Statement on Soft Dollar Interpretation
Commissioner Roel C. Campos
U.S. Securities and Exchange Commission
SEC Open Meeting
July 12, 2006
I too would like to add my commendation to the staff on their efforts. It is clear that in crafting the guidance before us today you have carefully parsed through the language of the safe harbor, the Congressional record, the recommendations of the NASD Task Force, the examples provided by foreign jurisdictions and the comments expressed by the industry and investors. Such detailed attention is particularly warranted when one considers the magnitude of soft dollar use in the US. According to a recently published report by Greenwich Associates, soft dollar use in the United States has remained steady at just under $1.0 billion in 2006 approximately 9% of total equity institutional commissions for the period. The $970 million spent in soft dollar commissions in the twelve months that ended February 2006 is slightly lower than the 10% to 12% levels seen for institutional soft dollar use in 2002 through 2004, but I think we can agree that it is still significant. Plus, some have suggested that the decline is directly linked to the Commission's current focus on the issue.
It is clear that Section 28(e) reflects a Congressional determination that, subject to appropriate controls, the use of client Commission dollars to obtain research and brokerage services serves investor interests and is beneficial to the securities markets. Yet, it has been 20 years since the Commission last issued guidance on Section 28(e). I think it goes without saying that the time is ripe to address the growth and development of the technology, products and services available to money managers.
To be worthwhile, however, Commission guidance must offer the necessary intelligibility for an easily application of the interpretation. The Commission should not be responsible either for needless confusion or for failure to provide clarification where uncertainty exists. In other words, the guidance must ensure predictability so that money managers are not being second-guessed by our examination staff. For, until and unless Congress determines otherwise, the safe harbor for soft dollar practices is an important and legitimate component of the current system for providing research and effecting securities transactions.
In an attempt to simplify the safe harbor analysis for money managers, the interpretation before us today draws several lines within the broad categories of eligible research and brokerage products and services. By delineating certain distinctions, this line drawing exercise strives to provide clear guidance regarding protected services. While the interpretation itself seeks to present a uniform approach to the safe harbor analysis establishing a multi-step analysis there are some items which may fit into this general construct but clearly were not intended to fall within the safe harbor. If it were that easy, we would not be discussing this interpretation today. Importantly, money managers must remember that the lists of products and services in the interpretation are not exclusive, but illustrative.
The interpretation also reaffirms the Commission's position on third-party research. Since 1980, the Commission has held that research provided through third-party arrangements falls within the safe harbor so long as, among other things, the broker is obligated to the third party to pay for the services. I would like to emphasize that this sentiment has not changed. The research analyst settlement cases increased the demand for independent research. However, a number of third-party research providers have faced difficulty stemming from supposed uncertainty on behalf of brokers and money managers as to whether the third-party research remained within the safe harbor. It does plain and simple. Investors are best served if research of all types both proprietary and third-party is widely available to all investment managers.
In addition, the interpretation confirms the money managers' obligation to make a good faith determination that commissions paid are reasonable in relation to the value of services and products provided and notes that the managers' obligation to seek best execution remains in tact.
Finally, today's interpretation modifies the proposed guidance with respect to commission-sharing arrangements. These changes resulted from commenters' concerns regarding the evolution of the industry and the often separately provided services of research and execution. In the interest of recognizing the realities of the marketplace, the new guidance expands the scope of the "provided by" language when certain conditions are met. I believe this approach is the appropriate approach that retains Congressional intent but moves us into the year 2006. I would be interested to hear your comments on the matter.
When we last considered this guidance, I put in a plug for future action in this area. I believe that the disclosure concerns presented in the Commission's 1995 proposing release (which would have required certain registered advisers to deliver to its clients an annual report on the adviser's direction of client brokerage transactions and its receipt of research and other services in connection with those transactions) were not only valid then but have become more important as technology has improved and available products and services have multiplied. In the face of this progress, it seems that many fund directors may remain blind-folded regarding the costs and value of the various services and products for which they are paying. I know the agenda has been busy, but I am hopeful the Commission will address this issue in the near term.
Going further, some, such as the Consumer Federation of America, advocate a ban on soft dollars entirely. While I am not promoting this approach to Congress or any of my colleagues just yet, I do think that our big picture deliberations must give fair consideration to this alternative. Times have changed and the original limited goal of Congress in providing the safe harbor has long ago gone the way of the Dodo bird. This is precisely the reason investor advocates are opposed to the safe harbor and industry participants favor it. The question is, what is best for investors?
I am glad to see that some industry participants have taken a piece of the puzzle into their own hands with the unbundling of commissions (such as Fidelity's and Lehman Brothers' $7 million October 2005 unbundling deal), which requires the sell side to affix a value to each of its research products. The likely outcome of this conduct is to reduce the types of goods and services managers considered legitimate under the safe harbor. Again, the power of transparency and disclosure can be enormous.
For today, however, I support adopting the interpretation and look forward to your comments on the commission-sharing section of the guidance.