Election 2020: Restoring balance, and investor protections, at the SEC

Signage is displayed outside the headquarters building of the U.S. Securities and Exchange Commission (SEC) in Washington, D.C.,  on Dec. 22, 2018. Photographer: Zach Gibson/Bloomberg
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The SEC’s mission is threefold: protect investors; maintain fair, orderly, and efficient markets; and facilitate capital formation. Over the past four years, the regulator has prioritized one aspect — facilitate capital formation — to the detriment of protecting investors.

Indeed, investor protection has been slowly eroded under the guise of investor choice. But the only choices investors have been given is how they will be misled, and taken advantage of and by whom. The SEC expanded the private securities markets and the pool of people who qualify as accredited investors, and is poised to expand who may act as an unregistered finder for private offerings. The commission adopted Regulation Best Interest which created the impression that brokers must do what’s best for investors, but really it is a watered-down, undefined standard that appears only slightly more stringent than the FINRA suitability standard.

Big changes to regulations and retirement planning could be in the mix following the Democrat’s election victory.
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With the arrival of a new administration, there are a number of things the SEC can and should do immediately to restore investor protections. The regulator should update its accredited investor definition to account for inflation since the standards were initially adopted in the early 1980s. The thresholds to qualify as an accredited investor have remained unchanged for almost 40 years. However, the number of households that meet the definition have increased from 1.8% to 13% simply by forty years of inflation. Seven times as many people can now participate in private securities offerings — offerings that do not offer investors the full protections of securities laws.

These same individuals may now be offered a wider platter of securities now that the SEC has also expanded the private markets. In addition to updating the accredited investor definition, the regulator should walk back the expansions to the private markets. The SEC should ensure that private placements are only sold to those sophisticated and experienced investors who are capable of vetting the investments and making an informed decision about the risks associated with them, not to the average retiree who ends up betting their retirement on what may be poorly structured investments, or worse, Ponzi schemes.

The SEC is poised to further roll back investor protections by allowing finders for private placements, those who solicit investors for the issuers, to conduct business without being registered at all. Investors will be left wholly unprotected, and likely confused about who they are dealing with and what duties they are owed when investing in private placements. The SEC should go back to the drawing board with this proposal.

Investors also deserve greater protections when it comes to a broker’s duties. The industry has spent decades selling itself to the public as a source of trusted advice, and the public believed it. Today, investors have no idea what the difference is between an investment advisor and a broker. As far as most investors are concerned, they trust the person handling their account. Reg BI, unfortunately, has muddied the waters and does not hold those providing investment advice to the highest standard of care.

The SEC needs to ensure that brokers are required to do what’s best for the investor, without regard for the broker’s own interests, not the current tie-goes-to-the-broker standard. The SEC can do that through further regulation, defining “best interest” and imposing a true fiduciary duty on brokers and their firms.

When the SEC was first formed, Congress sought to remove the concept of caveat emptor, buyer beware, from the markets. The SEC knows that the public trust in the markets is essential. Investor protection is core to that trust, and core to the other two pillars of the regulator’s mission. After all, if investors don’t believe they can safely invest in the markets, the markets can’t function and there is no capital formation. With a new administration, the SEC has an opportunity to remember this third pillar of its mission and renew its focus on investor protection. Hopefully, they get started right away.

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Election 2020 Regulatory reform Regulatory actions and programs SEC SEC regulations Regulation Best Interest Fiduciary standard