A proposal advanced Monday by Wall Street's industry-funded regulator that would require greater compensation disclosure has exposed a chasm in the advisory industry, pitting smaller broker-dealers against large wirehouses and independent advisers.
A draft of the rule, which the Financial Industry Regulatory Authority Inc. has filed with the Securities and Exchange Commission, would require brokers to disclose recruitment incentives over $100,000 to clients and could lead to some stabilization or tapering of large recruitment packages, according to industry experts.
That fact could be a huge boon to wirehouses, which offer some of the largest incentive packages on Wall Street, but also to registered investment advisory firms that many broker-dealers and compliance lawyers say would have less of a compliance burden.
“It certainly could create a very interesting situation at firms where it could actually drive the industry toward reducing those payments,” said Alois Pirker, a research director for Aite Group's wealth management consulting group. “Ultimately, once it's out in the open, firms could have a hard time going way beyond the highest payments.”
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After Finra's board approved sending a rule to the Securities and Exchange Commission for its approval last September, the regulator saw a raft of comments from industry executives, lawyers and advisers.
WIREHOUSE SUPPORT
The four wirehouses, which offer some of the largest incentive packages on Wall Street, voiced their support. At the same time, many of their smaller-tier competitors warned the regulatory agency that the disclosures could create a new competitive disadvantage for the brokerage firms against RIAs.
“Because of the regulatory gap that exists between broker-dealers and investment advisers, we have concerns that [the proposed rule] will serve as yet another reason to move away from Finra's regulatory jurisdiction,” wrote the executive vice president of the Financial Services Institute Inc., David T. Bellaire, in a comment letter.
“As the compliance burden increases on financial advisors with broker-dealer affiliations, some may feel drawn toward the registered investment adviser business-model which does not apply the same proscriptive rules-based approach,” he wrote. “This movement toward a less regulated environment introduces competitive concerns and, more importantly, increases the risk that investors face in the marketplace.”
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Some regional brokerages, including Stifel Nicolaus & Co., have said that the rule could have an anti-competitive impact on smaller firms who depend heavily on recruiting veteran advisers to grow.
Other broker-dealers argue it added to the perception that investment advisers and their custodians are regulated less onerously.
Wells Fargo Advisors "believes a final rule can be strengthened to ameliorate the potential for unequal treatment of broker-dealers and registered investment advisers," Robert T. Mooney, chief compliance officer for retail brokerage at Wells Fargo Advisors, wrote in a comment letter to Finra.
Meanwhile, large brokerage firms have been looking to move away from the type of large deals that could trigger a disclosure. A top offer from a wirehouse could provide an adviser with as much as 300% of what that adviser has earned in fees and commissions, according to data from Mark Elzweig, a New York-based recruiter.
“This rule is very well-designed to help them control their spending on bonuses and retention,” said Brian Hamburger, the president and CEO of MarketCounsel, a compliance consultant that works with advisers moving to the independent space. “This is a move amongst big firms to call for a bit of a ceasefire to what has been an escalating bonus blitz.”
'COSTLY EXERCISE'
The money is generally paid out in upfront loans and back-end bonuses, which can be conditioned on terms such as how many clients move with the adviser.
“A lot of firms are keen to get away from it because it is a hugely costly exercise for them,” Mr. Pirker said.
UBS Wealth Management Americas spent $690 million on recruitment compensation last year, roughly 10% of its total revenue, according to the filings with the SEC. A spokesman for the firm, Gregg Rosenberg, declined to comment.
The high level of turmoil and attrition is a “tax on the industry, obviously, and it's inconvenient for clients in many cases,” James Gorman, Morgan Stanley's chairman and CEO, said in a call discussing third-quarter earnings last year.
Firms have been looking to step back from recruiting expenses, but no one wants to have the lowest deal, Mr. Pirker said. Having an industrywide rule such as the bonus disclosure rule could level the playing field, he said.
“It's like an auction,” Mr. Pirker said. “Stepping up is easy, but stepping down is a little harder.”
It could also prompt firms to trim their offers as it draws more public attention to the size of the offers, similar to how firms disclose top executive pay, Mr. Pirker said. Firms won't want to be perceived by the public or the industry as overpaying, he said.
“When firms are forced to publish salaries of top executives, the intention is to curb the crazy salaries on which they operate,” he said. “That pressure internally could get them to be more cautious with these packages.”
Mr. Pirker acknowledged that while the moves could temper the packages, they aren't likely to go away entirely.
“There will still be some firms aiming to be higher than others,” he said. “But it could certainly help with a stepping down across the industry.”
A spokeswoman for Morgan Stanley, Christine Jockle, said that the firm would not speculate on “what, if any, impact the rule would have on the size of recruiting packages.”
All four wirehouses grounded their support in the fact that the proposal could help increase transparency and give clients more of a choice in how they move.
“We also agree that uniform, industrywide standards are the best way to achieve better disclosure for clients,” Brent Taylor, managing director and senior deputy counsel for UBS, wrote in a comment letter on behalf of the firm.
