Today, I offer the “Friday List,” an occasional feature summarizing a topic significant to investment management professionals interested in regulatory issues. The Friday Lists are an expanded “Our Take” on a particular subject, offering my unique (and sometimes controversial) perspective on an industry topic.
As reported last week, I went 4-4-2 on my 2019 regulatory predictions (26-19-5 over the last 5 years). Below I offer my 2020 predictions, addressing Regulation Best Interest, closed-end funds, private equity, and compliance. My one caveat is that my crystal ball is always cloudier during a presidential election year. For example, if Jay Clayton or Dalia Blass decide to resign (not predictions although possible based on history), all bets are off as the SEC would grind to a regulatory halt. Regardless, it should be an interesting regulatory year after all of the SEC’s 2019 new rules and proposals. If you want more, please pick up a copy of my book: The Compliance Advantage: Ten Must-Know Trends to Protect Your Investment Firm (available on Amazon).
Prediction for the 2020 Regulatory Year
Lawsuits will delay implementation of Regulation Best Interest. Multiple states as well as a coalition of financial planners have filed lawsuits challenging Regulation BI. The lawsuits claim that the SEC exceeded its authority or did not follow Dodd-Frank’s requirements. The financial planners argue that Regulation BI competitively discriminates. We expect the SEC will have to delay implementation and perhaps re-write the rule in response.
Congress will propose/adopt legislation increasing SEC penalties. Both Republicans and Democrats agree that corporate wrongdoers should face more severe punishments. Increasing SEC penalties died when Rep. Hensarling stepped down and his efforts to overturn Dodd-Frank ended. We expect Congress will resuscitate this initiative as it relates to SEC penalties.
New SEC rules will expand the closed-end fund market. The SEC will adopt changes to the accredited investor definition and facilitate the registered closed-end fund offering process with modernized disclosure and tender offer rules. The closed-end fund market will blossom, allowing retail investing into otherwise privately-offered securities.
The SEC will attack zombie funds. As far back as 2014, the SEC raised concerns about “zombie” funds i.e. private funds that lock up investor redemptions but do not attract new assets or make new investments. Late last year, the SEC brought a significant case alleging that the fund manager took illicit management fees even though it claimed the fund was illiquid. We expect a number of significant enforcement actions against zombie funds this year.
The SEC will bring significant valuation cases against private equity firms. As the retail market opens for private equity (see above), expect the SEC to scrutinize how PE firms value assets to calculate fees and performance. The SEC has already shown its willingness to attack PE valuations.
OCIE will conduct an adviser advertising sweep. It’s great news that the SEC recently proposed a modernized marketing and advertising rule. We expect that the SEC will adopt the rule (in current or modified form) and then direct OCIE to conduct an industry sweep to ensure compliance.
Dual registrants will face a series of reverse churning cases. The SEC has expressed concerns about dual registrants that put clients in fee-based programs when those clients would pay less in traditional brokerage accounts. The SEC has brought a few cases charging reverse churning. Expect a slew of these cases as sequels to the revenue sharing cases of the prior few years.
The SEC will allow the use of distributed ledger technology for securities settlement and shareholder transactions. The SEC has already allowed the beta test of a distributed ledger technology for securities settlement. Although the SEC has raised significant regulatory concerns especially around custody, we expect that the use of these technologies will become more widely permitted and utilized this year.
The Enforcement Division will commence several cases against registered funds alleging inadequate fund compliance programs. A recent OCIE sweep uncovered widespread regulatory failures by registered funds. The industry has received its warning shot. Expect litigation this year.
There will be a dramatic increase in the launch of niche ETFs. Although ETF launches were down last year, we expect that the adoption of the new ETF rule will facilitate the launch of smaller, niche ETFs who will no longer have to obtain an exemptive order.