The Securities and Exchange Commission (SEC) proposed its own fiduciary rule Wednesday, which would revamp the standards of conduct for broker-dealers. In case you missed the meeting or haven’t been keeping up with all the drama, Citywire is here to help.
So, what did the SEC do?
The SEC voted 4-1 to approve a rule proposal that would change the financial relationship broker-dealers have with their clients. The commission is trying to create a uniform standard of conduct for broker-dealers and SEC-registered investment advisors. The two groups are currently operating along different standards.
Wait. What’s the difference?
SEC-registered investment advisors are required to act as fiduciaries to their clients. That means they can only sell investment products and make trades that are in their clients’ best financial interest. Broker-dealers are only required to sell their clients products that are ‘suitable’ for their financial goals. That means that broker-dealers can run into conflicts of interest— for example, they could sell one mutual fund with a higher fee package over a cheaper fund that performs just as well, because they may receive a bigger commission for selling the high fee fund.
The SEC’s rule proposal is trying to make broker-dealers put the best financial interests of their clients first.
That sounds like a good idea. Where can I read the proposal?
Well, you can’t read it…yet. The proposal hasn’t been released to the public yet but it should be in the coming days, as the SEC is now required to solicit public comment on it for 90 days before making amendments and reconvening for a final vote.
When it does come out, you probably should pull out your reading glasses. Citywire has learned the voluminous proposal is around 1,000 pages long and contains over 1,000 footnotes. That’s a lot of fine print!
Well, can you at least give me an outline?
Happily. The SEC has proposed a ‘regulation best interest’ for broker-dealers. The SEC’s best interest standard would require broker-dealers to disclose their financial conflicts of interest, at minimum mitigate any conflicts of interest they may have and ‘exercise reasonable diligence, care, skill and prudence’ to ensure they are selling products and carrying out transactions that are in a client’s best interest.
The commission also wants to ban some broker-dealers from using ‘adviser’ or ‘advisor’ in their title so they can’t mislead customers into thinking they are SEC-registered investment advisors with fiduciary duties. Broker-dealers and investment advisors would also be required to give investors a brief document summarizing their legal standards of conduct.
One issue with the proposal is that it apparently doesn’t provide a definition of ‘best interest.’ That helped prompt SEC commissioner Kara Stein, an Obama appointee, to cast the lone dissenting vote.
Didn’t the government try to do something like this already?
Yes. The Department of Labor (DOL) had its own fiduciary rule for broker-dealers, which was recently struck down by a panel of judges in a federal appeals court. The DOL has until April 30 to decide if it wants to appeal to the full appeals court and until June 13 to decide if it wants to appeal to the Supreme Court.
If the DOL does nothing, the rule will roll off the books on May 7. So far, the agency hasn’t said anything about whether it will appeal the ruling, but isn’t enforcing the rule in the meantime.
What’s the difference between the two rules?
The SEC’s rule applies to all investment accounts, while the DOL’s rule only applied to retirement savings.
Critics of the SEC rule would also argue that it doesn’t go far enough to limit the conduct of broker-dealers. For example, the SEC rule doesn’t contain any hard prohibitions on specific activities of broker-dealers. Under the SEC rule, broker-dealers could still carry out sales contests.
Those contests got Scottrade in trouble under the DOL fiduciary rule. Massachusetts regulators accused the firm of linking bonuses to retirement accounts.
What’s next?
Keep an eye on the courts to see if the DOL decides to appeal the ruling overturning its fiduciary rule. If it doesn’t, expect the agency to work with the SEC to help refine the commission’s proposal, which would become the industry standard.
