Unlike SEC’s Approach, New Jersey Fiduciary Regs Have Teeth

From 2014 to 2017, Laura Posner was the top securities regulator in the state of New Jersey; she is now a partner at Cohen Milstein Sellers & Toll on the firm’s securities litigation, investor protection, and ethics and fiduciary counseling practice groups.

According to Posner, the fiduciary regulations issued recently by New Jersey’s Bureau of Securities (within the state’s Division of Consumer Affairs), can be seen as a direct response to what she described as a lackluster conflict of interest mitigation approach being taken by the Securities and Exchange Commission (SEC) under President Donald Trump.

As readers will likely know, in the wake of the defeat of the Obama-era Department of Labor’s fiduciary regulations in a circuit court, the Trump Administration’s SEC is currently working on a set of rules and requirements called “Regulation Best Interest.” During a late 2018 speech, SEC Chairman Jay Clayton said the market regulator is aiming to finish work on its Regulation Best Interest proposal during 2019.

According to Posner and others, the SEC’s Regulation Best Interest will likely fall far short of its stated goal of reducing conflicts of interest that cause brokers to not always act in their clients’ best interest. This is why states like New Jersey have issued their own, much stricter rules applying to brokers operating in their jurisdiction.

“A lot of my thinking about this issue is driven by my interaction with retail and retirement plan investors from the time when I was leading securities regulations for New Jersey,” Posner tells PLANADVISER. “A decent part of my responsibility in that role was driving investor outreach and education. From that work, I saw clearly that consumers believe their financial professionals are always bound to act in their clients’ best interest, at all times. Those of us in the industry know this is just not the case.”

Posner highlights the fact that, increasingly, financial professionals have come to wear “dual hats,” meaning they can be both a broker and an adviser.

“This makes it even more complicated from the client perspective to understand the standard of care being applied in any given situation,” Posner says. “I think it also is confusing to financial professionals what hat they are wearing in a given situation.”

Based on her extensive experience, Poser says, it is impossible to deny that U.S. consumers have a hard time understanding the “suitability” standard that many brokers currently operate under. In addition, they do not understand the difference between an adviser and a broker, making it next to impossible for them to understand the different regulatory standards applying to each. 

“They do not understand that there are many circumstances where a broker can make technically suitable recommendations that are not in the client’s best interest,” she says. “If we really care about consumer protection, this is just not the kind of environment we want unsophisticated retail investors to be in. They don’t understand that their financial professional could be recommending products that are not in the client’s best interest.”

Posner adds that she is perplexed by those brokers who argue that the SEC’s current suitability standard for brokers is sufficient to protect consumers from bad actors.

“We have plenty of industries in this country in which the suitability versus best interest discussion would be absurd,” Posner says. “For example, I am an attorney. I have no basis to act in any way that is in conflict with my client’s best interest, unless they expressly waived that standard in writing, which would never happen. The same thing goes for a doctor. They must always act in a best interest capacity. So I don’t really understand why brokers think there should be any distinction for the financial services industry. We’re talking about peoples’ livelihoods and their retirement accounts.”

According to Posner, the SEC’s Regulation Best Interest takes a disclosure approach to mitigating conflicts of interest—as opposed to a prohibitive approach.

“I can tell you unequivocally from my conversations with thousands of retail investors that they don’t read the disclosures that are provided to them,” Posner says. “If they do read them, they don’t fully understand them. For the SEC’s disclosure approach to work, I think it would take incredibly clear and specific language in bold-faced, highlighted type at the top of the first document you ever give a client, which says ‘I am not acting in your best interest and here’s what I’m getting because I am not offering you an alternative in which you would receive potentially better fees or better returns.’”

Posner says anything short of this type of a statement would not be sufficient, and even this would probably not be enough to properly educate the investor.

“In reality, I expect the SEC’s rule will just cause firms to start issuing boilerplate statements that do not really mean anything to real-world investors,” she says. “We need to improve the ability for investors to compare across two financial professionals the fees and costs associated with working with that financial professional. This analysis is virtually impossible today because there is no provision of information in a clear, apples-to-apples way. So, there is just no way a brief declaimer will make any of this at all clear.”

Posner encourages interested parties to read the North American Securities Administrators Association’s most recent comment letter to the SEC. The letter argues (and Posner agrees) that as currently presented, the SEC’s disclosure approach would still “make it perfectly acceptable for brokers to use a whole host of practices that are proven to not be in the best interest of clients.”

Zooming into the New Jersey standard, Posner says it appears to be a pretty aggressive standard that matches a lot of what was contained in the Obama-era DOL’s approach.

“My read is that the idea is to go much further than the SEC,” Posner says. “They are making the broker standard consistent with the investment adviser standard, which is a strict fiduciary best interest standard. I think it does a good job of laying out some specific practices that have become common and which are not in the best interest of clients—and which are therefore improper under the new standard. There is no presumption in the New Jersey standard that disclosing a conflict of interest in and of itself will satisfy the duty of loyalty.”