With FINRA’s attempts to become the regulatory body for all financial advisors (including those who don’t take commissions), we tend to over-praise the SEC as the profession’s regulator of choice. I totally agree that FINRA would be a disaster (its goal would be to stifle or eliminate the fiduciary competition to wirehouse firms, restricting the precious “choice” that its member firms are always touting in their lobbying efforts), but the regulatory body we want to keep has a few flaws of its own.
Such as? Let’s start with the fact that the SEC doesn’t even enforce its own founding statute, the Investment Adviser Act of 1940. The ’40 Act stipulates that anyone holding out as an advisor, compensated for advice, should register as an RIA and (this comes from the Supreme Court) be held to a fiduciary standard. Anyone who glances at Wall Street’s advertising campaigns can see that their brokers are holding out as advisors. Yet the SEC has deliberately, consistently, stubbornly excluded them from having to register.
Nor is the SEC clear on what “fiduciary” actually means. The common law definition requires a fiduciary to avoid conflicts of interest where possible. One might assume that individuals calling themselves ‘advisors,’ who operate primarily on a commission model (meaning dually-registered advisors who sell annuities and non-traded REITS) are violating the most basic fiduciary principles; they’re actively embracing a huge conflict of interest. Advisors who follow the so-called “two-hat” model, where they provide financial planning as a fiduciary, and then switch hats to sell products based on the plan, are engaging in sly or deceptive behavior that is surely not up to even minimal fiduciary standards. Yet the SEC seems untroubled by this service model.
One could also take issue with the SEC’s cybersecurity policies. One might imagine that a powerful government regulator would be focused on preventing criminal activity—like, for example, stealing the identity information of financial planning clients. Instead, the SEC focuses its enforcement actions on firms that have been robbed of client data, and firms that it believes aren’t protecting client data vigorously enough. Blame the victims of online fraud, rather than use your considerable resources to provide solutions and protections. Does that make any sense?
Meanwhile, the entire brokerage industry committed garden variety fraud in selling junk securitized mortgages as highly-rated paper and, in some cases, betting against their own creations in their own portfolios—and nobody ever went to jail as a result. One wonders what brokerage executives would have to do in order to face real consequences under our current regulatory structure.
At the same time, the examination scheme is clearly broken—witness the fact that the SEC examiners focused on all the same things they do in an advisor’s office when they visited Bernie Madoff, and found nothing amiss. The current system does little more than interfere with a firm’s normal business operations and impose a lot of unnecessary paperwork, time and expense, when it ought to be using modern technology to, in the least intrusive possible way, ensure that client assets are where they belong and safeguarded.
I’m sure this list could be continued, but I think you get the point. Theoretically, the SEC exists to protect the investing public, but too often it seems to be lost in its own bureaucracy, with more loyalty to the brokerage industry than the person on the street. It may be dangerous to say that our current regulatory system is dysfunctional when FINRA is threatening something much worse as a replacement. But the reality is that “dysfunctional” may be too kind a word for what we have now—and until we find the courage to talk openly about it, nothing will ever be done to fix it.