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Fiduciary Links: SEC Makes it Hard to Read Fiduciary Tea Leaves in Data Request

Posted by on March 18, 2013

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>>>>On March 1, the Securities and Exchange Commission released a much-anticipated request for cost-benefits data in connection with a possible uniform fiduciary rule for brokers and advisers. By requesting data, many observers had hoped that the assumptions used would reveal the SEC’s thinking on the rule’s parameters. Anticipating such speculation, the release relies heavily on disclaimers to discourage any notion that the assumptions for a fiduciary standard and rules harmonizing broker and adviser regulation suggest the agency's future course of action. Where the SEC release makes assumptions it provides no less than 10 disclaimers, all ending with the warning: “The discussion of these assumptions does not suggest our policy view or the ultimate direction of any proposed action proposed by us.”

One logical premise for the SEC’s hesitancy in pronouncing its current views is that the SEC is not actually talking to the public at all in the present release, but to three unnamed as-of-yet, black-robed judges on the D.C. Circuit Court of Appeals who are likely to decide any legal challenges to a proposed fiduciary rule. The D.C. Circuit, as the SEC is acutely aware, has been willing in the past to toss other SEC cost-benefits analyses for lack of due diligence. So if you begin to look at the data request as an attachment to a court brief, rather than a request for industry data, the disclaimers start to make sense.

Thus the SEC was so concerned about disclosing any bias, that it released the data request, not in the expected format of a concept release, as it has in the past for groundbreaking proposals, but in the form of a bland category called ‘Other Commission Orders, Notices and Information.’

SEC disclaimers notwithstanding, the tea leaves do shed light on not only its thinking but possibly some of the internal debate between the SEC divisions involved in its drafting. For example, at the beginning of the release, where SEC staff attorneys are typically listed as contacts, no less than four attorneys from the Trading and Markets Division of the SEC, which oversees broker-dealer regulation, are identified, but none from the Investment Management Division, which oversees investment advisers. Why should that matter? Historically, at least since the Financial Planning Association v. SEC lawsuit, both divisions have feuded over the best way to interpret SEC policy affecting brokers offering investment advice. At one point in 2005 both divisions were admonished publicly for bickering by an SEC commissioner. Thus, one wonders why the conspicuous absence of IM attorneys on the release, since questions on the release would more likely be directed to the T&M Division.

If one were searching for other clues, one might be found in the different vernaculars of brokers and advisers. For example, the use of the term ‘retail customer,’ a formal regulatory reference preferred by FINRA and T&M, is made throughout the release instead of ‘client,’ a term commonly used by IM. This would seem to raise suspicions that T&M also won out. Unfortunately, this also illustrates the shortcomings in attempting to read the tea leaves too closely, for the very first footnote in the release explains that Congress uses the term in the section of Dodd-Frank authorizing the SEC to adopt a fiduciary rule. However, one would think that if the SEC had attempted to use neutral language, it would have ignored the ‘retail customer’ term from Dodd-Frank, since it can say whatever it wants in a release of this sort.

Parsing as well through the previously mentioned FPA lawsuit, after many years of controversy, FPA takes on an ironic, utilitarian role in the latest SEC release. FPA is cited no less than 14 times in the release, with the SEC suggesting firms might compare regulatory and other costs associated with these very same accounts from the pre- and post-FPA court decision in submitting data. Also reading between the line, perhaps one of the most significant aspects of the release is an implication that the Commission could move forward with rules harmonization even if it does not adopt a fiduciary rule.

Thus, relying more heavily on the tea teaves, and the fact that SEC Chairman Elisse Walter has been a proponent of rules harmonization, this can be viewed as a way to kick-start the process before she leaves, or a more embedded effort within the agency to have broker rules trump fiduciary principles. Nothing in the world could be a more wrong-headed approach from a sound policymaking approach, since the Commission’s experience in shaping fiduciary conduct under the Advisers Act has been to adopt rules for investment advisers that flow from their fiduciary duties, such as Form ADV, custody, advertising and proxy voting rules, not to them. This would be an earthquake of seismic proportions in which only the aftershocks would be felt years and decades afterward if allowed to proceed without a fiduciary foundation. When the Supreme Court looked at the legislative history of the Advisers Act, it interpreted congressional intent as establishing a fiduciary duty for investment advisers, not to its rules. Indeed, when Congress enacted ERISA in 1974, it looked to the common law of trusts for the foundation of a fiduciary standard protecting pension plan assets. Yet what the SEC is saying in the current data request, if one can indeed read the tea leaves correctly, is that it may well flout convention, and centuries of common-law as well, in a fruitless attempt to mesh Wall Street’s preferences with common-law precedent.

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