When regulators seek to protect investors from risk, they often end up simply putting legitimate opportunities out of bounds. In one now infamous example from 1980, Massachusetts regulators declared a certain IPO “too risky” and prohibited participation by state residents. But Apple’s IPO turned out to be a decent investment opportunity after all.
Similar paternalistic thinking gave rise to the SEC’s “accredited investor” restrictions, which prevent people of modest means from participating in certain investments. The SEC appears poised to ease those restrictions.
According to a report issued by the SEC, for decades the SEC has permitted “accredited investors” with sufficient income and assets to “participate in investment opportunities that are generally not available to nonaccredited investors, such as investments in private companies and offerings made by hedge funds, private equity funds and venture capital funds.”
According to that same SEC report, “issuers using these exemptions raised over $1.3 trillion in 2014 alone.” That’s a lot of opportunity to deny to everyone who makes less than $200,000 per year ($300,000 for married couples) or who have a net worth of less than $1 million, the current thresholds for “accredited investors.”
Reform has been in the air since at least 2010 when a provision in Dodd-Frank directed the SEC to review the rule to determine whether it should be modified or adjusted. The initial modification, in 2011, denied investment opportunities to a greater number of people by excluding the value of a person’s primary residence for purposes of determining whether the person’s net worth exceeded $1 million.
However, following the change in administration and nomination of Jay Clayton to head the SEC, it did not take great prescience to suggest that the “accredited investor” reform effort would pick up steam. When asked about possible changes that Clayton might pursue, some commenters pointed to the issue as likely to appear on the new SEC agenda.
And, according to reports by ThinkAdvisor and others, Michael Piwowar, who is the acting SEC chair while Clayton’s nomination is pending, recently gave a speech in which he questioned “the notion that nonaccredited investors are truly protected by regulations that prevent them from investing in high-risk, high-return securities available only to the Davos jet set.”
In a similar vein, in February, the House passed legislation that would include in the definition of “accredited investor” anyone who is licensed or registered with the SEC as a broker or investment advisor or “whose demonstrable education or job experience qualifies as professional knowledge of a subject related to a particular investment, and whose education or job experience is verified by the FINRA or equivalent self-regulatory organization.”
Other ideas for reform have come in response to the SEC’s request for input from the public. The SEC has received many comment letters, including some on the more esoteric side such as an English translation of a work from Dante.
A more serious response came from the Investment Adviser Association, which represents the interests of registered investment advisor firms. IAA suggested that the SEC “amend the definition of accredited investor to include investors whose relevant investments are made by the SEC-registered investment advisers they retain, as fiduciaries, to manage their investments on a discretionary basis.”
Another comment letter from a self-styled “private investor,” provided a more blunt observation: “Wealth does not determine investor sophistication. Blocking diversification to alternatives increases risk for mom and pop, increases income inequality, and frankly is an un-American policy that creates second class citizens of the poor and middle class.”
Simply permitting people of modest economic means to make their own investment decisions may be too radical for Congress or the SEC. After all, they may lose their money or invest in the next Apple.