House Financial Services Committee Advances Investor Protection Act
Here's our update regarding proposed changes to the regulation of investment advisers.
The Financial Services Committee of the U.S. House of Representatives advanced H.R. 3817, the Investor Protection Act, out of committee yesterday. According to the Financial Services Committee's press release, key provisions of this bill include the following:
The Financial Services Committee of the U.S. House of Representatives advanced H.R. 3817, the Investor Protection Act, out of committee yesterday. According to the Financial Services Committee's press release, key provisions of this bill include the following:
- an independent study of the regulatory structure for the securities industry;
- a doubling of the authorized fund for the U.S. Securities and Exchange Commission ("SEC") over five years;
- a requirement that every financial imtermediary who provides advice will have a fiduciary duty towards the customer; and
- an authorization for the SEC to prohibit mandatory arbitration provisions in customer contracts.
Although there was no reference in the Financial Services Committee's press release concerning the amendment to H.R. 3817 approved last week, which raises assets under management requirement from $25,000,000 to $100,000,000, this amendment will effectively result in many registered investment advisors being regulated at the state instead federal level.
Investment News is reporting that H.R. 3817 advanced out of committee with the controversial amendment that gives Financial Industry Regulatory Authority ("FINRA") regulatory authority over registered investment advisors, which are also dually registered as broker-dealers. According to Investment News, Financial Services Committee Chairman opposes this provision and will offer an amendment during the floor debate to strip out this provision from H.R. 3817.
Once the House releases a mark-up of H.R. 3817 as passed out of committee, RIA Compliance will share with its readers additional details about the proposed legislation.
Labels: Arbitration, Fiduciary, SEC, SRO
posted by bhill at 10:29 PM
Broker-Dealer Trade Group Supports Holding Registered Reps to Fiduciary Standard
The Securities Industry and Financial Markets Association ("SIFMA") announced today that it supports the holding of broker-dealers and registered investment advisers to a new federal federal fiduciary standard when providing personalized investment advice. However, SIFMA noted that current standards and rules (apparently in lieu of a fiduciary standard) should apply to broker-dealers in those business areas where registered investment advisers do not offer services, such as raising capital for business or mergers and acquisitions.
SIFMA is one of the largest trade group for broker-dealers in the securities industry, and its support increases the likelihood that Congress will adopt the Obama Administration's proposal to hold broker-dealers and their registered representatives to a fiduciary standard. Interestingly, the SIFMA announcement did not address issues such as the sale of proprietary product by registered representatives of broker-dealers and whether the Financial Industry Regulatory Authority ("FINRA") should serve as the self-regulatory organizaiton ("SRO") for SEC registered investment advisers. These are the type of details that will be subject a battle in Congress during the next few months.
SIFMA is one of the largest trade group for broker-dealers in the securities industry, and its support increases the likelihood that Congress will adopt the Obama Administration's proposal to hold broker-dealers and their registered representatives to a fiduciary standard. Interestingly, the SIFMA announcement did not address issues such as the sale of proprietary product by registered representatives of broker-dealers and whether the Financial Industry Regulatory Authority ("FINRA") should serve as the self-regulatory organizaiton ("SRO") for SEC registered investment advisers. These are the type of details that will be subject a battle in Congress during the next few months.
Labels: Fiduciary
posted by bhill at 9:27 AM
SEC Files Enforcement Action Against an RIA for Allegedly Failing to Disclose Compensation Received from Private Investment Funds
On May 20, 2009, the U.S. Securities and Exchange Commission ("SEC") announced that it had filed an emergency civil action charging Wealth Management LLC (registered investment adviser), James Putman (founder, majority owner and Chief Executive Officer of Wealth Management), and Simone Fevola (former President and Chief Investment Officer of Wealth Management) with engaging in a kickback scheme and other fraudulent conduct involving unregistered investment pools for which Wealth Management served as a General Partner or Managing Member and as the registered investment adviser responsible for managing the pooled assets.
In the complaint, the SEC alleges breach of fiduciary duty and fraud for misrepresenting the safety and stability of the two largest private funds managed by Wealth Management while placing their clients into these investments even though they were unsuitable for some of their clients. The SEC's complaint also alleged, among other things, that Mr. Putman and Mr. Fevola each accepted at least $1.24 million in undisclosed payments derived from certain investments made within the private funds that were managed by Wealth Management, while continuing to cause clients to invest in these private funds.
The offering documents for the private investment funds disclose that Wealth Management would be compensated for managing the funds through a management fee based on a percentage of assets under management. Additionally, on four of the six funds that were managed by Wealth Management an annual "Incentive Allocation" of up to 10% (depending on the fund) of the annual profits could be paid to Wealth Management. No other forms of compensation were disclosed, and Wealth Management's Form ADV indicated that the adviser and its associated persons did not receive any economic benefits from non-clients in connection with giving investment advice to clients. No references were made regarding the payments received from the investments made within the funds.
This case should serve as a reminder to a registered investment adviser that it has a fiduciary duty to its clients. As a fiduciary, a registered investment adviser has an affirmative duty of utmost good faith to act solely in the best interests of the client and to make full and fair disclosure of all material facts, especially when the registered investment adviser's interest may conflict with the client's interest. Not providing proper disclosure to advisory clients can result in violations to the anti-fraud provisions of the Investment Advisers Act of 1940. The receipt of any form of additional compensation received from any source other than the client when the adviser is recommending a security to a client is just one example of a conflict of interest that must be fully disclosed to the client.
In the complaint, the SEC alleges breach of fiduciary duty and fraud for misrepresenting the safety and stability of the two largest private funds managed by Wealth Management while placing their clients into these investments even though they were unsuitable for some of their clients. The SEC's complaint also alleged, among other things, that Mr. Putman and Mr. Fevola each accepted at least $1.24 million in undisclosed payments derived from certain investments made within the private funds that were managed by Wealth Management, while continuing to cause clients to invest in these private funds.
The offering documents for the private investment funds disclose that Wealth Management would be compensated for managing the funds through a management fee based on a percentage of assets under management. Additionally, on four of the six funds that were managed by Wealth Management an annual "Incentive Allocation" of up to 10% (depending on the fund) of the annual profits could be paid to Wealth Management. No other forms of compensation were disclosed, and Wealth Management's Form ADV indicated that the adviser and its associated persons did not receive any economic benefits from non-clients in connection with giving investment advice to clients. No references were made regarding the payments received from the investments made within the funds.
This case should serve as a reminder to a registered investment adviser that it has a fiduciary duty to its clients. As a fiduciary, a registered investment adviser has an affirmative duty of utmost good faith to act solely in the best interests of the client and to make full and fair disclosure of all material facts, especially when the registered investment adviser's interest may conflict with the client's interest. Not providing proper disclosure to advisory clients can result in violations to the anti-fraud provisions of the Investment Advisers Act of 1940. The receipt of any form of additional compensation received from any source other than the client when the adviser is recommending a security to a client is just one example of a conflict of interest that must be fully disclosed to the client.
Labels: Enforcement, Fiduciary, Hedge Funds
posted by bhill at 10:20 PM
The Adminstration Seeks Fiduciary Duty for B/Ds -- Is the SEC Chairman Advocating the Establishment of an SRO for RIAs?
In the white paper, "Financial Regulatory Reform: A New Foundation," recently released by the U.S. Treasury Department, the Obama Administration proposes the establishment of a fiduciary duty for broker-dealers offering investment advice and harmonization of the regulations of broker-dealers and registered investment advisers.
Although there were only six paragraphs concerning the broker-dealer v. registered investment adviser issue in the white paper consisting of eighty-nine pages, the few details provided by the Administration are worthy of review.
In particular, the Administration takes the position that "standards of care for all broker-dealers when providing investment advice about securities to retail investors should be raised to the fiduciary standard to align the legal framework with investment advisers." Moreover, the Administration urges that the U.S. Securities and Exchange Commission ("SEC") be empowered to prohibit forms of compensation that allow an intermediary (a broker-dealer or registered investment adviser) to put a client in a product profitable to the intermediary and not in the best interests of the client. Finally, the Administration proposes that legislation should provide simple and clear disclosure to investors regarding the scope and terms of the relationship with the intermediary and ban certain conflicts of interest and sales practices contrary to best interests of an investor.
It's noteworthy that the Obama Administration's white paper on financial regulatory reform only identifies what appear to be as deficiencies with broker-dealer regulations and its standard of care. There were no references within the Treasury Department's release to the establishment of a self-regulatory organization ("SRO") for registered investment advisers.
Although the term "harmonization of regulations" is used in the title for this broker-dealer versus registered investment adviser section of the white paper, there is actually little explanation by the Administration within the white paper as what is actually meant, except for the prohibition of certain broker-dealer conduct described above. However, the day after the Administration's white paper was released Mary L. Schapiro, Chairman of the SEC, commented about the harmonization of these regulations:
Although there were only six paragraphs concerning the broker-dealer v. registered investment adviser issue in the white paper consisting of eighty-nine pages, the few details provided by the Administration are worthy of review.
In particular, the Administration takes the position that "standards of care for all broker-dealers when providing investment advice about securities to retail investors should be raised to the fiduciary standard to align the legal framework with investment advisers." Moreover, the Administration urges that the U.S. Securities and Exchange Commission ("SEC") be empowered to prohibit forms of compensation that allow an intermediary (a broker-dealer or registered investment adviser) to put a client in a product profitable to the intermediary and not in the best interests of the client. Finally, the Administration proposes that legislation should provide simple and clear disclosure to investors regarding the scope and terms of the relationship with the intermediary and ban certain conflicts of interest and sales practices contrary to best interests of an investor.
It's noteworthy that the Obama Administration's white paper on financial regulatory reform only identifies what appear to be as deficiencies with broker-dealer regulations and its standard of care. There were no references within the Treasury Department's release to the establishment of a self-regulatory organization ("SRO") for registered investment advisers.
Although the term "harmonization of regulations" is used in the title for this broker-dealer versus registered investment adviser section of the white paper, there is actually little explanation by the Administration within the white paper as what is actually meant, except for the prohibition of certain broker-dealer conduct described above. However, the day after the Administration's white paper was released Mary L. Schapiro, Chairman of the SEC, commented about the harmonization of these regulations:
While I believe that a consistent fiduciary standard of conduct should be applied to all financial professionals providing personalized investment advice, I also understand that the fiduciary standard is not a panacea to deter all fraud against individual investors.Is Chairman Schapiro suggesting that an SRO should be established for the regulation of registered investment advisers or is she laying the ground work for the case that the SEC needs more resources to regulate registered investment advisers? This ambiguity could be intentional during this early stage of the legislative process and may provide the SEC Chairman more options and flexibility at a later point. Time well tell.
Unfortunately, malevolent behavior still occurs, even by those who owe a fiduciary obligation to their clients. Since I became Chairman, the SEC has brought 26 actions against Ponzi or Ponzi-like schemes, which on average is more than one action per week. Roughly one-third of those actions involved investment advisers that were subject to the fiduciary standard of care. Thus, we cannot build an effective regulatory regime around the fiduciary standard of conduct alone.
That is why more needs to be done to effectively harmonize our regulatory structure for broker-dealers and investment advisers and meaningfully protect investors. If both broker-dealers and investment advisers are providing virtually identical services to retail investors, then the regulatory regimes that govern those activities should be virtually identical as well.
posted by bhill at 1:17 PM
SEC Commissioner Calls for Uniform Fiduciary Duty for All Financial Professionals & Harmonization of Regulations for BDs & RIAs
In a recent speech, Commissioner Elisse Walter of the U.S. Securities and Exchange Commission ("SEC") advocated that every financial professional should act as a fiduciary and the regulations of broker-dealers and registered investment advisers should be harmonized.
The premise underlying SEC Commissioner Walter is the belief "... that regulation of a financial professional should depend on what she does, not what she calls herself or how she is paid .... and retail investors should not bear the burden of understanding distinctions between financial professionals that have become increasingly less relevant over the years."
In particular, the following examples were offered by SEC Commissioner Walter as to how the regulations of broker-dealers and registered investment advisers could be harmonized through either the SEC's rule-making process under current statutory authority or legislative changes to the Securities Exchange Act of 1934 and Investment Advisers Act of 1940:
The premise underlying SEC Commissioner Walter is the belief "... that regulation of a financial professional should depend on what she does, not what she calls herself or how she is paid .... and retail investors should not bear the burden of understanding distinctions between financial professionals that have become increasingly less relevant over the years."
In particular, the following examples were offered by SEC Commissioner Walter as to how the regulations of broker-dealers and registered investment advisers could be harmonized through either the SEC's rule-making process under current statutory authority or legislative changes to the Securities Exchange Act of 1934 and Investment Advisers Act of 1940:
- Registration Process - a unitary registration system for broker-dealers and registered investment advisers with a vetting process whereby the registrant evidences capacity to carry on its proposed business;
- Licensing & Continuing Education - proficiency tests and continuing education requirements for all financial professionals;
- Disclosure Obligations - a uniform disclosure document explaining conflicts of interest (as currently with registered investment advisers) and central database of disciplinary and employment history of firms and their personnel;
- SRO Membership - a requirement that all financial professionals belong to a self-regulatory organization;
- Remedies - aggressive enforcement by the SEC and a non-mandatory arbitration venue (via an SRO) for clients of all financial professionals; and
- Uniform Standard of Conduct - a requirement that every financial professional act as a fiduciary, based upon the scope of the engagement and type of client, coupled with business practice rules.
At this point, it is unclear as to whether there is a consensus among a majority of the Commissioners of the SEC for this type of change and how Congress will weigh in on the regulation of financial professionals. RIA Compliance Consultants will continue to monitor and report developments to its readers.
posted by bhill at 8:51 PM
