Views on improving the integrity of global capital markets
25 April 2012

Investment Adviser Oversight: SEC or SRO?

Posted In: US SEC

Despite being housed within the SEC’s oversight regime for more than 60 years, investment advisers currently registered with the SEC now face uncertainly about where oversight ultimately will reside. Whether the Financial Industry Regulatory Authority (FINRA), a new self-regulatory organization (SRO), or the SEC will oversee advisers has ignited sparks throughout industry groups — fueling a heated debate on whether the SEC can continue an effective oversight program, as currently envisioned by the Investment Advisers Act of 1940, or whether a new approach is due.

The Investment Advisers Act of 1940 vests the SEC with regulatory authority (registration, examination, and enforcement) for advisers; under Dodd-Frank Act provisions, this extends to advisers with more than $100 million in assets under management. Yet, due to a shrinking budget and resource issues, the SEC‘s examination of advisers has steadily decreased, with the number of exams down by nearly 30 percent and the frequency of exams having dropped 50 percent over the last five years. And while smaller advisers have shifted from SEC to state oversight, the SEC will gain advisers to hedge and private equity funds, thanks to a new registration requirement under the Dodd-Frank Act. All of this is further exacerbated by the fact that Dodd-Frank also requires SEC registration of municipal advisers. It also is charged with examining credit rating agencies, and registering and examining certain securities-based swap dealers, major securities-based parties, and securities-based data repositories. It also has a new mandate to conduct annual exams of clearing agencies designated as systemically important.

One has to wonder whether the SEC, under its current budget, can adequately beef up its oversight of advisers, while taking on these substantial new responsibilities.

Commissioner Elisse Walter, for one, says no. In her unreserved and straightforward rebuttal last year to the findings of SEC staff on who should have oversight, she cautioned that for “far too long, in the investment advisory area, the Commission has been unable to perform its responsibilities adequately to fulfill its mission as the investor’s advocate ….” Rather than rely on user fees, as most highly recommended in a staff report to Congress, Commissioner Walter strongly advised consideration of putting advisers under the oversight (at least for conducting examinations) of an SRO, whether it be an independent one or FINRA.

And there’s the rub. While FINRA appears to some to be the heir apparent, others have pushed back vehemently, arguing that an SRO for broker-dealers lacks the expertise to examine advisers, that under FINRA, the distinction between broker-dealers and advisers will eventually blur, and that any “uniform” standard of care applicable to both may not rise to the fiduciary duty standard currently required of advisers. Moreover, a report by the Boston Consulting Group found that creating an SRO for examining advisers would cost at least twice as much as providing SEC the funds to do the job.

But not to worry. These important decisions are in good hands. House Financial Services Committee Chairman Spencer Bachus reportedly will soon introduce legislation that will require an SRO for advisers. Of course, even if the bill passes the House, it will die of neglect in the Senate. So it all will get kicked down the road a few more years, leaving the market in a continuing state of limbo.

About the Author(s)
Linda Rittenhouse, JD

Linda Rittenhouse, JD, was a director of capital markets policy at CFA Institute. She focused primarily on issues related to investment products and investment regulation. Rittenhouse holds a JD degree.

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