Better to have no rule at all, Reg BI critics say
WASHINGTON -- Some say don't let the perfect be the enemy of the good.
Hard-line fiduciary advocates aren’t buying that old chestnut. The SEC's proposal for new broker regulations, if finalized in its current form, would actually be more harmful to investors than no rule at all, witnesses told lawmakers at a House subcommittee hearing on the issue.
That's because, they argue, Regulation Best Interest would allow brokers to advertise that they are required to provide advice in their clients' best interest, but in reality could still engage in the same conflicted and harmful practices that pervade the industry today. According to that line of criticism, the SEC's proposal would effectively codify the current suitability regime and allow brokers to continue to collect excessive commissions and fees, provided they made the requisite disclosures.
The regulations "offer the appearance — but not the reality — of increased investor protection," cautioned Susan MacMichael John, chairwoman of the CFP Board's board.
Barbara Roper, director of investor protection at the Consumer Federation of America, warned that the regulation, as currently written, "does more to weaken investor protections than to strengthen them."
Indeed, no rule would be better than the current proposal, according to John, Roper and Dina Isola, an investment advisor rep with Ritholtz Wealth Management in New York.
"That's a horrible choice," Isola said after being asked if she thought the SEC should to move ahead with its current rule or scrap the undertaking entirely. "I think if you adopt a lowest common denominator standard that's what you're going to get."
The SEC is leaving the door open to conflicted advice shrouded in hazy disclosures that leave investors vulnerable, argued committee Democrats. Republicans on the panel, generally supportive of the SEC's proposal, suggested that many smaller investors would effectively be regulated out of existence if the SEC set a strong fiduciary standard.
"I think this rule is an enormous improvement over current standards, and therefore it is better than nothing, although I do think there will be opportunities to improve," said Harvey Pitt, a former commission chairman who now heads up Kalorama Partners, a Washington business consultancy. Pitt, the one witness on hand to defend the SEC's rule, also argued that the rule, while not perfect, will go further than the current FINRA standards by imposing new requirements on brokers to identify, mitigate and disclose conflicts of interest.
The SEC has collected a voluminous record of public comments on its rule, which it is expected to finalize in the new few months.
Some comments likely echo what Roper argues: The commission could greatly improve the rule even if it continues to reject a uniform fiduciary model.
"The good news is that it would still be possible for the commission to fix Reg BI and to do it without restarting its regulatory process from scratch," she said at the hearing.
Roper, like many critics, would like to see the SEC offer a specific definition of the term "best interest" in its rule. Leaving that term undefined will simply allow brokers to interpret it as they do FINRA's suitability standard, changing little in terms of how they manage conflicts and compensation.
The commission should also strengthen the rule’s language governing how brokers should mitigate conflicts by including an explicit prohibition on placing the broker's interests ahead of the client's.
"The question at the heart of this hearing is whether Reg BI requires brokers to put investors' interests first. It does not," Roper said in her written testimony. "If you want proof, search for the standard's prohibition on placing the broker's interests ahead of the customer's interest in the safe harbor provisions that fully satisfy compliance with the rule. It isn’t there."