The Securities and Exchange Commission recently offered a full-throated explication of its premise that investment advisers are subject to a federally imposed fiduciary standard under the Investment Advisers Act (IAA).[1] The premise, grounded in cryptic Supreme Court dicta, served as a basis for some to advocate that broker-dealers should be subject to a similar standard in providing personalized securities recommendations to retail investors. This concept gained statutory traction in the Dodd-Frank Act, but was never codified. After a long and tortuous path, however, the SEC finally adopted a compromise two years ago in lieu of mandating a strict fiduciary principle for broker-dealers. The compromise, known as Regulation Best Interest (BI), can be viewed as establishing either a fiduciary-lite or a suitability-plus standard of conduct for broker-dealers when recommending securities to retail customers. Nevertheless, the gold standard for conduct seemingly remains the “federal” fiduciary standard for investment advisers, a view which the SEC endorsed in an interpretive release that accompanied Regulation BI.
In the final section of a recently published article, I show why this bedrock principle is almost certainly incorrect as a matter of statutory interpretation and discuss the policy implications of this erroneous interpretation. The discussion preceding that section recounts the transformation of the IAA over the last 80 years from a statute largely about wealth managers providing retail investment advice to one where oversight of asset managers has gained primacy. The SEC has consistently worked during this period with Congress to realize and implement the IAA’s structural and conduct rulemaking agenda in response to the evolution of financial markets and the asset management industry. The SEC’s interpretive fiduciary principle stands in contrast to the SEC’s ongoing regulatory articulation of policy under the IAA. Its recognition of an implicit fiduciary principle in the IAA does not add coherence to the existing regulatory canvas, but rather introduces a catchall principle of uncertain scope that is likely to perpetuate an artificial divide between investment advisers and broker-dealers when providing non-discretionary personalized investment advice to retail investors.
As to the matter of statutory interpretation, the text of the IAA is clear. The statute’s key antifraud provision is explicitly grounded in language of fraud and deceit rather than fiduciary status. The object of this language is disclosure and not duty of care. The conspicuous omission of the term “fiduciary” from the IAA decisively cuts against the SEC’s interpretation and, indeed, the SEC’s interpretive approach runs afoul of the Supreme Court’s contemporary emphasis on text in reading statutes. As the court has explained, modest textualism necessarily entails that a “statute says what it says,” and, moreover, that it “does not say, what it does not say.”[2] The absence of an express fiduciary obligation in the IAA is especially revealing because Congress, both in enacting and amending the IAA and its companion statute, the Investment Company Act, in the same legislative public law enactments, expressly addressed fiduciary duties of investment advisers in the latter, while remaining silent as to such obligations in the former.
The SEC’s effort to find an independent fiduciary duty for advisers under the IAA is curious because it is largely unnecessary for any purpose of policy. Advisers generally are fiduciaries under state law and, as a matter of federal common law, all investment advisers are subject to a fiduciary disclosure standard under the IAA (i.e., a heightened disclosure standard under federal law for advisers by virtue of their status as state-law fiduciaries). In other words, advisers under the IAA must fully disclose conflicts of interest, even though federal law does not itself make them fiduciaries. What purpose then is served by the SEC’s insistence that advisers are subject to a broader self-executing federal fiduciary duty? The answer appears to be a desire to address advisers’ duty of care. However, the SEC historically has rarely, if ever, sought to bring a pure duty of care case against advisers, and issues of due care are now addressed indirectly through either disclosure-based misstatement theories or explicitly mandated rule-based obligations relating to compliance policies and procedures.
The SEC’s introduction of a non-textual, and non-enforceable, fiduciary principle as the standard of conduct for advisers creates an uneasy distinction between an aspirational standard of care for advisers (advanced by the SEC) and the IAA’s controlling standard of liability. Less obviously, the SEC’s approach discourages more promising methods of regulation. The SEC enjoys significant rulemaking authority under the IAA’s general antifraud provision. Indeed, it probably could impose a broad fiduciary obligation directly by rule. However, targeted investor protection rules offer a more constructive approach for addressing the conduct of advisers when providing personalized investment advice to retail investors. Rules, rather than standards, are more easily targeted to address specific forms of conduct relevant to average investors in contemporary securities markets, such as advice relating to specific investment products or to customers’ combining use of active and passive funds in an investment portfolio. Such rules could serve as a template for analogous rules for broker-dealers when providing average retail clients with non-discretionary personalized investment advice. In short, a targeted rule approach is more likely to lead to uniform conduct norms when broker-dealers and investment advisers deal with average retail investors in comparable contexts.
ENDNOTES
[1] Commission Interpretation Regarding Standards of Conduct for Investment Advisers, Investment Advisers Act Release No. 5248, 84 Fed. Reg. 33669 (July 12, 2019).
[2] Cyan, Inc. Beaver County Employees Retirement Fund, 138 S. Ct. 1061, 1069 (2018).
This post comes to us from Professor Joseph A. Franco at Suffolk University Law School. It is based on his recent article, “Bending the Investment Advisers Act’s Regulatory Arc,” available here.