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U.S. Securities and Exchange Commission

Statement by SEC Chairman:
Opening Statement at Commission Open Meeting of April 6, 2005, re: Broker-Dealer Rule


Chairman William H. Donaldson

U.S. Securities and Exchange Commission

Washington, D.C.
April 6, 2005

The first item on this morning’s agenda is a recommendation from the Division of Investment Management that we adopt a final rule addressing the application of the Investment Advisers Act of 1940 to broker-dealers offering certain types of brokerage programs. This rule articulates conditions under which a broker or dealer may retain its statutory exception from the Advisers Act, even though it accepts special compensation such as an asset-based or fixed fee for its services. The rule also permits broker-dealers to offer execution-only brokerage services for reduced commission rates without triggering the application of the Advisers Act for other accounts.

The rule, which has its roots in the 1995 “Tully Report” on compensation practices in the retail brokerage industry, was proposed by the Commission in 1999. It was designed to promote pricing practices that align the interests of customers with those of brokerages and registered representatives.

The 1999 proposal proved to be unexpectedly controversial, and the Commission staff struggled to formulate a final rule that would best protect the interests of investors. In December 2004, the Commission adopted a temporary final rule, scheduled to expire on April 15, and simultaneously issued a companion release, reproposing the rule and seeking additional comment on a variety of issues associated with the scope of the broker-dealer exception in the Investment Advisers Act.

We are here today to consider a final rule addressing the limited question of whether, and to what extent, broker-dealers who receive fee or asset-based compensation should nonetheless be excepted from the Investment Advisers Act. In general, I support the approach recommended by the staff. I agree that the form of a broker-dealer’s or investment adviser’s compensation can’t and shouldn’t serve as a bright line boundary between these financial service providers. Although, at one time, such a test may have been adequate as a ‘proximate solution to an insoluble problem,’ I believe that today’s investors are better served by an analysis that depends on the services being provided, and the relationship of the parties.

It has, however, become clear through the course of this rulemaking, that broader questions remain about whether there are material differences in the levels of protection afforded retail customers of financial service providers under the Securities Exchange Act and Investment Advisers Act and, if so, what can and should be done to either reconcile those differences or ensure that customers fully understand them.

I have, therefore, after consulting with my fellow Commissioners, directed the staff to report within 90 days on options and recommendations for a study to address these issues. The scope of the study would include, but not necessarily be limited to, questions such as –

  • Should the Commission seek legislation that would integrate the existing regulatory schemes applicable to broker-dealers and investment advisers that provide services to retail clients?
  • Should sales practice standards and advertising rules applicable to advice provided by broker-dealers be enhanced?
  • Should broker-dealers who provide investment advice but who are excepted from the Investment Advisers Act nonetheless be subject to the fiduciary obligations imposed by that Act on investment advisers?
  • Should obligations applicable to service providers who are dually-registered as broker-dealers and investment advisers be modified or stream-lined to eliminate regulatory overlap and reduce regulatory burdens? and
  • Whether there are areas in which the Commission, alone or in concert with other agencies, can engage in investor education efforts to assist investors to better understand the duties and obligations of their financial service providers.

In addition, the staff is to report on any rulemaking initiatives that they are prepared to recommend that the Commission itself consider, or ask the NASD or other SROs to consider, while the study is ongoing.

Before turning the discussion over to the Division of Investment Management, I would like to thank and congratulate Bob Plaze and Nancy Morris from the Division, as well as the many other staff members, including staff from the Office of General Counsel and the Division of Market Regulation, who were closely involved in this rulemaking. These are difficult issues, and each participant, with his or her unique perspective, contributed significantly to the final product. Congratulations and thanks to you all.

I would also like to take a moment to thank Mike Eisenberg for agreeing to serve as acting director of the Division of Investment Management during this interim period. As most of you are aware, Mike has been a pillar of the securities bar for many years. He is on his second tour of duty with the Commission, and, most recently, he has been serving as the Commission’s Deputy General Counsel. Mike – we all very much appreciate your willingness to take on the role of acting director – I am confident that the work of the Division is in strong and capable hands.

Now, Mike, would you please give us the details of the staff’s recommendation.

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Modified: 04/06/2005