The Securities and Exchange Commission (S.E.C.) voted last Wednesday to pass the Regulation Best Interest rule. The Commission claims the changes would help Main Street investors by tightening the standards governing brokers who sell investment products and outlining a fresh interpretation of the duties of investment advisers who provide financial guidance.
According to Jay Clayton, the S.E.C.’s chairman, “This rule-making package will bring the legal requirements and mandated disclosures for broker-dealers and investment advisers in line with reasonable investor expectations.”
Not all agree with Mr. Clayton. In fact, my colleague, William B. Cohan, writing in a recent Vanity Fair article says, “An Orwellian new rule, dubbed “Regulation Best Interest,” gives investment advisers the freedom to sell stuff they wouldn’t buy themselves.”
He says, that “instead of raising the standards for everyone who manages money, whether at a Wall Street firm or at a money-management firm, the SEC has now lowered the standards across the board…. instead of trying to raise up the standards of the brokers to those of the investment professionals.”
Cohan believes that ”instead of ending up with a higher standard of care, we will end up with a lower standard of care.”
To date, about half of all Americans invest in the market. As many do not necessarily have the market sophistication to invest themselves, they trust a broker such as Morgan Stanley or Merrill Lynch or a money management firm, Edward Jones, Fidelity and others to do so for them.
However, there are different rules that each of these abide by and with the S.E.C. trying to level the playing field they may instead have deliberately dumbed it down. While investment professionals at a money management firm charge more in fees, they act as “fiduciaries” for their clients which mandates they put their clients’ interests first. They would not put their client into an investment product they themselves would not invest in and are held by themselves and “others to a higher standard of professionalism.”
Contrast that with a broker who works under a standard of “suitability.” While they may do their best to meet their client’s goals, they may not necessarily put their clients’ needs first, and might in fact put them into an investment they themselves would not consider. Brokers also get paid for each transaction they close. The higher the price the more commission and the more transactions they make the more commissions they make.
One, the investment professional is a trusted advisor, the other, the broker is a transactional salesperson operating under a “suitability” rule, not a “fiduciary” rule.
Heather Slavkin Corzo, a senior fellow at Americans for Financial Reform and director of capital markets policy at the A.F.L.-C.I.O says, ”When working people seek out investment advice, they expect and deserve to be able to rely on the people providing that advice to prioritize their need for a secure financial future over the financial professional’s interest in getting rich.”
Commenting on fiduciary responsibilities, Corporate Compliance Insights says, “the industry is still left waiting for clarity and is concerned about how Regulation Best Interest and the SEC’s more fulsome definition of fiduciary duty will be implemented.”
Many of these commenters provided feedback that the terms “best interest” and “fiduciary duty” create “blurred lines” in the industry – after all, are they not the same thing?
The SEC attempted to make this clear: “[a]n investment adviser’s fiduciary duty is similar to, but not the same as, the proposed obligations of broker-dealers under Regulation Best Interest.” But unfortunately, the simple language in the rule does allow for broad interpretations and can have the effect of lowering the standard for investment advisers.
Jamie Hopkins writing for Forbes says, “The S.E.C. is not drawing the line,” he said. “They are telling the brokerage industry to draw the line… While some will say this new rule pushed forward the fiduciary standard, it could be setting the stage for even more consumer confusion and a watering down of the highest legal standard of care across financial services.”
Am I missing something? Isn’t asking the brokerage industry to monitor themselves kind of like asking the fox to guard the chicken coop?
Sullivan & Cromwell
Sometime back I had commented on President Trump’s pick for chairman of the Securities and Exchange Commission, corporate attorney, Walter J. (Jay) Clayton, a law partner at Sullivan & Cromwell has worked extensively with Goldman Sachs and has stated he wants to promote growth by scaling back regulations.
Mr. Clayton was noted as one of the most conflicted potential appointees to the President’s cabinet for several reasons, not the least of which were his Goldman Sachs ties. He had also represented eight of the ten largest Wall Street banks within the last three-plus years in several IPO transactions.
I quoted a Wall Street Journal article that said, these are the very same banks “that are serially charged by the SEC for increasingly creative means of fleecing the public. If that’s not enough to conflict Clayton out of consideration to Chair the SEC post, then conflicts of interest have lost all meaning within the legal lexicon of the United States.”
My question then which still holds is how can we expect Mr. Clayton to hold Wall Street banks accountable, when after his SEC appointment is over, he will probably be returning to his former firm, and continue his work with the Wall Street banks?
I have previously asked how can we expect impartiality and firm ethical decisions from the S.E.C.? Too often we have seen the Wall Street revolving door play out numerous times and this new ruling may be another example. I and others believe this new ruling again points out the influence Wall Street has on our current administration. Wall Street pretty much still gets what Wall Street wants.
LATE BREAKING UPDATE
In the Regulation Best Interest rules package, the SEC specifically revised a footnote having significant consequence. Previously investment advisers were required to avoid conflicts of interest and make a full disclosure of all material conflicts of interest. The SEC changed the “and” to “or.”
According to SEC Investor Advocate Rick Fleming, “That alteration weakens the existing fiduciary standard by suggesting that liability for nearly all conflicts can be avoided through disclosure.”
Richard Bowen is widely known as the Citigroup whistleblower. As Business Chief Underwriter for Citigroup during the housing bubble financial crisis meltdown, he repeatedly warned Citi executive management and the board about fraudulent behavior within the organization. The company certified poor mortgages as quality mortgages and sold them to Fannie Mae, Freddie Mac and other investors.
