SEC has yet to move on rules that would hold brokers, insurance agents to stricter “fiduciary” duty to clients

It's no secret that a powerful, well-funded coalition of mega-banks, derivatives users and insurance brokers wants to see major pieces of the Wall Street financial reform law dismembered and defunded. They are partnering with mostly GOP House members to do so.

What's lost in this complex cyclone of industry lobbying, free-market ideology and campaign contributions:  some of the most pro-investor protections of the law are at risk of disappearing, including safeguards that would help every American who deals with a broker, bank or insurance adviser.

Among the pro-investor measures facing an uncertain future:

• Requiring stock brokers and insurance agents who offer financial advice to act as “fiduciaries” and put client interests ahead of their own profits;
• Creating an Office of the Investor Advocate and a new Investor Advisory Committee within the Securities and Exchange Commission. Both have beenput on hold for lack of funding;
• Supplying all the funding mandated by the Dodd-Frank financial reform law for the new Consumer Financial Protection Bureau;
• Increasing the annual funding sought by the SEC and the Commodity Futures Trading Commission to carry out their Dodd-Frank mandates.

The all-out assault on the reforms began almost as soon as the law was signed in July 2010.

Following the money

Financial industry dollars have been pouring into congressional coffers for years and have mushroomed in the wake of the Dodd-Frank law.

While both Democrats and Republicans receive money from Wall Street, banks and insurers, several House GOP members have aggressively led efforts to dismember key provisions of the Wall Street reform law.

The House Financial Services Committee, now chaired by Republican Spencer Bachus of Alabama, has been at the forefront of trying to delay or dismantle Dodd-Frank investor rules. This was the committee that did the heavy lifting for financial reform under former chairman Barney Frank, the Massachusetts Democrat and eponymous co-author of the law passed in 2010. 

Bachus has not only opposed the formation of the CFPB, he has introduced several bills to delay its start-up and replace its sole director with a five-member board answerable to a financial crisis committee of top regulators.

Bachus' frontal assault on the consumer bureau and other Dodd-Frank regulations reflects the disdain of GOP House leadership in general. Only three Republicans voted for the Dodd-Frank bill when it passed the House in a 237-192 vote on June 30, 2010.

First quarter 2011 campaign finance filings reviewed by the Sunlight Foundation showed "that seven of the 10 freshmen Republicans appointed to the House Financial Services Committee have received 40 percent or more of their political action committee (PAC) contributions from the finance, insurance, and real estate sector."

Bachus, who depends on the financial services industry for more than 80 percent of his campaign funds, framed his attack on the CFPB and other Dodd-Frank reforms in the context of government accountability and over-regulation.

“Everyone on this Committee supports robust consumer protection. But there must be real oversight and accountability of every massive government bureaucracy, and that includes the CFPB,” Bachus said on the passage of a trio of bills passed by the Financial Services Committee on May 13.

A coalition of consumer groups including the Consumer Federation of America and the U.S. Public Interest Research Group assailed Bachus' approach, saying that his bills "aren't about reasonable oversight of the CFPB, they are an attack on consumer protection," according to Ed Mierzwinski of US PIRG.

When financial reform was still being debated in 2009, opponents of the bill—mostly Republican—reaped an average 20 percent more in campaign contributions from the financial industry than proponents, according to the Center for Responsive Politics. 

House Democrats also received plenty of money from financial interests for their re-election campaigns.

Frank, an architect of the bill, received nearly $1.3 million, the second-highest amount of any House member, from the industry. Jim Himes of Connecticut received $1.2 million. He was followed by Ron Klein of Florida and Carolyn Maloney of New York, who received about $1 million each. Topping the list with $1.7 million was Democrat Paul Kanjorski of Pennsylvania, a former House Financial Services subcommittee chairman who lost his seat in the last election.

When Republicans took over House leadership last November, they began blasting away at the Dodd-Frank law with the support of the financial services industry. Since they knew they couldn't repeal the bill outright, they cherry-picked provisions that were most costly to the industry such as fiduciary duty, derivatives reform and the CFPB.

Bachus told an Alabama newspaper weeks after the November 2010 election that his role was to "serve the banks," later clarifying his comment to say that regulators should set parameters for banks but not micromanage them.

"If they (Republicans) can get control of both houses," Frank told iWatch News , "they can gut this thing (Dodd-Frank). In general, [GOP attacks on Dodd-Frank] are a way to attract campaign contributions and intimidate regulators."

Bachus and his House Financial Services Committee have already passed more than a dozen bills this year aimed at killing or weakening various aspects of the reform law, but the bills have not advanced in the Democratic-controlled Senate.

The top donors to Bachus:  Independent Community Bankers PAC, JP Morgan Chase & Co., American Financial Services Association and Capital One Financial Corp. Assn. PAC.  Of the 20 top contributors to Bachus, only two—ExxonMobil and Honeywell—had no direct connection to financial services.

All told, Bachus' campaign took in at least $1.23 million from the finance, insurance and real estate sector, more than half of the $1.97 million he raised in the 2010 election cycle, according to Sunlight Foundation.

Financial lobbies have been particularly generous to those on the House Financial Services’ capital markets subcommittee, which has jurisdiction over the SEC, exchanges, capital markets and government-sponsored housing enterprises like Fannie Mae and Freddie Mac.

The subcommittee’s chairman, Republican Scott Garrett of New Jersey, opposes expanding the fiduciary standard.  Garrett and 13 of GOP colleagues sent a letter on March 17 to the SEC, saying the agency "has not identified and defined clear problems that would justify a [fiduciary duty] rulemaking and does not have a solid basis upon which to move forward."  Lawmakers said they shared the concerns of the SEC’s two Republican commissioners, who said the agency’s fiduciary study “fails to adequately justify its recommendation that the Commission embark on fundamentally changing the regulatory regime for broker-dealers and investment advisers."

Garrett also demanded a "thorough cost-benefit analysis" of any fiduciary rule that the SEC might propose. Soon after receiving the letter, the SEC chairman announced the rule was put on hold for further study.

Like Bachus, Garrett's campaign was flush with financial services money. Throughout Garrett’s political career, his single-largest contributor by industry came from the finance, insurance, real estate and securities sector, which accountedfor $1.8 million of the career total $5.2 million raised.

To be sure, the party in power generally receives more money from special interests, especially when new regulations surface.

According to Opensecrets.org, "The average member of the Financial Services Committee received about 75 percent more money in the last election cycle from industries under their jurisdiction than the average member of Congress." That included more than $3 million from the American Bankers Association, $1.7 million from JP Morgan Chase, $1.6 million from Bank of America and $1.3 million from Wells Fargo.

By imposing restrictions and curtailing funds for the key agencies responsible for protecting investors, House Republicans have put regulators on notice that they will be gunning for them.  And if Republicans take control of the Senate in 2012, Dodd-Frank may be mortally wounded.

Investors who lost money from commission-oriented broker advice will continue to get hurt or be sold risky investments they don’t need without tougher watchdogs, according to consumer advocates.

"There absolutely needs to be fiduciary duty," says Robert Talbot, a University of San Francisco law professor who has represented hundreds of broker-fleeced investors. "People are completely trusting."

Attack on SEC funding, fiduciary rule

SEC Chairman Mary Schapiro, a champion of the Dodd-Frank reforms, has faced an onslaught from House and Senate Republicans. GOP members of the House Financial Services Committee want to cut the SEC’s funding and staffing, which would make it difficult for the agency to put in force the major safeguards mandated by the Dodd-Frank law, such as the Office of the Investor Advocate and better policing of investment advisers.

Republicans also want to neuter the power of the new consumer protection agency,complaining that the CFPB should not be led by a single director as the agency is now structured.

Not only is the alliance of GOP lawmakers and the financial services industry seeking to cut funding for the SEC, it wants to shelve a stricter fiduciary rule for brokers.  Under pressure from a group of House Republicans and GOP members of the Senate Banking Committee, Schapiro has delayed the rulemaking for the fiduciary rulemaking.  The SEC has already received more than 400 emails from industry groups as well as small investors in response to its January study.

One of the biggest supporters of expanding the fiduciary rule, the AARP, plans to do its own research to gauge the financial impact of the proposed rule, said Mary Wallace, senior legislative representative of the group that represents Americans over 50. Amid attempts to weaken or dismantle the Dodd-Frank law, Wallace says it's essential that the fiduciary rule survive so that investors will "be guaranteed that the products they are being sold are the best for the client's needs."

Schapiro recently told iWatch News that the agency has placed a higher priority on other rules for the time being. The reform law requires the SEC to write some 100 new rules, create five new offices and produce more than 20 reports. The SEC plans further economic analysis of the fiduciary issue, and hopes to propose a fiduciary rule in the second half of this year, Schapiro said in May.

Even with its new powers under the Dodd-Frank law, the agency acknowledges that it will be difficult to police such a large and powerful industry.  

The investor protection agency was crippled during the Bush administration as the SEC budget was reduced or frozen from 2005 to 2007 – just as Wall Street was selling securitized products that later proved to be toxic for investors and the financial system. Only recently has the agency returned to staffing levels of fiscal year 2005, Schapiro says.

In the interim, the SEC saw trading volume double, a 50 percent jump in the number of investment advisers, and investor assets grow to $38 trillion.

Six years ago, about 19 SEC examiners were available for every $1 trillion invested; now the ratio is 12 examiners per trillion, Schapiro said. Investor protection advocates are troubled by the fact that assets under management have ballooned while the number of watchdogs has dropped.

The agency requested $1.4 billion for fiscal 2012, an amount it says would be covered by the fines and other revenue the SEC generates. That's an increase of $222 million over the previous year, and would pay for 780 new jobs to carry out Dodd-Frank. House and Senate Republicans would like to cut the agency's funding.

"Insufficient funding for the SEC means fewer cops on the beat," Schapiro said in an April 8 speech, "even though fraudsters show no sign of backing off."

Industry defends status quo

Main Street investors have to look deep into the back story of the fiduciary rule to understand why it's attracted the enmity of financial advisers, brokers and insurance agents. The fiduciary rule would upend current business models used by brokers and insurance agents. It would cost brokerages, insurers and banks millions of dollars to retrain their brokers as fiduciaries, add in-house compliance practices and register with states or the SEC as investment advisers.

How much would it cost the industry?

Spokesmen with Securities Industry and Financial Markets Association (SIFMA), the National Association of Insurance and Financial Advisors (NAIFA) and the Independent Insurance Agents and Brokers of America did not respond to iWatch News’ repeated requests to comment on the issue.

Registered investment advisers, certified financial planners and many financial advisers already work in a fiduciary capacity with clients. And so do many lawyers and accountants who provide financial advice.

A coalition of fiduciary advisers has long supported and lobbied for the SEC rule. Their business model is simple:  the client comes first. Brokers typically adhere to a much-weaker standard that simply says they must choose financial products that are "suitable" for clients – a definition allowing them to sell products with lucrative fees and commissions.

Another big difference:  If an investor is wronged by an investment adviser, the investor can sue in court. But non-fiduciary brokers and insurance adviser/agents usually require customers to take any disputes to an arbitration forum run by the securities industry self-regulator, FINRA.  

To challenge a broker’s behavior, a small investor must pay fees and appear before a three-member arbitration panel run by the industry with at least one of the arbitrators representing the brokerage industry.  And as an investor, the odds are not in your favor, says Louis Straney, a securities arbitration consultant based in Santa Fe, N.M.

At present, the number of fiduciary advisers is small, so any imposition of a fiduciary rule on broker-dealers and other commissioned financial sales representatives would have broad impact and help the majority of American investors, according to investor advocates.

There are less than 12,000 registered investment advisers policed by the states and SEC, and even fewer certified financial planners. But the securities industry is represented by more than 600,000 brokers and 400,000 insurance agents, many of whom are cross-licensed to sell securities and commissioned variable annuities, which regulators frequently cite as sources of marketing abuses—particularly to older investors.

SIFMA, the main industry group representing securities brokers, stated earlier this year it supports "a uniform fiduciary standard of care for broker-dealers, investment advisers…yet remains concerned about the possible effects on broker-dealers' ability to serve customers as this approach is developed.”

While appearing to support the concept of fiduciary duty, SIFMA has also claimed that its customers would pay more if they were subject to fees instead of commission.  A SIFMA-paid study said an investor with $200,000 in assets would pay $460 more annually in additional expenses with fee-based advisers versus commission-based brokers.

NAIFA, a group representing 200,000 insurance agent/advisers, also says that small investors would be hurt. A NAIFA survey of more than 3,000 members found that imposing a fiduciary duty would force many to "discontinue providing some services to middle-market clients," the group said.

“Clients aren’t concerned about whatever standard of care might be imposed by regulators or legislators,” NAIFA President Terry Headley said in a recent statement. “An imposed universal fiduciary standard that increases costs and eliminates the ability of investors to choose how, and from whom, they receive financial products, advice and services would not be in the best interests of consumers.”

Barbara Roper, who has championed fiduciary duty for years on behalf of the Consumer Federation of America, has asked House Republicans to drop their opposition.

"The SEC has proposed a way to move forward on fiduciary duty that maximizes investor protections while minimizing industry disruption," Roper said in a May 9 letter to lawmakers. "It would be tragic if opposition from a few industry members intent on maintaining the status quo were able to derail that progress."

However, FINRA arbitration statistics indicate growing discontent with non-fiduciary brokers and advisers. The number of investors’ claims citing "misrepresentation, omission of facts, unsuitability, negligence, failure to supervise and misrepresentation" doubled in 2009 over the previous year, according to FINRA data. The single-largest problem category was "breach of fiduciary duty."  

The human toll

With the 2010 passage of financial reform, there was some hope that investors would gain more robust protection from inappropriate investments.  Some $114 billion has been directly lost by investors since 2008 in high-risky, broker-sold products such as auction-rate securities, principal-protected notes and sham securities, according to a study published by the nonprofit Nation Institute.

Linda Soltis, 63, could have used one of the reform law's intended investor shields when she was approached by a broker working inside a Washington Mutual Bank. After inheriting some money from her brother in 2007, the retired San Francisco teacher was hoping to buy a condo in one of the most expensive real estate markets in the country.

Despite making clear that her goal was to keep her money insulated from market volatility, the bank broker invested the money in risky and inappropriate mutual funds that earned him a healthy commission. When the Wall Street meltdown occurred in late 2008, Soltis was told by her broker that she had lost more than $46,000—a large part of her life savings.

After contacting several lawyers, her case against the broker was taken up by the Investor Justice Clinic at the University of San Francisco law school, which was able to recover more than $43,000 in an arbitration award against the bank, JP Morgan Chase & Co., which bought Washington Mutual in 2008 after it failed.

"Something about being in a bank made me trust him," Soltis says of the broker. "I thought he represented me and cared about my account. Then it came out in arbitration that his job was sales. I wasn't able to buy the condo when the money was lost."

Soltis is one of many investors who have been confused by brokers who work in banks, major wealth management firms or insurance agencies.

She could have been protected if the bank broker was required to act as a “fiduciary ,” a legal definition that means placing the client’s financial interests first. Investment advisers are already held to this legal standard when recommending where clients should put their money.  But many less-sophisticated investors are unaware of the difference between brokers and investment advisers.

The Dodd-Frank law created a Consumer Financial Protection Bureau (CFPB) and an SEC Office of the Investor Advocate, both designed to protect bank customers and small investors with a new arsenal of police.  It also ordered the SEC to study a fiduciary duty for brokers.

The SEC produced a report in January that said that the fiduciary standard should apply to anyone giving financial advice. The agency planned to begin writing a rule to that effect until it ran into pressure from Republican lawmakers and financial services industry lobbyists.