural person who acts for reasons outside his trade, business, craft, or profession. In this case, the investor has to prove neither that the bank has breached a duty of care nor that the damages suffered are the result of such a breach. It suffices to prove that he has suffered damages due to the provision of the service in general (not the breach of duty during the provision of service). The threshold for this proof is quite low here as the investor just follows his bank’s advice and invests in the recommended product. The bank must on the other hand prove either that it has not breached any duty (for example because it has properly disclosed all relevant information) or that the damages were not caused due to a breach of duty (for example because the investor would have proceeded with the investment despite any warning by the bank).
The scope of professional liability does not cover all retail clients as defined in MiFID (which includes not only individuals but legal entities as well). Nevertheless, this restriction is not of great practical importance. As the relevant case law shows, aggrieved investors are usually individuals who seek investment advice with regard to their private funds.
Up to this point, I have discussed the liability question in connection with regulated products. My conclusion is that liability is based on the general civil law ground rules (contract or tort law), whereas MiFID has only an indirect impact. Duties of the bank towards the investor must be derived from general principles and most notably the principle of good faith, on a case-by-case basis. Here, the standards of MiFID can help the courts determine in each case the exact requirements of the principle of good faith.
Within this scheme, it is clear that the liability of banks for regulated and unregulated products could not be fundamentally different. In both cases, the bank has a contractual or general duty of care, which must be transformed, mainly with the help of the principle of good faith, into more specific duties on a case-by-case basis. These duties oblige the bank to provide suitable advice and the information necessary so that the investor can make a well-informed investment decision.
When it comes specifically to unregulated products, there are, by definition, no prudential duties that could help determine the exact duties of the bank vis-à-vis its client. Nevertheless, courts dealing with unregulated products should not ignore the regulatory duties that exist with regard to regulated ones. As long as investment in unregulated products presents similar challenges, it would not be prudent to ignore carefully the crafted solutions of MiFID just because they were developed for other products. It is the investment advice and its quality that is significant here, not the exact nature of the recommended product.
This means that, when dealing with investment in unregulated products, courts should examine each case and develop the contractual program necessary in order to comply with the requirements of good faith, as they would do in the case of regulated products. By exercising this task, they need to take into consideration solutions developed for regulated products, eventually with the necessary adaptations. In this regard contract and tort law would not make a difference.
As the principle of good faith must be applied on a case-by-case basis it is difficult to say exactly when the regulatory duties for regulated products must become civil law duties in connection with unregulated products. There are, however, some important similarities or factors that point in the direction of equal treatment.
First, the risks associated with the investment in regulated and unregulated products do not seem inherently different. Moreover, it can be argued that, in some respects (e.g. with respect to liquidity), investing in unregulated products could be riskier for the investor.
Secondly, unregulated products may present similar levels of complexity as regulated products.
Thirdly, and probably most importantly, the investor who seeks investment advice is equally dependent on the bank’s experience, expertise, and knowledge regardless of whether the provided advice is about regulated or unregulated products. The investor is forced to trust that the bank has conducted diligently all necessary research and has adequately and clearly educated him about the risks associated with the recommended investment. Without this kind of trust on the side of the investor the whole relationship could not function as expected. This is the reason why the principle of good faith requires extensive contractual obligations on the side of the bank to protect the investor’s interests in the first place. This applies equally, irrespective of whether the bank recommends investing in regulated or unregulated products.
These similarities point in the direction that courts dealing with unregulated products should nevertheless interpret the principle of good faith in light of the standards of MiFID, or any other relevant regulation for that matter, when determining the duties of the bank vis-à-vis its investors. Deviations may be necessary, rather as an exception to the rule, on a case-by-case basis. If the bank has breached these duties, then it is liable to pay compensation.
One last remark: Due to the lack of regulation and public supervision, it could be argued that in relation to unregulated products, investors are more dependent on the strict application of the principle of good faith in their contractual relationship. Here, the (ex post) intervention of civil law courts imposing duties of care and awarding damages to aggrieved investors functionally substitutes the missing public supervision. Court judgments constitute here the only way to enforce the conduct of business rules necessary for the smooth functioning of the investment services sector. n
