As the Securities and Exchange Commission Chair nominee Gary Gensler awaits his Senate confirmation process, critics of the agency’s Regulation Best Interest acknowledged that new rulemaking would be necessary to enact the changes they sought, according to participants on a conference call hosted by the Institute for the Fiduciary Standard this week.
The Institute put out a new report, urging Gensler and the SEC to make “major repairs” to Reg BI, which went into effect in June of last year. The chance for change was markedly improved by President Donald Trump’s loss in the presidential election, enabling President Joe Biden to fill a seat at the Commission.
The report, co-authored by Institute President Knut Rostad, Ron Rhoades, an associate professor of finance at Western Kentucky University’s Gordon Ford College of Business, and MarketCounsel President and CEO Brian Hamburger, argues that there’s an inherent conflict in using the term ‘best interest’ to apply to the relationship between a broker/dealer and client. Instead, they urged the SEC to “rebrand Reg BI as a ‘New Suitability’ standard for broker/dealers” to clarify that brokers’ product recommendations are different from best interest fiduciary advice.
“I think that we’re talking about renaming the rule, so that’s going to require an amendment to the rule,” Rostad said. “I don’t think what we’re recommending can be done entirely through interpretive guidance. I think some of it can be, but not all of it.”
The three authors were prominent critics of Reg BI during its proposal process, with Hamburger writing in an August 2018 comment letter that the way in which the rule was phrased and framed “makes investors feel that they are getting what is best for them, when in reality, they are entitled, at best, to what is not harmful to them.”
The group was optimistic about Biden’s choice of Gensler as his nominee, with Rostad pointing out that a financial commission Gensler chaired in Maryland advocated for the state to enact a uniform standard between brokers and advisors.
Should Gensler be nominated, it remains to be seen how a commission with a 3-2 Democratic leaning would approach changes to Reg BI. Amending or overturning the rule could be a lengthy process, and some argued the rule could be so ‘hardened’ after a year in effect that it would be difficult to reverse entirely. Others, including Barbara Roper, Consumer Federation of America’s director of investor protection, suggested the Biden administration would rely on additional guidance to explain what ‘best interest’ means in a more detailed manner than the SEC has done thus far.
Hamburger agreed with Rostad that the SEC could only do what was needed by extending its reach beyond guidance. He argued that the 2010 Dodd/Frank Act gave the commission the authority to promulgate a uniform standard for fiduciary advice, but that the standard of conduct for b/ds must be 'no less stringent' than that applied to investment advisors.
“So, Congress has spoken,” Hamburger said. “The most effective way we can get back on track here is for Congress to speak again, and for Congress to insist that the SEC act in compliance with the law. Practically speaking, this would require the SEC to amend the rules. The SEC, at a minimum, has to amend these rules in order to ensure we have a very clear standard and practices across the industry.”
The trio’s paper also listed ways the SEC could strengthen b/d regulation by reducing conflicts, while stressing that disclosure of conflicts was insufficient as a remedy. These recommendations included introducing a ‘duty of care’ for brokers when recommending investment advisors to clients, leveling commissions, as well as eliminating 12b-1 fees, sales contests and other types of revenue sharing.
While Rhoades and Hamburger were uncertain about what, if any, steps the SEC might eventually take, Rostad said there was cause for optimism. Like Hamburger, he recalled that this debate had been waged during the past decade, but believed fiduciary proponents learned much in the interim.
“The nature of the difficulty of the task is better appreciated in 2021 than it was in 2010, in terms of doing this,” Rostad said. “I think we need to look at the composition of the three members of the Commission who are sympathetic by nature in terms of what we’re talking about."