SEC Takes Hard Look at Merrill Rule': Now All Broker/Dealers Not Behind Advice
August 14, 2006
What's in a name?
A whole lot of consumer protection, if that name happens to be "investment adviser," according to opponents of the 2005 Securities and Exchange Commission rule allowing broker/dealers to offer clients advice along with products.
This month, the SEC began steps to study the effects of this rule on investors and whether it has confused them, as the SEC promised when it passed the rule last April. Step one is the Aug. 1 27-page request for proposal soliciting an independent contractor to undertake phase one of a two-part study. This phase will compare the marketing, sales, fees and product information offered by broker/dealers, to those offered by investment advisers-and how investors perceive them. Proposals are due by Thursday.
"The study is an acknowledgement of the fact that there is no way you can disclose away investor confusion," said Barbara Roper, director of investor protection for the Consumer Federation of America in Washington.
A financial adviser by any other name is not at all the same, argued Roper, who said that the oft-interchanged titles of planner, adviser and investment consultant, blur the lines distinguishing the duties of those professionals to their clients. The Denver-based Financial Planning Association filed a lawsuit in the D.C. Circuit Court of Appeals that argues similar points and calls the rule "arbitrary, capricious and otherwise not in accordance with the law."
That law is the Investment Advisers Act of 1940 (IAA), which requires those who give paid advice to investors to act as their fiduciaries. Opponents argue that the 2005 rule perverts the spirit and the letter of that law.
"In updating the act to fit the Congressional purpose it posits, the SEC also decided that because brokers are providing more and more investment advisory services, Congress would want the IAA to cover less and less," the FPA lawsuit lambastes.
In fact, most of the 1,700 parties that commented on the rule before its passage, argued that by allowing brokers, who are not bound by the 40 Act, to provide-and charge for-advice to clients will yield sales that are not in those investors' best interest, and potentially encourage abusive sales practices. Fee-based services allow broker/dealers to earn steady streams of revenue, even when trading activity is slow.
"They wrote investor protection off the books," said Roper, calling the matter "arguably the most important issue out there for individual investors."
It's also an important issue for financial planners, and the fund companies who turn to them as distribution channels.
Investment advisers bound to act as fiduciaries of their clients, worry that the so-called "Merrill Rule," christened for one of the companies that lobbied for it hardest, will put large brokerage houses at a huge advantage, at the cost of their businesses.
A Merrill Lynch spokesman declined to comment last week.
But the Washington-based Securities Industry Association, which represents broker/dealers, lauded the study's launch. "This is an example of where the SEC is doing its homework, said Travis Larson, a spokesman for the group.
Already, broker/dealers are required to include a disclaimer stating that the interest of the broker may not be the same as those of the investor. As blunt as it is, opponents of the rule call the disclaimer inadequate.
The question, then, is what happens with the rule once the study is complete?
Although the study will be conducted by an outside conractor-a move Roper called critical-the finished product will be turned over to in-house SEC staff. Roper worries that the same staff that wrote the rule might not be quick to unravel what they developed, regardless of what the study says.
Reversing the rule then depends on the outcome of the FPA suit. "It will do just that, if we prevail," said Neil Simon, head of government relations for the FPA.
And that might be good news for some broker/dealers.
"Many of our members have been quietly rooting for the FPA suit to win," said David Bellaire, general counsel and director of government affairs for the Financial Services Institute, an Atlanta-based organization that represents independent broker/dealers, but has not taken a formal position.
Independents found the rule too vague, Bellaire said. "In practical application, it's very difficult to look at," he said.
Some began searching for new software packages to help them better devise models for investors, while others shied away from offering advice at all, fearful that they might accidentally breach the law.
Unlike the FPA, the Financial Services Institute does not want to see the rule wiped off the books, but rewritten, Bellaire said, this time with his organization's input. "Our members support clients having choices in how they pay for services. Our organization supports disclosure as a way of dealing in general with any of these issues," he said.
Larson of the SIA avoided making predictions, saying instead that the study, once complete, will influence the SEC's next move. "I think the study will go a long way in helping to answer some of these questions," he said. "It's something we'll have to wait and see."
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