The SEC's study on fiduciary duty has inspired thousands of comment letters and nearly two dozen visits to the agency by interest groups. But a report that may have just as big an impact on the advisory industry is garnering little attention.
The SEC's study on fiduciary duty has inspired thousands of comment letters and nearly two dozen visits to the agency by interest groups. But a report that may have just as big an impact on the advisory industry is garnering little attention.
So far, the Securities and Exchange Commission has received only four comment letters about a study examining whether a self-regulatory organization should be established to oversee advisers. Finra is the only group listed as having visited with agency officials about the issue.
The Dodd-Frank measure calls on the SEC to analyze adviser examination and enforcement, and to recommend whether Congress should authorize an SRO to increase the number of adviser examinations. The agency's report is due to be sent to Congress in January.
Currently, the SEC monitors advisers, and delegates broker-dealer regulation to the Financial Industry Regulatory Authority Inc. In congressional testimony this year, the agency estimated that it would examine only about 9% of the approximately 11,500 registered investment advisers over the next fiscal year.
“Finra believes there should be an SRO for investment advisers,” said Howard Schloss, Finra executive vice president for corporate communications and government relations. “The layer of protection that exists in the broker-dealer space also should exist in the investment adviser space.”
Mr. Schloss was circumspect about whether Finra is promoting itself as the adviser SRO.
“We have said Finra would be well-positioned if asked,” Mr. Schloss said.
But the idea of Finra regulation does not sit well with many in the advisory business. In an Oct. 19 comment letter, David Tittsworth, executive director of the Investment Adviser Association, endorsed SEC oversight because it is “an independent governmental regulator directly accountable to Congress and the public.”
Mr. Tittsworth argued that an SRO would suffer from inherent conflicts of interest and would introduce higher costs and regulatory burdens for advisers. He was especially pointed in his opposition to Finra oversight.
“We oppose extending Finra's jurisdiction to investment advisers, due to its lack of accountability, lack of transparency, costs, track record and bias favoring the broker-dealer regulatory model,” Mr. Tittsworth wrote.
Finra countered that the IAA simply is seeking less regulation for advisers. Mr. Schloss criticized an assertion in the IAA letter that a greater number of adviser examinations would not necessarily strengthen investor protection.
“It's Kafkaesque,” Mr. Schloss said. “It's a silly comment to make. It's absurd and really insulting to investors.”
But Mr. Tittsworth points to Bernie Madoff as an example of someone who was examined and still managed to steal billions of dollars from investors.
“Nobody turned over the right rock there to find the Ponzi scheme,” Mr. Tittsworth said in an interview.
Furthermore, Mr. Tittsworth argued in his comment letter that the Finra rule book is a poor fit for adviser regulation.
“These detailed sales practices and transactional rules are not appropriate for advisory activities governed by fiduciary principles,” Mr. Tittsworth wrote.
If Finra were to become the adviser SRO, it would not try to impose its rule book on advisers.
“It would not make sense to take a broker-dealer regulatory regime and move it over to the investment adviser space,” Mr. Schloss said.
Concern that Finra is susceptible to its industry membership's diluting its enforcement is outdated, according to Mr. Schloss. He noted that Finra governance has changed dramatically over the last 15 years. It now has a majority public board, and regulatory and enforcement decisions are made by Finra staff.
“We're overseen extensively by the SEC,” Mr. Schloss said. “We're quite transparent.”
Mr. Tittsworth's preferred alternative to Finra's being tapped by the SEC for adviser oversight is for the agency to acquire greater resources.
That's exactly what the Dodd-Frank law provides — by doubling the SEC budget by 2015 and creating a $100 million reserve fund. It also moves approximately 4,000 advisers from SEC oversight to the states to create more capacity for the SEC to monitor advisers to private funds.
The budget levels set by Dodd-Frank, however, are known as authorizations. The money actually has to be delivered by Congress through appropriations. For instance, the SEC has not received any of its 2011 increase, because the federal budget is stalled on Capitol Hill.
“Doubling their budget over the next five years is enormous,” Mr. Tittsworth said. “But you do have the caveat. The appropriations are critical.”
Mr. Schloss, however, has doubts. He questioned whether a bigger budget would enable the SEC to conduct adviser oversight effectively.
In testimony before the Senate Appropriations Committee in April, SEC Chairman Mary Schapiro said that the agency would be able to examine only 9% of advisers in fiscal year 2011 even after adding the 70 examiners that would be funded by the Obama administration's budget request.
For Mr. Tittsworth, however, it's quality, not quantity, that matters in examinations.
“An effective examination program focuses on preventing, detecting and deterring fraud and other abusive practices, rather than on numerical examination targets or technical violations that may not result in investor harm,” Mr. Tittsworth wrote in his comment letter.
