Reg BI is disappointing at best

Register now

The SEC’s decision to adopt a package of four new rules for brokers and investment advisors can be summed up this way: disappointing or shocking.

The most notable rule, and the one that was arguably the most disappointing, is Regulation Best Interest. Reg BI was meant to increase the standard of care brokers must use in giving investment advice to retail investors, but really does nothing meaningful to enhance the already existing FINRA suitability standard. While the name for the new rule sounds good, it is misleading. Brokers will still only be obligated to perform their duties at the “point of sale” and they will still be allowed to have many of the same conflicts that have plagued the brokerage industry for decades.

Most concerning is that the SEC rule, despite representations from Chairman Clayton to the contrary, appears to allow brokers to satisfy the conflict of interests issue problem through disclosure. That is effectively a rule that says: brokers have to act in their clients’ best interests, unless the broker says otherwise. This was quite a disappointment for PIABA and other investor advocates.

Similarly disappointing was a last-minute item the SEC placed on the agenda. This was an updated interpretation of what it means to be “solely incidental.” For those outside the industry, this may not have seemed like a big issue. However, what it means to be “solely incidental” is the key to whether the advice given falls under the rules for a broker or under the rules for investment advisors, who are fiduciaries as a matter of law.

Here, there was hope the SEC would limit what brokers could do without being considered investment advisors, therefore mitigating the negative impact of Reg BI. However, the SEC instead merely restated the same broad interpretation brokerage firms have been using for many years to avoid being called investment advisors, even though they offer and advertise as if brokerage firms provide the same services.

The adoption of Form CRS was more shocking than disappointing. The SEC essentially ignored the analysis it had paid to have done, which ultimately showed Form CRS did not accomplish its goal of informing investors about the relationship created when a brokerage account was opened. It also did not address critics' concerns about the confusion Form CRS would cause.

Brokerages would rather have an SEC chief appointed by a President Trump set policies than take its chances with what might happen should a Democrat win the White House in 2020.
May 30
3 Min Read
With brokerage firms lining up in support of the SEC proposal, fiduciary planners aim to keep their differences from the BD channel intact.
May 17
4 Min Read

Rather than address the issues critics raised or that the testing definitively showed, the SEC chose to adopt rules that give brokerage firms incredible discretion in how to craft the language meant to define and disclose the relationship an investor has with a particular firm. Moreover, since the language will be different at each brokerage firm, the SEC decided further testing would be impossible. As a result, we know Form CRS does not work and now there will be no way to test whether it even can work.

Last, and the most shocking, was the SEC gave a new interpretation of what it means for an investment advisor to have a “fiduciary duty.” Here, no one was asking to change the understanding of fiduciary duties. Most investment advisors embrace the full meaning of being a fiduciary and want to be held to a higher standard. Nevertheless, the SEC gave an interpretation of the investment advisor fiduciary standard that lessened the standard for investment fiduciaries.

In doing so, the SEC essentially undercut decades of law that has developed the obligations of investment advisors and narrowly interpreted a few cases to mean that investment advisors do not have to put their clients’ best interests first, but just cannot subordinate or subrogate their clients’ interests. Also, according to the SEC, many conflicts can be disclosed instead of them having to be avoided, which was the understanding of most advisors for many years. This was a completely unnecessary move from the SEC and inconsistent with the SEC’s original proposal, the mandate of the SEC to protect investors and many years of law.

Ultimately, today may go down in history as one of the most disappointing days, and in some ways one of the worst days, for retail investors. The SEC had the opportunity to finally bring the rules and regulations concerning investment advice into the 21st century and in line with investor expectations.

Instead, the SEC took great effort to protect the business models of the status quo, even if doing so was not in the best interests of investors. What this means for investors is that their best chance of getting meaningful protection is from the states that are imposing a fiduciary standard on all who give financial advice.

For reprint and licensing requests for this article, click here.
Regulation Best Interest Fiduciary standard SEC regulations Regulatory reform Wirehouse advisors Financial services industry SEC