07.25.18

Concerns Over SEC's Proposed ‘Regulation Best Interest' Rain Down; Lobbying Intensifies

by: Rich Blake

The 90-day window for public comment on the Securities and Exchange Commission's advice-reform proposal is scheduled to close on August 7, barring an extension. Given the scope of new paperwork that could arise, and the need to test these sample disclosure forms out on the public at large, it’s not a stretch to think the deadline could be extended. Otherwise, industry members inclined to do so should be prepared to submit comments soon, lest the dog days of August scuttle best intentions.

Released by the SEC this past spring — after the U.S. Court of Appeals for the 5th Circuit struck down the Department of Labor's multi-faceted standard-of-care-elevation effort, also known as the Fiduciary Rule — the new federal proposal seeks to establish a “best interest” standard of conduct for broker-dealers when they do anything that could be construed as giving investment advice.

As of mid-July, hundreds of comments had been logged and made public. The bulk of them are from individual citizens across a range of professions, including but not limited to financial services. Additionally, several dozen organizational sit-down and phone meetings have been chronicled. However, details of those meetings are not made public. Memorandums merely state, via a token, standardized, tack-on line, how “participants discussed, among other things, the [SEC’s] proposed rules and interpretation relating to standards of conduct for investment professionals.”

Comments range from formal 12-page letters to just a few flippant sentences, sometimes biting, but more often polite and even-keeled. A cursory read-through of a sampling of about two dozen or so of the comments reveals a few common themes.

Too Vague

One of the most frequently expressed misgivings is that the regulation is rife with ambiguity.

Or, as the Committee on Capital Markets Regulation put it: "We think that the SEC should be cognizant of the fact that the principles-based nature of the Regulation Best Interest proposal creates some ambiguity in the proposed rule and subjects it to differing interpretations based on particular facts and circumstances and differing interpretations over time."

In a letter signed by co-chair and noted business scholar R. Glenn Hubbard, the CCMR gave an example: the requirement that broker/dealers disclose and “mitigate” material conflicts of interest arising from financial incentives. "The rule does not define what it means to reasonably mitigate such conflicts," Hubbard and cohorts, which also include Brookings Institution’s John Thornton and Harvard Professor Hal Scott, said. "Would obtaining a customer’s informed consent constitute sufficient mitigation? Or would other steps need to be taken?"

The New York City Bar's Committee on Investment Management Regulation, via a letter signed by Chair Frank Nasta, shared this concern. "Generalized language could cast a cloud over the reasonable efforts of investment advisors that provide disclosure of actual or potential conflicts to clients," Nasta said.

Considering the extensive disclosures that are required to be given, Nasta asserted, any advisor that provides the required disclosures about conflicts, and responds to a client's questions about the conflicts of interest that have been disclosed, should be considered as having acted reasonably in terms of adequately informing their client.

Pragmatism Urged

Peter E. Bulger, of Front Street Consulting, shared a comment in a way that was typical, taking a shot at the DoL while supporting reasonable transparency. "Both advisor and broker models involve conflicts where the best approach is to be transparent by required disclosures,” he said. “Of course, the disclosure must be in readable and understandable using plain language."

Similarly, David S. Addington, Senior Vice President, General Counsel, National Federation of Independent Business (NFIB) urged pragmatism: “The DOL and SEC need not start from scratch. They should (a) take the large volume of work that both agencies have performed to date, (b) winnow the customer-protecting wheat from the bureaucracy-pleasing chaff and (c) publish a slimmed-down and joint DOL-SEC proposed rule that meets the needs of the regulating agencies, the regulated businesses (especially including the small and independent ones) and the investing public.”

Scores of submissions ultimately delivered a plain and simple message: Whatever you do, be sure to put clients first. Benjamin Prybutok, a registered representative for over 30 years, said "The overall standard is a state of mind and an adherence to do things that are in the best interest of the customer."

Kaitlyn Long, research analyst, International Brotherhood of Teamsters added, “I believe financial advisors in the United States absolutely need to be held to a fiduciary standard. Anything less is inadequate.”

Among the companies and associations that met with the SEC were: the Committee of Annuity Insurers, Morningstar, Fidelity, New York Life Insurance, the Investment Advisers Association, the Investment Company Institute, the North American Securities Administrators Association and the Institute for the Fiduciary Standard, which has been among the more vocal advocates. Its ongoing “Raise Your Voice” campaign urges RIAs (SEC and state-registered investment advisors) to write the SEC and explain how independent financial advisors are different from brokers. Brokers operate under a suitability standard, the campaign’s leaders stress while RIAs must put their clients’ interests first at all times.

The Institute for the Fiduciary Standard’s cofounder Knut Rostad explained that the group’s main concern is that the SEC rulemaking effort will result, if not expressly then via implication, in a harmonized standard for all brokers and advisors. The uniform standard, Rostad said, can best be described as “suitability plus,” which is how Commissioner Hester Peirce described it. Meaning, that it merely gives the appearance of elevation. The industry’s free pass on compliance is the FINRA-enforced policy preventing clients from filing private lawsuits. “It all comes back to a more basic question,” Rostand said. “If there is no material difference between brokers and advisors for retail investors, what is the point of advisors who generally only serve retail investors?”

The deadline for comments is Aug. 7. If interested, you can submit your comment here.