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Changing Paradigm at the SEC

Recent comments by various members of the Securities and Exchange Commission ("SEC"), including its Chairman, Mary L. Schapiro, have pointed to a harmonization approach to regulation of financial industry firms under the purview of the SEC. Discussions also have revolved around tweaking the SEC examination program towards a more holistic market focus and bringing various market participants, who are currently operating outside the tent of the SEC, under the regulator's oversight.

Harmonizing Broker Dealer and Adviser Regulation

There is debate, even among the SEC commissioners on a certain initiatives. Some are questioning whether the SEC, at this particular time, should be worrying about harmonization or enforcing a common fiduciary standard across all financial services providers. Intuitively, it makes sense - "Why should we hold broker dealers and investment advisers to different fiduciary standards?"

Ms. Schapiro addressed this topic recently at the CCOutreach National Seminar on January 26, 2010. She noted, "Indeed many investors we serve do not know the difference between an investment adviser and a broker-dealer. The services are often indistinguishable from an investor's perspective. They just want to know that they are getting a fair deal from the financial professionals they turn to for advice".

Unfortunately, what is meant by a 'fair deal" is inherently up to interpretation. To add to the confusion, as an investor, the expectation level you have for your "financial professional", legally speaking, should be very different, dependent upon whether your financial professional is an adviser or a broker-dealer.

Perhaps, harmonization is quite sensible.

Holistic approach works better than regulation by "silos"

Mary Ann Gadziala, Associate Director of the SEC's Office of Compliance Inspections and Examinations, also speaking at the CCOutreach National Seminar, said:

"While the SEC staff has been conducting joint examinations of investment advisers, broker-dealers and mutual funds for many years and staff members have received training in areas other than those in which they normally participate, this approach has been discussed publicly much more often recently. Second, the SEC exam program is strengthening its integration of the broker dealer and investment adviser exam programs. They had essentially operated separately but now we're bringing them together which is consistent with the continued convergence in the industry and business and financial interrelationships among investment advisers and broker dealers. Among the areas that we might review in these joint exams are conflicts of interest, sales of each other's products and services, custody by affiliates, outside business activities and inter-affiliate transactions."

This is ostensibly being done to bring a holistic approach to regulation that has otherwise been operating within the SEC in silos. Providing a holistic approach and cross training broker dealer and investment adviser examiners could in fact result in more effective and efficient examinations, better protecting investors and uncovering dubious market behavior in a timely manner.

Conducting joint examinations and having examiners knowledgeable across various areas is now an SEC priority. While some SEC regional offices have combined investment adviser and mutual fund examination staff, other offices have kept their examiners in silos based on the registrant type. Various divisions of the staff seem to operate within their own mini-culture and mindset. In some regional offices, the various units rarely interact.

The SEC has in past years made effort towards creating specialized units, such as internet enforcement units and consumer affairs. These initiatives, while well intended, have resulted in a regulator with a narrow focus limiting its examination and investigative ability. Again these efforts have been structured to operate as silos focused on specific investors or forms of fraud.

While specialization is often a necessary function of a governmental organization, the SEC seems to have recognized that removing this silo mentality and harmonizing the SEC's various mandates will help accomplish their mission of protecting investors.

Do the wealthy deserve or need regulator protection?

Protecting retail investors has always been important for the SEC. As we all know, the SEC has granted exemptions from registration to certain products provided only to wealthy or so-called "sophisticated investors". The belief is that wealthy investors have sufficient net worth and knowledge (we're not sure the correlation is as strong as they believe) to be able to evaluate different investment products and sustain significant losses. That portion of the population, for example, that is zero degrees away from Kevin Bacon (do you remember him, Mr. Madoff?) Presumably Mr. Bacon received advice from financial advisers who led him to Madoff. However, we can't expect him to know the distinctions in SEC regulation as he is too busy acting, singing, or maybe even dancing (God forbid).

A few years ago, the SEC attempted to regulate hedge fund advisers. However, that effort was vacated by Congress. "Take Two" (see our CCO Communiqué ), as currently contemplated in drafts of pending financial reform legislation will bring not only hedge funds, but potentially other types of private funds, such as private equity and venture capital funds and their sales efforts, under some form of SEC regulation.

Andrew J. Donohue, Director of the SEC's Division of Investment Management, recently spoke at the Fordham Journal of Corporate and Financial Law's 3rd Annual Symposium on the Regulation of Investment Funds, and said:

"Although hedge funds, private equity funds and venture capital funds reflect different approaches to investing, legally they are indistinguishable. They are all pools of investment capital organized to take advantage of various exemptions from registration."

He continued to stress the need for regulatory oversight of advisers to these pools and their sales efforts. He has been a vocal advocate of regulating private funds, citing both the necessity to monitor their impact on financial markets and protect investors. This represents a significant change from the traditional viewpoint that sophisticated investors can sustain losses and are more knowledgeable than smaller, less sophisticated investors (not sure about this correlation either).

After a financial crisis, the initial "knee-jerk" thrust of regulatory reform is certainly powerful in rhetoric. Achieving sensible and lasting reform, however, is usually easier said than done as witnessed by the on-again, off-again (at least according to CNBC) senate debate.

Regulating private funds for the sake of regulating private funds and/or to collect political marks is the wrong approach. We should think beyond the question, "Should the SEC be protecting the rich?". Given the fraud that has come to light and the resulting market instability, perhaps expanded regulation is necessary to protect our financial markets as a whole. Registration of advisors to hedge funds only makes sense if it will in fact result in a fairer system and protect all market participants equally while balancing the resources required to enforce with the benefits achieved.

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Events

May 23, 2017 - Webcast: WannaCry Ransomware: Were You Really Protected or Just L…

When: Tuesday, May 23rd, 2017 | Schedule: 12pm - 1pm EST Who: Paul Caiazzo, CEO and Co-Founder, TruShield Security Solutions Michael Brice, Founder, BW Cyber Services John Lukan, Managing Director, SEC Compliance Consultants, Inc. We...

June 14, 2017 - Compliance Breakfast Briefing

8:30-9:00am - Networking and Continental Breakfast 9:00-10:30am - Program Location: Willkie Farr & Gallagher LLP | 600 Travis Street | Suite 2310 | Houston, TX Barry Barbash from Willkie Farr & Gallagher LLP,...

June 13, 2017 - Compliance Breakfast Briefing

8:30-9:00am - Networking and Continental Breakfast 9:00-10:30am - Program Location: Haynes and Boone, LLP | 2323 Victory Avenue | Suite 700 | Dallas, TX 75219 Validated parking is available in the garage attached...

May 31, 2017 - Chicago

9:00-9:30 a.m - Networking and Continental Breakfast 9:30-11:00 a.m - Program Location: Baker & McKenzie LLP | 300 East Randolph Drive | Suite 5000 | Chicago, IL 60601 Kristin Gonzalez and Jerome Tomas...

May 17, 2017 (NYC WIMF)

This event is by invitation only. Please email info@seccc.com to learn more.

May 15, 2017 (NYC Chief Compliance Officer Roundtable)

9:00-9:30am - Networking and Continental Breakfast 9:30-11:00am - Program Location: Blank Rome LLP | The Chrysler Building | 405 Lexington Avenue | New York, NY 10174 | 22nd Floor Boardroom | Phone:...

Webcast: The Most Insidious Cybersecurity Threat Is Also The Least Understood

When: Tuesday, April 25th | Schedule: 12pm - 1pm EST Who: Paul Caiazzo, CEO and Co-Founder, TruShield Security Solutions Michael Brice, Founder, BW Cyber Services John Lukan, Managing Director, SEC Compliance Consultants, Inc. Ransomware, the...

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In this webinar, panelists discuss indemnifications and insurance as potential remedies to address the direct financial risks to a CCO. Attendees will learn: What terms and conditions should Chief Compliance Officers be...

Webinar: CCO Liability (Part III): Managing Liability: Navigating Indemnities an…

When: Tuesday, February 21, 2017 Schedule: 11:00am ET / 10:00am CT / 9:00am MT / 8:00am PT / 7:00am AT Description of Webinar: The National Society of Compliance Professionals is pleased to host...

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CHIEF COMPLIANCE OFFICER ROUNDTABLE: BREAKFAST BRIEFING

When: April 13, 2016 Where: Blank Rome LLP | The Chrysler Building | 405 Lexington Avenue | New York, NY 10174 22nd Floor Boardroom Thomas Westle and Janaya Moscony, along with industry experts,...

COMPLIANCE SCIENCE SUMMIT 2015

When: November 17, 2015 Where: Convene Midtown East | 730 Third Avenue | New York, NY 10017 Janaya Moscony, President, SEC Compliance Consultants, Inc. will be moderating a...

CHIEF COMPLIANCE OFFICER ROUNDTABLE: BREAKFAST BRIEFING

When: October 13, 2015 Where: Blank Rome LLP | The Chrysler Building | 405 Lexington Avenue | New York, NY 10174 22nd Floor Boardroom Thomas Westle and Janaya Moscony, along with...