SEC Chairman Jay Clayton is moving full steam ahead with his goal to root out retail fraud. In mid-November, Clayton bowled over the industry with news that the securities regulator is creating a website that will allow investors to search a database of individuals who have been barred or suspended for breaking federal securities laws.
The searchable database, Clayton said, “will be particularly valuable when bad actors have shifted from the registered space for investment advisors and broker-dealers to the unregistered space.”
Prior actions of “repeat offenders and fraudsters” will be more visible to investors, Clayton said during remarks at the Practising Law Institute’s 49th Annual Institute on Securities Regulation conference in New York.
Industry officials, including the former head of enforcement for the Financial Industry Regulatory Authority, said the database is a good idea — but will undoubtedly face scrutiny like FINRA’s BrokerCheck.
“For the foreseeable future, BrokerCheck will remain the gold standard for due diligence on registered brokers,” Brad Bennett, a former FINRA enforcement director and now a partner at Baker Botts in Washington, told me at press time in mid-November.
Bennett said that while the SEC’s planned database should be applauded as an effort “for getting more information into the hands of investors about disciplinary history [and promoting] investor protection,” it most assuredly will have its detractors. “To the extent the SEC database includes customer complaints and unadjudicated allegations, it will be subject to the same industry pushback as BrokerCheck,” Bennett opined.
A FINRA spokesperson told me in an email message on Nov. 13 that FINRA “looks forward” to helping the SEC with the new database, “so that investors who are researching information about the full range of disqualified individuals in BrokerCheck and Investment Adviser Public Disclosure would also have access to the new SEC database.”
The IAPD website compiles investment advisor firms currently registered with the SEC and state securities regulators. An SEC spokesperson declined to comment at press time on a potential timeline for the database’s release.
Industry officials see the database as being especially beneficial at shining a light on shady brokers moving to the insurance and registered investment advisor spaces. Andrew Stoltmann, the new president of the Public Investors Arbitration Bar Association, said the SEC database is “long overdue,” and sees it working “hand in hand” with BrokerCheck.
However, it will ultimately serve as a Band-Aid on a “really serious problem,” Stoltmann added. “Unfortunately, it doesn’t do anything to get these bad actors completely out of the channels where they operate. Bad brokers becoming insurance agents or RIAs is a massive problem and this database, while a good first step, doesn’t address the primary issue of keeping these folks out of all channels where they can defraud customers.”
Jon Henschen, head of the broker-dealer recruiting firm Henschen & Associates, agreed the database could be a “valuable tool” for the public: “Often times, these rogue brokers that are barred from doing securities business continue their rogue behavior in the insurance and/or the RIA space, so ensuring the public is protected in these venues as well would create an umbrella policy of protection for the unsuspecting public.”
During his comments at the Practising Law Institute event, Clayton said that the SEC reminds investors “repeatedly that they should conduct a background check before investing with a financial professional, and we are showing them how to do just that” with the upcoming website and with FINRA’s BrokerCheck.
Clayton told audience members that the SEC should continually be asking: “Are there opportunities to deter, mitigate or eliminate wrongdoing before an enforcement action becomes necessary?” Looking back at enforcement actions brought by the agency, he continued, “a common theme emerges — where opacity exists, bad behavior tends to follow.”
12b-1 Fees, Share Classes in Focus
The agency’s enforcement division, he said, “will continue to be active in pursuing cases where hidden or inappropriate fees are at issue, but we also are exploring whether more can be done to clarify fee disclosures made to retail investors and, thereby, deter and reduce the opportunities for misbehavior.”
As an example, he cited firms that invest clients’ money in a mutual fund share class that charges a 12b-1 fee when a lower-cost share class of the same fund is available, “or advisors may improperly choose to use fund assets to pay expenses that should be paid by the firm.” Customers, he added, “may be deceived if brokers charge fees that are designed to cover the costs of services provided, while also marking up the prices of securities to earn a profit that is not disclosed.”
‘Shorter’ 2018 Agenda
Clayton also said that the agency is “streamlining” its strategic plan for the next four years under what’s called the Reg Flex agenda that regulators are required to file in January. The last strategic plan filed in 2014 contains 66 strategic initiatives and 58 performance goals and indicators, he explained at the event: “I expect those numbers will be noticeably smaller and will reflect, on a Commission-wide basis.”
With Dodd-Frank and other rulemaking mandates, the agency’s “near-term agenda has swelled over the years,” Clayton continued, but “a shorter near-term agenda does not mean that that work of the SEC is slowing down;” the agency is “already making progress on many” near-term projects.
“Between early October, when we submitted our agenda to OMB, and today, the agency has already completed two of the listed rulemakings,” he said. The SEC agenda over a “longer period,” is also front and center, he said, with mandatory Dodd-Frank rulemakings being “top of mind.”
Discussions with SEC Commissioners Kara Stein and Michael Piwowar on their views on SEC priorities, are being reviewed as well, Clayton continued, adding that he looked forward to engaging with SEC Commissioner nominees Hester Peirce and Robert Jackson — who were both confirmed by the Senate Banking Committee in early November and now await Senate approval — on “areas where they have expressed interest.”
Both Mercatus Fellow Peirce and Columbia Law Professor Jackson were supportive of the SEC moving ahead on its own fiduciary rulemaking in testimony before the Senate Banking Committee in late October, but neither cited such a rule as a priority. Cybersecurity, oversight of FINRA, equity and fixed-income market structure as well as executive compensation were more pressing issues in their view.
Jackson told the Senate lawmakers that, “my own view in developing this type of [fiduciary] standard is to make sure that the market and investors have consistency. My concern is that investors are one day going to think they have one standard of protection with retirement assets, and another standard of protection with their brokerage accounts.”
Peirce reiterated her concerns about DOL’s rule “as it’s currently written,” stating that she’s “glad that calmer minds have prevailed and that people at DOL and at the SEC are taking a look at it.”
She added: “It’s important to work with the states as well and try to get everyone in a room to work together for the objective that everyone has, which is to make sure that investors know the type of service they’re getting and that they have access to service.”