The Fiduciary Battle Continues, Now Under Federal Microscope

Among other measures, the Obama administration proposed today that the Securities and Exchange Commission (SEC) require that broker-dealers offering investment advice be held to the fiduciary standard rather than the suitability standard. The SEC would also be empowered to examine and ban forms of compensation that encourage intermediaries to put investors into products that are profitable to the intermediary, but are not in the investors’ best interest. In addition, the package called for “harmonizing” the regulation of investment advisors and broker-dealers.

Proposed White House reforms to financial services industry regulation, released today, had many claiming they would bring about the most sweeping overhaul of financial regulation since the Great Depression. The reforms, outlined in an 88-page white paper, would give new powers to the Federal Reserve (the U.S. central bank) to oversee the entire financial system and would create a new consumer protection agency to guard against the mortgage and credit card abuses which played a lead role in the current crisis, says a story in the AP.

Among other measures, the Obama administration proposed today that the Securities and Exchange Commission (SEC) require that broker-dealers offering investment advice be held to the fiduciary standard rather than the suitability standard. The SEC would also be empowered to examine and ban forms of compensation that encourage intermediaries to put investors into products that are profitable to the intermediary, but are not in the investors’ best interest.

In addition, the package called for “harmonizing” the regulation of investment advisors and broker-dealers.

This will surely prove controversial with some in the financial advisor community, split as it is between broker/dealer registered reps, who hold the Series 7 license and are regulated under The Securities Exchange Act of 1934, and investment adviser reps, who are regulated under the Investment Advisers Act of 1940 and hold series 65 licenses. The former are required only to select investments for their clients that are suitable, while the latter must act as fiduciaries, putting the interests of their clients before their own when selecting investments. The fiduciary standard is a tougher standard to meet, but registered reps often claim that they are subject to much tougher regulation in general. It used to be that the two kinds of advisors offered very different services, but these days they are looking more and more alike. (For more on this, take a look at our story Fix Advisor Laws, from our March 2008 issue.)

Welcome to a post Madoff world. “The Madoff episode revealed the risks in having separate regulatory bodies to oversee investment advisers and broker-dealers, especially when these businesses may exist in the same legal entity,” said FINRA Chairman Richard Ketchum in remarks prepared for the Exchequer Club in Washington today. It was no real surprise Ketchum supports the administration’s focus on this issue. As recently discussed in Registered Rep.’s Editor and Chief, David Geracioti’s blog, Vonaldo.com, FINRA Chairman Richard Ketchum supposedly urged the SEC to convert all “financial advisors” to a fiduciary status with FINRA as the SRO in charge.

While passage is uncertain and the debate in Congress will be intense, Eric Schwartz, founder of Fairfield Iowa independent b/d Cambridge Investment Research, says he thinks most investment advisors are celebrating today because there was no mention of creating a separate SRO for them.

“I think the biggest fear for advisors is that they would actually be under FINRA and that at least for now doesn’t seem to be the way it’s going,” Schwartz says. On the other hand, talk of a “harmonization” of the rules between b/ds and RIAs suggests that there could be a single regulator down the line. “There is a lot of devil in the details and RIAs may not be celebrating if they discover the regulation on them goes up ten-fold even though they don’t have FINRA looking over them. Not saying it is going to go up ten-fold, but we all recognize that RIAs have been regulated way less than b/ds.”

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