Due Diligence

SRO Or User Fees, Someone Has to Pay For Investment Adviser Oversight

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financial-oversightLast night the SEC issued its long-awaited report on enhancing investment adviser oversight, which came out strongly in favor of self-funding. The report elicited strong opinions from around the industry, with financial planning, investment adviser and consumer groups reiterating their preference for self-funding and broker/dealer groups reiterating their preference for an SRO.

But here's what I find puzzling, and what seems to be missing from the debate. There seems to be an odd assumption among proponents of an SRO that the SRO option would not require funding of any kind. That the money it would require to properly examine and oversee investment advisers would just appear out of thin air. That SRO is synonymous with free money or magically cost-free oversight. I just don't get this.

Both those who are pro-SRO and those who are anti-SRO agree that the SEC doesn' t have enough funding. It already was having trouble adequately policing investment advisers, has more and more advisers to regulate every year and has a host of new responsibilities under Dodd-Frank (See RR Editor in Chief David Geracioti's blog post from today on this very subject). So, yes, it cannot do the job with its current level of resources. But FINRA, or any other SRO, would need the same amount of resources to do the job that the SEC would and quite possibly more, considering the SEC already has 70 years of experience overseeing investment advisers and would have to oversee an SRO anyway.

Even Commissioner Elise B. Walters, who is pro-SRO and issued a dissenting opinion in a separate letter accompanying the SEC's report on investment adviser oversight , did not address the central arguments of the SEC's report--why a self-funded SEC is a better solution than a self-funded SRO. Her letter addressed the fact that the SEC is not doing enough examinations, and the SEC's lack of adquate funding. But these things are not in question, from either side.

So where would the funds FINRA needs come from? The SEC suggests it could solve its funding problem with user-fees. FINRA would have to do the same. It would have to either tap investment advisers for those fees, or its own membership, broker/dealers, who compete with investment advisers for business. I don't know about you, but to my thinking, if they were to attempt the latter, that would stink of a giant conflict of interest.

In a comment letter issued today, the Financial Services Institute, a broker/dealer membership group, said the only one of the three options the SEC offered that would work was a single SRO to oversee all investment advisers. It's reasons were resources, flexibility and technology--and the fact that with an SRO, "the cost of regulation would be shifted to industry participants rather than taxpayers." Flexibilty and technology--ok, those may be debatable, and I'd love to see data that support or debunk the idea that an SRO would do better than the SEC on these two fronts. But a taxpayer option is no longer on the table. It's a totally moot point. And again, resources are going to be an issue no matter who takes up the job.

Ultimately, it's simply a matter of who is holding the purse strings. The Dodd-Frank legislation originally contained a provision that would allow the SEC to self-fund, but it was removed. Congress does not want to give up the control it has over SEC regulation through appropriations. The problem is, Congress is also heavily swayed by lobbying dollars from FINRA , whose members are the country's financial services giants and broker/dealers. They have a lot of money to throw around, and throw it around they have. FINRA and FINRA members poured lobbying money into the November elections, which stacked the Congress with Republicans. Would anyone be surprised if Congress ends up feeling a little pro-SRO? Even if it's not the most intelligent or efficient way to oversee investment advisers?

"As a pure resource issue, which seems to be the predominant issue, to increase the exam frequency for investment advisers, resources would be best put into exsting infrastructure at the SEC," said Dan Barry of the Financial Planning Association in a conference call last week organized by the Financial Planning Coalition. "It simply makes more sense to give the SEC the level of funding it needs to oversee the investment advisers under its jurisdiction."

"You can’t keep shifting duties around as a way to address funding," said Blaine Aikin, CEO of Fi360, a compliance consulting firm focused on fiduciary issues, in an interview. "The SEC report says, 'we moved more responsibilities to states; this addresses part of the funding issue in the short term.' But we get way too wrapped up in the issue of where does the funding come from. Self-funding is the right answer, but who is the right party? SEC has the authorization to oversee investment advisers; they have the expertise."

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