Tuesday marks the close of a public comment period for the Securities and Exchange Commission’s Regulation Best Interest, a recasting of the politically imploded fiduciary standards crafted during the Obama administration by the Department of Labor.
Ahead of the Aug. 7 deadline, proponents, opponents, and the not-entirely convinced weighed in with nearly equal parts praise and concern.
On April 18, the SEC proposed a package of proposals—more than 1,000 pages long with 1,800 footnotes—to “address retail investor confusion about the relationships that they have with investment professionals.”
Under the proposed Regulation Best Interest, a broker-dealer making a recommendation to a retail customer would have a duty to act in that customer’s best interest, without putting their own financial or other interests ahead of the client.
Under a “care obligation,” firms and individuals would need to “exercise reasonable diligence, care, skill, and prudence to understand the product; have a reasonable basis to believe that the product is in the retail customer’s best interest; and have a reasonable basis to believe that a series of transactions is in the retail customer’s best interest.”
A “conflict of interest obligation” requires that broker-dealers “establish, maintain, and enforce policies and procedures reasonably designed to disclose and mitigate, or eliminate, material conflicts of interest arising from financial incentives.” Other material conflicts of interest “must be at least disclosed.”
In conjunction with the proposal, the SEC also proposed a new short-form disclosure document—a customer or client relationship summary. Form CRS would provide retail investors with “easy-to-understand information about the nature of their relationship with their investment professional.”
Ken Fisher of Fisher Investments was among those who suggested ways to improve the Commission’s proposal. Among his conclusions: “While well-intentioned, true harmonization will only increase investor confusion.”
“Having worked in the industry longer than most, I remember a simpler world,” he wrote. “Brokers, calling themselves stockbrokers or registered representatives, sold investment products for a commission. Investment advisers gave investment advice for a fee. People generally understood the differences. Over the last few decades, brokers have intentionally blurred these distinctions by calling themselves “advisers” and by offering more and more investment advice. The result is investor confusion.”
“The Progressive Party consisting of the AARP, unions, and alleged consumer activist groups tried to ram an illegal rule down the throats of consumers. Luckily a court stopped this heist of consumer rights.”
Robert Shaw, Founder, Shaw Financial Services
Fisher wrote that while it is important for brokers to operate under standards of conduct that protect investors, “any further blurring, even if called ‘harmonization’ or branded with another catchy slogan, will only magnify the problem.”
“Instead, we need dis-harmonization,” he added. “We need clear, bright, red lines so investors know exactly what they are getting.”
Specifically, Fisher proposed prohibiting brokers and their representatives from calling themselves “advisers” or “advisors,” praising the SEC’s efforts to do so as “a good first step,” albeit one that “does not go far enough.”
“The brokerage and advisory businesses need clear, separate words to describe them, as intended by the Securities Exchange Act of 1934, regulating brokers, and the Investment Advisers Act of 1940 regulating investment advisers,” he wrote. In his view, the SEC ought to rule that only investment advisers not also registered as brokers are permitted to call themselves “advisers.” Brokers should be required to call themselves “brokers.” Insurance producers, financial planners, and anyone else who may want to give investment advice, should likewise be prohibited from referring to themselves as “advisers.”
“The word ‘advisor’ should be banned entirely,” Fisher wrote. “Requiring actors within the financial services industry to accurately describe their role is common sense and good public policy.”
Jeffrey Rosenthal, president and CEO of Georgia-based Triad Advisors, wrote that he “supports a carefully-crafted, uniform fiduciary standard of care that will be applicable to all financial professionals providing personalized investment advice to retail clients.”
Rosenthal recommended that the SEC revise the definition of retail customer to mirror FINRA rules and regulatory notices. Specifically, he noted, FINRA Rule 2111(b), provides for a lower standard of care when making a recommendation to a customer with total assets of $50 million.
He also wrote in support of “a layered approach to disclosure that includes concise disclosure documents with hyperlinks to more detailed information on the firm’s Website.”
“This new regulation on best interest is a move in the right direction, but it’s not enough,” says Jacob Williams, director of planning and research at The Helmstar Group.
“I have to ask myself whether I’d be comfortable sending my mom and dad to someone who only has a suitability standard plus a little more with the best interest language,” he wrote. “Let’s get everyone on the same page ASAP instead of taking baby steps. I would feel more comfortable knowing my mom and dad went to someone who was held to a fiduciary duty.”
“This should be an opportunity for the SEC to take a stand on doing what’s right as opposed to doing what’s in the financial service’s best interest,” Williams added.
The Committee on Capital Markets Regulation, a bipartisan research group, also took advantage of the comment period.
The Committee is jointly chaired by R. Glenn Hubbard (dean of Columbia Business School) and John Thornton (chairman of The Brookings Institution) and directed by Hal S. Scott (professor of international financial systems at Harvard Law School).
“We believe it is an appropriate time to adopt a best-interest standard applicable to broker-dealers making recommendations to retail customers that applies uniformly to all account types,” they wrote. “And we believe that the SEC is the appropriate agency to lead such an effort because of its expertise in securities markets.”
While generally favorable of the effort, the Committee outlined concerns.
“We agree with a principles-based approach but emphasize that the SEC will need to work closely with the industry to provide feedback and guidance as the regulation is implemented,” they wrote. Also, “the Form CRS relationship summary is excessively complicated and should be shortened and simplified with supplemental disclosures made available online.”
“The Commission should carefully consider refining the proposal to better reflect the unprecedented investor diversity in today’s marketplace,” wrote Tom C.W. Lin, professor of law at Temple University’s Beasley School of Law.
“Today’s investors, including retail investors, have varying investment timelines, objectives, means, and ‘best interests.’ As such, while it is important to protect every retail investor, it is also important to acknowledge that not every retail investor is the same, and thus not every investor needs the same type of protection,” Lin wrote.
In his view, the Commission should “carefully consider the limited utility of disclosure as a primary means of protecting retail investors and ensuring their ‘best interests’ as detailed in the proposal.
“As evidenced by a growing body of research, because of numerous behavioral biases and cognitive tendencies, disclosure has frequently not been as informative or useful in protecting retail investors,” he added.
The Commission should also “carefully consider the additional regulatory complexity and compliance costs the proposal could add to current broker-dealers and other financial institutions, and how these burdens may ultimately lead to higher costs and less competition to the detriment of retail investors,” Lin added. “To the extent practical, the Commission should work with other well-intentioned regulators towards a proposal that best integrates and reconciles the current prevailing regulations intended to safeguard the ‘best interests’ of retail investors so as to better minimize needless complexity and compliance costs associated with the proposal.”
Robert Shaw, owner of Shaw Financial Services, said the SEC’s proposal “is much better than the Labor Department’s fiduciary rule.”
“SEC Commissioner Kara Stein is wrong when she says investors have clamored for a fiduciary rule,” he added. “The Progressive Party consisting of the AARP, unions, and alleged consumer activist groups tried to ram an illegal rule down the throats of consumers. Luckily a court stopped this heist of consumer rights.”
While praising the 4-page CRS, Shaw sees room for improvement.
“Perhaps a paragraph explaining that insurance products are regulated by states and most often brokered might be one addition,” he wrote. “Since the SEC is not the regulator for insurance, this may guide states to form an additional page for those who broker insurance and investments. This may help coordinate with states that are concerned this law will take away their power to regulate efficiently.”
“After giving this some thought, you might consider banning the term ‘best interest’ and call this an Investor Protection Act or something along those lines,” Shaw added. “While fiduciary investing mitigates conflicts and must act prudently, it falsely claims ‘best interest’ when in fact brokerage services are often less expensive and more profitable. Perhaps both sides should drop this verbiage.”
The Investment Adviser Association, an organization representing the interests of federally registered investment advisers, expressed support for the goals of the rulemaking, but also raised specific concerns “about whether these rule proposals as written will achieve their intended goals, or whether they will actually increase investor confusion.”
The group is concerned about potential gaps in retail investor protection arising from the narrow scope and application of Regulation Best Interest. For example, the rule would only apply only in the limited context of, and at the time of, a specific investment recommendation.
The SEC, it says, should more appropriately define advice that is considered not to be “solely incidental” to brokerage activities. At a minimum, the “Commission should confirm its prior position that discretionary investment advice is not solely incidental to brokerage services.”
The group also warned that, as proposed, Form CRS “may exacerbate the investor confusion it is intended to address.”
“The Commission should provide the educational comparison between investment advisers and brokers (and other financial professionals) on its website, rather than requiring firms to include disclosures about other firms’ services,” it wrote. “Certain proposed language in the relationship summary may increase investor confusion, could be misleading, and may not reflect the likely relationship an investor may have with a specific firm.
Form CRS, the group added, “should be streamlined to focus on the most critical aspects of the relationships and services being offered by each firm to investors.” The summary “should eliminate technical language and industry jargon to the extent possible and work in tandem with other disclosures to ensure that investors fully understand material conflicts of interest.”