SEC's Clayton To Congress: Investors Have No Legal Right To Conflict-Free Advice

Securities and Exchange Commission Chairman Jay Clayton told lawmakers on Thursday that one reason he asked SEC staff to create the recent interpretation and clarification of investment advisor regulations is because investors mistakenly believe they have a legal right to conflict-free advice from RIAs.

“With respect to an investment advisor’s fiduciary duty, let me be clear, because I believe there is substantial confusion in the marketplace,” Clayton said.  “An investment advisor must seek to avoid conflicts of interest and at a minimum make full and fair disclosure of material conflicts. But it misstates the law and could mislead investors to suggest that investors currently have a legal right to conflict-free advice from an investment advisor.”

Clayton made his comments during a budget hearing before the Financial Services and General Government Subcommittee of the House Committee on Appropriations, where he requested $1.658 billion in SEC funding for fiscal year 2019. The request is a modest increase over fiscal 2018’s funding of $1.652 billion, but could be used to lift the SEC’s 2016 hiring freeze and fill 100 staff positions, including seven employees in the SEC’s Division of Investment Management, which regulates investment advisors.

The proposed rulemaking package the SEC unveiled last week, of which the IA reinterpretation is one of three proposals, “would address concerns that retail investors are confused about their relationship with an investment professional. For example, they may mistakenly engage the services of a broker-dealer when, if they were to make a fully-informed choice, their preference would better match those of an investment advisor,” Clayton said.

And therein lies the rub. Will the SEC’s proposals serve to better protect investors and help them make informed choices or further muddy the waters?

Critics, including SEC commissioners themselves, have wondered how the SEC’s package, including “Regulation Best Interest” for brokers, will accomplish Clayton’s goal of protecting "Main Street" investors when the standard does not define investors’ best interests and continues to create two levels of investor protection, depending on which type of financial professional an investor chooses.

As broker-dealers increasingly look more like investment advisors—offering fee-based advisory programs instead of their traditional commission products—it may become difficult for the SEC to justify a lesser standard of protection for brokers’ customers than is afforded advisory customers. That’s especially true, given the fact that the overwhelming majority of scams against investors are perpetrated by B-Ds and their salespeople, as SEC Commissioner Kara Stein said earlier this month when she voted against the new SEC proposals.

Also potentially confusing is the fact that Clayton insinuates that investors will somehow seek to compare and contrast broker-dealer regulations with those for investment advisors, deciphering securities law to make their decision about which financial professional to choose. That could be given how close he said the regulations are: “The close relationship [between B-D and IA regulation] is made clear when the proposed Regulation Best Interest is reviewed against the standards applicable to investment advisors,” he told lawmakers. “To address confusion regarding the standards applicable to investment advisers, we issued a proposed interpretation reaffirming–and in some cases clarifying–that duty as part of the rulemaking package.”

Clayton told lawmakers the package of proposals will:

1. Require broker-dealers and investment advisors to clearly state what they are;
2. Would prohibit stand-alone broker-dealers and their financial professionals from using the terms “adviser” and “ advisor” as part of their names and titles, and;
3. Introduce a new four-page disclosure to help people identify the services that their financial professional provides, certain conflicts of interest to which they are subject, the fees the investor will pay and the legal standards of conduct that apply when dealing with clients or customers.