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SEC Broker Conduct Plan Is Not a Fiduciary Standard

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While industry officials were busy Thursday combing through the more than 1,000-page standard of conduct rule package approved Wednesday by the Securities and Exchange Commission, initial consensus is that the agency’s once-promised uniform fiduciary standard for brokers and advisors has morphed into a “suitability plus” standard for brokers and what could likely result in a more onerous fiduciary process for registered investment advisors.

The package, “in lieu of a uniform fiduciary standard applicable to investment advice by brokers and investment advisors, is very disappointing, but not a surprise given earlier reports that the Commission was leaning toward a ‘suitability-plus’ standard for the brokerage industry,” said Duane Thompson, senior policy analyst at Fi360, a fiduciary education, training and technology company.

Fi360’s “immediate reaction,” Thompson said, “leaves us in full agreement with Commissioner [Kara] Stein’s comments during the open meeting yesterday that the SEC squandered a golden opportunity to act in the best interest of investors.”

The rulemaking package, consisting of three parts, “is going to take time to properly digest,” Larry Stadulis, a partner at Stradley Ronon in Washington, told ThinkAdvisor on Thursday.

“The proposals do not seek to impose ‘uniform’ conduct standards on advisors and brokers,” Stadulis said.

“The best-interest standard that the SEC seems to impose on brokers under Regulation Best Interest is not a fiduciary standard.”

‘Confusing Conduct Standard’

Massachusetts Securities Regulator William Galvin stated that the SEC rule “appears to be drafted to appease the broker-dealer industry and their lobbyists, protecting the industry’s best interests instead of the best interests of investors.”

“Recommendations to retail investors should be made pursuant to a true and clear best-interest fiduciary standard,” Galvin stated, adding that “that standard was reflected in the Department of Labor’s Fiduciary rule.”

Instead of supporting Labor, “the SEC provided a confusing conduct standard that is sorely inadequate to protect retail investors,” Galvin added. “While the rules use terminology such as ‘fiduciary duty’ and ‘best interest,’ the substance of the rules falls far short.”

Elliot Weissbluth, CEO of RIA consolidator HighTower, stated that “while it’s commendable that the SEC is making an effort to address this [fiduciary] problem, a 1,000-page proposal is a disheartening outcome.”

Establishing a fiduciary duty “for financial advisors should not be this complicated: Either you are putting the client’s best interests first, or you are not,” Weissbluth added. “Creating ambiguity is just an excuse to avoid putting the client’s interest first.”

Barbara Roper, director of investor protection for the Consumer Federation of America, told ThinkAdvisor that while the Regulation Best Interest proposal “offers a modest improvement over the status quo” for brokers, it “falls far short of the clear and unambiguous best-interest standard that investors need and expect.”

The “biggest problem” with the Regulation Best Interest proposal, Roper continued, “is that it doesn’t clearly define best interest, which is going to make it difficult if not impossible to implement and enforce effectively.”

Added Roper: “Having argued that an SEC rulemaking was needed to provide uniformity, brokers have lobbied for and gotten an inconsistent standard for brokers and advisors.”

Because the term “best interest” is not defined, added Galvin, “this ambiguity will lay the groundwork for the same debates and litigation that exist today under the ‘suitability’ standard that applies to broker-dealers.”

As the SEC explains, under the proposed Regulation Best Interest — which is 407 pages long — a broker-dealer would be required to act in the best interest of a retail customer when making a recommendation of any securities transaction or investment strategy involving securities to a retail customer. “Regulation Best Interest is designed to make it clear that a broker-dealer may not put its financial interests ahead of the interests of a retail customer in making recommendations,” the SEC states.

Rob Foregger, co-founder of digital advice firms NextCapital and Personal Capital, stated that the Regulation Best Interest proposal needs “significant work.” Under the proposed rule, “a broker would be able to hold themselves out as ‘operating in the clients best interest,’ without being held to a fiduciary standard of care — this is problematic.”

The 90-day comment period on the three-pronged plan “is critical to getting this right,” Foregger said. “The process is very messy, and there is a lot of hard work that needs to happen to make this proposal effective regulation.”

Karen Barr, president and CEO of the Investment Adviser Association, added that “because the Regulation Best Interest standard, as proposed, is not clear — and the SEC noted that it wasn’t the same as fiduciary duty — the fiduciary standard still appears to be the broader and more stringent standard.”

Fiduciary Duty

The second piece of the SEC’s proposal — which is 38 pages long — includes a “Commission-proposed” interpretation to reaffirm and, in some cases, “clarify the Commission’s views of the fiduciary duty that investment advisers owe to their clients.”

The interpretation would provide “greater clarity about advisors’ legal obligations” to clients, the SEC said.

But Stradley Ronon’s Stadulis argues that “any new duties will present challenges, and it is likely that the investment advisory industry will challenge such duties unless required to do so by formal rule. Thus, the SEC interpretive release approach may be challenged insofar as it seeks to expand the law without formal rulemaking.”

Form CRS

The third part of the SEC’s plan — a whopping 471 pages — aims to address investor confusion about the nature of their relationships with investment professionals through a new short-form disclosure document — a customer or client relationship summary, via Form CRS.

The form, the agency states, would provide retail investors “with simple, easy-to-understand information about the nature of their relationship with their investment professional, and would supplement other more detailed disclosures.”

SEC Commissioner Kara Stein, who cast the dissenting vote on Wednesday, stated during her lengthy rant against the SEC’s three-pronged plan that while the Form CRS proposal addresses areas “where disclosure might help cure investor confusion,” she’s concerned the agency is “proposing disclosure that is both too generic and too legalistic such that retail investors won’t bother to read it.”

David Tittsworth, the former head of the Investment Adviser Association who’s now counsel with Ropes & Gray in Washington, said that the proposed Form CRS “will definitely create new compliance burdens for advisory firms that deal with retail clients.”

However, the SEC’s interpretation of fiduciary duty “should not create new compliance requirements or burdens,” Tittsworth continued. “If the interpretation is finalized at some point, it would be wise for investment advisory compliance professionals to review it carefully to make sure that their practices, disclosures and activities are in line with the interpretation.”

The interpretation, Tittsworth added, “is intended to gather existing aspects of the Advisers Act fiduciary duty in one place – not to create new requirements and responsibilities.”

Advisor Titles

The Commission also proposed to restrict certain broker-dealers and their financial professionals from using the terms “adviser” or “advisor” as part of their name or title with retail investors.

Investment advisors and broker-dealers, the SEC states, “would also need to disclose their registration status with the Commission in certain retail investor communications.”

But Fi360’s Thompson argues that the “limited restriction on use of ‘advisor’ and ‘adviser’ titles only to fiduciaries falls short by allowing the use of other titles, such as ‘wealth manager’ and ‘financial planner,’ to be available for non-fiduciary advice.”

IAA’s Barr added that while the proposal to restrict “the misleading use of titles is a step in the right direction,” titles “are only one piece of the total context of how services are marketed.”

With all four of the SEC commissioners expressing “serious concerns” about the details of the three-pronged plan, “those concerns are not going to be easy to resolve,” Roper said.

While it is to SEC Chairman Jay Clayton’s “credit that he did what none of his predecessors has managed and got a proposal out the door, he still has a long, tough road ahead of him.”

— Check out SEC OKs Best-Interest Proposal for Brokers on ThinkAdvisor.


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