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NRS 24 TH ANNUAL FALL COMPLIANCE CONFERENCE 2009. Issues of the Dual Registrant Margaret Paradis Partner Baker & McKenzie LLP mparadis@bakernet.com. THE UNIQUE ISSUES FACING THE DUAL REGISTRANT.

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nrs 24 th annual fall compliance conference 2009

NRS 24TH ANNUAL FALL COMPLIANCE CONFERENCE2009

Issues of the Dual Registrant

Margaret Paradis

PartnerBaker & McKenzie LLPmparadis@bakernet.com

the unique issues facing the dual registrant
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT
  • Possession of both broker-dealer and investment adviser licenses from SEC provides advantages and disadvantages
    • Advantages:
      • Increased regulatory authority allows:
        • Offering of more diversified and complete menu of financial products and services, including both brokerage and advisory
        • Broader client relationships
        • Receipt of brokerage transaction based and advisory compensation

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the unique issues facing the dual registrant1
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT
  • Disadvantages:
    • Dual regulatory regimes for compliance
    • Need to reconcile presence of both brokerage and advisory activities
      • Dual employees
      • Physical space arrangements
      • Different systems and recordkeeping requirements
      • Different SEC and SRO roles

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the unique issues facing the dual registrant2
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT
  • Different Client Relationships
    • Fiduciary relationship of advisers
    • Proposed fiduciary relationship for brokers
    • Disclosure standards
    • Agreements
    • Account Terms

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the unique issues facing the dual registrant3
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT

Obama Administration Proposals for Financial Reform:

  • “Expanded authority to SEC to promote transparency in investor disclosures
  • New tools tor SEC increase fairness for investors by establishing a fiduciary duty for broker-dealers offering investment advice and harmonizing the regulation of investment advisers and broker-dealers”
  • If adopted, SEC will have greatly expanded powers to regulate broker-dealers and investment advisers

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the unique issues facing the dual registrant4
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT
  • Proposed Uniform Fiduciary Standard for Both Broker-Dealers and Advisers:

“STANDARDS OF CONDUCT.—Notwithstanding any other provision of [Securities Exchange Act of 1934 or the Investment Advisers Act of 1940] the Commission may promulgate rules to provide, in substance, that the standards of conduct for all brokers, dealers, and investment advisers, in providing investment advice about securities to retail customers or clients (and such other customers or clients as the Commission may by rule provide), shall be to act solely in the interest of the customer or client without regard to the financial or other interest of the broker, dealer or investment adviser providing the advice.” (Emphasis added).

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the unique issues facing the dual registrant5
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT
  • Proposal to allow SEC to review and prohibit mandatory arbitration clauses in broker and adviser agreements
  • SEC if authorized may consider acceptable for one type of account and not another
  • Result could be another difference between advisers and brokers in dual registrants

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the unique issues facing the dual registrant6
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT
  • Asset based fee brokerage rule debate focused on certain differences between broker-dealer and adviser regulation and impact on investor
  • Potential for investor confusion about different roles of broker-dealer and investment adviser
  • Rand Study Report assessed level of confusion

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the unique issues facing the dual registrant7
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT
  • Obama Administration Proposal includes a provision to address confusion and other matters:

“The Commission shall . . . take steps to facilitate the provision of simple and clear disclosures to investors regarding the terms of their relationships with investment professionals”

  • One of the key terms is the type of investment professional and service being provided

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the unique issues facing the dual registrant8
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT
  • Certain proposed reforms
    • Setting common standards for different types of financial service providers
    • Could provide useful guidance for dual registrant

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the unique issues facing the dual registrant9
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT

Incentive Compensation and related issues impact dual registrant

  • Administration proposal will include increased SEC power to review sales practices, conflicts and compensation issues for advisers and brokers, to

“examine and, where appropriate, promulgate rules prohibiting sales practices, conflicts of interest, and compensation schemes for financial intermediaries (including brokers, dealers, and investment advisers) that it deems contrary to the public interest and the interests of investors..”

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the unique issues facing the dual registrant10
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT
  • Dual registrant’s sales practices, conflicts and compensation raise difficult issues not present in stand alone advisory or brokerage firm.
  • Continuing challenge is to balance increased volume of required disclosure with standards for clear and effective customer communication
  • Dual registrant is likely to have more and more basic conflicts, which are inherent in business model
  • Keys to conflict management are disclosure and internal management

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the unique issues facing the dual registrant11
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT

Fundamental Issues in Dual Registrant Structure

  • Integration vs. separation
    • This question relates to almost all aspects of firm’s operation
    • Answer dictated to an extent by personnel policies and products
      • How many employees are dual licensed?
        • Many (most?) have fully dual representative force
        • Can be very difficult to communicate different roles

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the unique issues facing the dual registrant12
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT
  • Current differences in broker-dealer and adviser regulation imposes different standards, creating need for dual sets of policies for certain personnel, records and activities
  • Consider a single standard that follows more stringent standard to avoid confusion
  • Training on differences is critical

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the unique issues facing the dual registrant13
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT
  • Trading Compliance Issues
    • Advisers Act Section 206(3) continues to be major point of differentiation, especially for larger firms
      • Temporary Exemption very limited
      • Staff expansion of restrictions to adviser affiliates
      • Cross trade policies
      • Reliance on systems to block principal and other prohibited trades by affiliated broker-dealer
        • Training also essential

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the unique issues facing the dual registrant14
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT
  • Best Execution
    • Consistent standards for advisers and broker-dealers
    • FINRA guidance also helpful for advisers
    • Current differences if any due to fiduciary vs no fiduciary duty likely to be eliminated under reform legislation
    • Extra burden for adviser/dual registrant in meeting best execution duty when using itself to be addressed in more demanding committee and other compliance policies for trading review and use of outside reviews periodically

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the unique issues facing the dual registrant15
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT
  • Use of Affiliated broker-dealer as custodian
    • Recent scandals have focused on this relationship
    • Proposed SEC adviser custody rule revisions would impose additional requirements on affiliated custodian arrangement beyond those imposed on unaffiliated custodian arrangements
    • Continued scrutiny to be expected

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the unique issues facing the dual registrant16
THE UNIQUE ISSUES FACING THE DUAL REGISTRANT
  • The Future
    • Dual Registrant structure for firms that have a certain critical mass and business plan provides advantage in marketplace with customer appeal
    • Financial service law reforms will increase compliance obligations for these firms, but for dual registrant firms may also introduce some helpful changes and guidance, e.g., harmonizing standards and disclosures by advisers and brokers.

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