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NASD Breaks With SEC on Disclosure Regs: Differences Exist on Soft Dollars, Disclosure Methods


NASD EVP Elisse B. Walter has a few words for mutual fund industry professionals who believe that the current regulatory atmosphere will soon pass and the good old days of lessened scrutiny will return.

"Such thinking, if it does exist, is a serious miscalculation," the NASD head of regulatory policy and programs told members of the Independent Directors Council at a recent workshop in Washington.

"In my view, the fund industry and the broker/dealer community will, for the foreseeable future, face heightened scrutiny. There is no reason to suppose that the regulatory spotlight will soon shift to other products and services, and there are serious risks if any in the industry fail to recognize this," said Walter. The NASD has brought more than 200 cases over the last 2-1/2 years and annually examines more than 80,000 pieces of advertising and sales materials for potentially misleading information.

Although the NASD doesn't police mutual funds, she admitted, as a regulator on the brokerage side of the business, Walter said the agency does have an obligation to protect shareholders and regain the confidence of the investing public in the wake of the scandal. That focus, she said, has prompted the NASD to devote greater attention to mutual fund reform, perhaps most visibly through an investigative and enforcement partnership with the Securities and Exchange Commission.

And while NASD task forces have recently uncovered several elements of mutual fund reform where it, the SEC and the IDC differ, Walter prefaced that portion of her remarks by outlining a number of collaborative initiatives that have recently borne fruit.

For starters, through its own examination process, the NASD discovered that investors were not routinely given the benefit of breakpoint discounts and has taken action against offending broker/dealers. The most recent action on that front was a combined $21.25 million penalty on March 23 against CitiBank Global Markets, American Express Financial Advisors and Chase Investment Services [see MME, 03/28/05].

In addition, at the request of the SEC, the NASD convened an industry task force consisting of fund leaders, large and small broker/dealers, transfer agents, Depository Trust & Clearing Corp. officials and others to devise technological and operational solutions to prevent further breakpoint oversight. The most recent action in that area was a recordkeeping network enhancement earlier this month at the DTCC that adds transparency to the information passed between funds and distribution firms. This should allow brokers to better apply for breakpoint discounts on behalf of investors [see MME, 04/18/05].

Another NASD initiative, conducted again at the request of SEC, Walter said, provided input on the impact of omnibus accounting for the Commission's proposal to implement mandatory redemption fees as a response to market timing. The SEC ultimately softened its stance and decided to make redemption fees voluntary [see MME, 03/07/05].

A third NASD task force was convened last year to provide the SEC guidance on the issues of soft dollars, portfolio transaction costs and mutual fund distribution.

Its conclusion on soft dollars, Walter said, is that the safe harbor set forth in Section 28(e) of the Exchange Act should be preserved. It's especially important to smaller investment advisers that cannot afford a large, internal research staff or hard dollar payments for research, she said. But while the NASD task force issued support for the safe harbor, it also suggested a number of new considerations.

Of particular note, Walter observed, is its recommendation that the SEC narrow its interpretation of the scope of research for purposes of the safe harbor, an issue on which the IDC has more recently voiced support. The NASD and IDC, however, differ on the council's position that the SEC require brokers executing transactions for funds to "unbundle" research and execution costs.

"The task force majority drew a distinction between third party and proprietary research, recommending dollar disclosure only for third-party soft-dollar benefits. This is an objective number that is easily determined," Walter said in a transcript of her closed-door speech obtained by MME. "In the case of proprietary research, however, the majority of the task force believes that there is no meaningful way for brokers or advisers to provide good faith estimates of the breakdown of total commissions into research and execution components."