The hits keep coming for the Securities and Exchange Commission’s best-interest proposal—this time in the form of a letter from 11 former SEC economists who question the integrity of the economic analysis the SEC has used to justify their proposal.
While SEC Commissioner Jay Clayton is championing the standards—ostensibly designed to raise broker conduct standards and investors’ understanding of brokers conflicts of interests—the economists fault the agency for failing to provide economic justification that clearly lays out what problems the controversial regulation will fix.
“We felt unanimously that the SEC’s economic analysis didn’t engage the fundamental questions of the problem and whether regulation can fix those problems,” said Mark Flannery, who served as the SEC’s chief economist from 2014 to 2016.
SEC spokesman John J. Nester declined to comment on the economists’ letter.
The letter by the 11 former chief economists came out of a meeting they held at MIT in December to assess areas where they might be of further assistance to the SEC, Flannery said.
“We definitely identified Reg BI and the ongoing drama of trying to determine what kind of regulation would be appropriate for retail investing,” said Flannery, a professor at the University of Florida.
The group is split, he said, on whether or not regulation can control conflicts of interest or whether a prescriptive regulation might create other “unintended consequences,” said Flannery. But the former chief economists agreed that the economic analysis underpinning the proposal needs work.
“We find it worrisome that the proposals’ economic analysis does not fully consider some potentially important dimensions of the retail client-adviser relationship,” the joint letter said. For instance, “nowhere does the EA (economic analysis) emphasize that an adviser’s compensation provides numerous opportunities for her to favor one investment over another on the basis of the compensation it pays to her or to her firm,” the economists said.
“Overall, we find the EA’s discussion of potential problems in the customer-adviser relationship to be incomplete. We can identify several features of the market for ongoing retail investment advice that might be considered problematic. ... Should IAs and BDs be subject to the same standards in protecting a customer’s 'best interest'? Might imposing new standards of behavior lead to higher prices for financial advice or otherwise limit some customers’ access to good financial advice?” the economists asked.
The group also faulted the SEC for failing to include in its economic analysis the 2014 academic study “Mutual Fund Performance and the Incentive to Generate Alpha,” which found that equity mutual funds sold through brokers are more expensive and less profitable than similar equity funds sold directly by a fund’s investment advisor, such as Vanguard or Fidelity.