January 23, 2020
Subj: 33-10734 / Regarding Amending the Accredited Investor Definition
Note1: The comments and opinions below belong only to the author, Karl T. Muth, and do not belong to and should not be attributed to any employer, client, or affiliation of the author any errors, substantive or typographical, belong only to the author.
Note2: The term Accredited Investor is capitalized here when used as a Term of Art. When referring to the Definition in the Rule, or to the Act, these Terms of Art are also capitalized. In all other cases, they appear in their lowercase form.
Dear Chairman Clayton, the Commissioners Several, and those considering 33-10734,
Thank you for this invitation to comment on the proposed Rule and for again entertaining my comments as to the Accredited Investor rule and the modification it so badly needs. Indeed, every half-decade the Commission and its rule-making machinery seem to take up a question related to the Accredited Investor definition or its classificatory implications. As the Commission may recall, I presented comments on the family of issues surrounding the Accredited Investor rule on 17 May 2016 (see SEC File 4-692) and five years prior (see SEC File S7-04-11).
My view has not changed and I write today in opposition to 33-10734 as proposed for the reasons I describe, infra. I believe lack of access to innovative and unorthodox investments for retail investors is one of the tragedies of our time and one of the core regulatory failures of our system. Further, I believe taking notice of certain events in the past ten years is relevant and important.
Let me be clear, before I begin: In 2011, in 2016, and now in 2020, I support improved access to investment products to all investors and believe this a noble and necessary aim I do not support this Commissions decades-long quest to accomplish that worthy aim through patchwork relaxations of the Accredited Investor rule, a frustrating and perennial approach that I am disappointed to report is persistent and seemingly takes no notice of which party controls Congress or the White House. For over a decade I have watched this Commission discern who should be considered an Accredited Investor, like an art student squinting at an infinitely-subtle spectrum and finally, in a fit of vexation, choosing an arbitrary point at which to claim purple becomes blue. Today, you try again to identify this frontier.
First, I do not disagree with any single broadening of the Accredited Investor definition as proposed in 33-10734, and strongly believe more Americans should enjoy the variety of investment options available to Accredited Investors. I see the proposed broadening strategy as piecemeal, insufficient, arbitrary, and alarmingly incremental. The Commissions allowing $5M family offices and designated agents to fall within the Accredited Investor definition is akin to the regulatory middleground of medical marijuana: allowing needlessly-carefully-managed access to a set of products whose danger to the public is vastly overstated, time and again, backed only by a surplus of fear and a scarcity of evidence. We must meaningfully and quickly accelerate access to investments enormously more ambitiously than 33-10734 contemplates or allows. To continue the last decade-or-more of slowly turning counterclockwise the valve of market access for retail investors is simply not good enough.
Second, in 2020, we now enjoy a decade-distance vantage point on a highly volatile, high-return, asset that was merely an asset hatchling when I submitted my 2011 Comments on this topic. And that asset is Bitcoin. People – most of whom were not Accredited Investors – began trading Bitcoin as a speculative asset without the implicit or explicit protection of the SEC. And yet these people, unprotected by the society-sized condom of the Accredited Investor rule, survived their pecuniary intercourse with the Bitcoin market for the past more-than-ten years. I travel around our great nation, Commissioners, and I have yet to arrive in a city wherein Im warned to avoid the Bitcoin ghettoes or that the storefront a few blocks away is a suspected Bitcoin den. This kidding aside, the Commission has other tools with which to combat bad actors in new markets (see SEC Order 34-85739 dated Apr. 29, 2019) and limiting investors access to those markets is not the best weapon in the Commissions arsenal.
The Accredited Investor rule is the sloppiest of the arbitrary lines the SEC draws. The caboose of a fashion show of carefully-tailored regulation, it is a thrift store piece of obviously-Depression-era couture. And despite enormous progress in the sophistication and nuance with which the SEC approaches other taxonomical matters, the Accredited Investor discussion remains a sad alleyway of intellectual poverty in a city of regulatory thought that is otherwise sophisticated and reasonable. The caliber of this discussion must improve, and soon.
I strongly suggest the Commission consider reopening a discussion tabled since the 1980s, whether the protection of investors should hinge upon those investors inclusion or exclusion as to the Definition (Securities Act Sec. 2(a)(15) and as amended and as restated within Rule 501, Reg. D) and whether trimtab adjustment of the Accredited Investor definition is truly the best way for the Commission to protect investors in modern markets. That discussion, a more substantive debate than is had at the SEC today, had an exciting Reagan-era spark of potential to protect markets while also respecting the diversity of investors. For insight into this debate of the 1980s, see C. Edward Fletcher III, Sophisticated Investors Under the Federal Securities Laws, 6 DUKE L.J. 1081 (1988) accord Howard M. Friedman, On Being Rich, Accredited, and Undiversified: The Lacunae in Contemporary Securities Regulation, 47 OKLA. L. REV. 291 (1994) see also Manning Gilbert Warren III, A Review of Regulation D: The Present Exemption Regimen for Limited Offerings Under the Securities Act of 1933, 33 AM. U. L. REV. 355, 382 (1984).
The Commission must accept and recognize that the Accredited Investor rule debate over the Definition is not a debate over who enjoys the protection of the SEC in Americas regulated markets for securities. Plainly stated, whether or not plaintiffs were sophisticated investors has no bearing on whether or not they can sustain a cause of action under the applicable federal securities laws. 1985-1986 Transfer Binder Fed. Sec. L. Rep. (CCII) 92,819 (N.D. Ill. Nov. 13, 1985). Similarly, the definition does not limit recovery for less sophisticated investors who may be slower to discover bad deeds by the creators or brokers of securities in our regulated markets. See Holmberg v. Armbrecht, 327 U.S. 392, 397 (1946) ("this equitable doctrine of tolling is read into every federal statute of limitations."). The Commission must recall it enjoys other powers of intervention where active and widespread solicitation of public shareholders is undertaken by an actor, and that it is the Wellman test or any of its court-crafted progeny, rather than the Reg. D. Definition, that is most pertinent in those instances. Wellman v. Dickinson, 475 F. Supp. 783, 823-24 (S.D.N.Y. 1979), aff'd, 682 F.2d 355 (2d Cir. 1982), cert. denied, 460 U.S. 1069 (1983) (citing what is still good majority law on characteristics of tender offers).
The SECs mandate is to protect investors as a function of its protection of our regulated markets. But the SECs job is not to provide less sophisticated retail investors a shelter from its losses the mechanism is one of market guardrails and not one of indemnities. Compare generally Banking Act of 1935, Title I. Indeed, the securities laws (perhaps less the margin rules) were enacted by Congress to offer protection to all investors. The moulding and remoulding of the Accredited Investor rules Definition into slightly different shapes over time does not achieve Congresss protective goal. What achieves Congresss goal is for the SEC to focus on regulating the markets in which investors participate rather than classifying the investor participants. I remind the Commission today, as Justice Douglas attempted in 1974, that the 1934 Act does not even mention sophisticated versus unsophisticated investors. See Scherk v. Alberto-Culver Co., 417 U.S. 506, 526 (1974) (Douglas, J., dissenting). Rather, the SEC should be concerned primarily with the fair dealings of all participants in the market the government must resist any urge to be involved in Robin Hood LARPing, deciding how much the wealthy should be allowed to lose or how much the less-wealthy should be afforded protections.
I can state the core principle no more clearly than Judge Moran did in 1981: "Securities laws entitle all investors, both the experienced and the novice, to the full and truthful disclosure of material information" Spatz v. Borenstein .513 F. Supp. 571, 580 (N.D. Ill. 1981) (Moran, J.). This protection, of markets and the truthful information that drives them, must come first the consequential protection of investors large and small is orders of magnitude larger in scale and scope and efficacy than any specific bodyguarding the SEC can offer through definitional changes or even enforcement actions.
I urge the Commission to examine ways all investors can enjoy similar opportunities and protections in our regulated markets, which includes a loosening of todays Accredited Investor Definition that is more ambitious and more equitable than that considered in 33-10734.
Respectfully submitted for your consideration,
/s/
Karl T. Muth
Lecturer in Economics, Law, Organizational Behavior, and Public Policy, Northwestern University
Lecturer in Law, Pritzker School of Law, Northwestern University
375 E. Chicago Avenue
Chicago, IL 60611
@karlmuth on Twitter