RIAs Don’t Seem To Care Very Much About The Regulatory Debate; Reaction To Last Week’s FINRA-SRO News Was Muted Hot

agluck May 01, 2012

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The issue of FINRA becoming the self-regulatory organization of RIAs is arguably the biggest story of the year for RIAs. Which begs the question: Why has the response to the prospect of FINRA becoming the regulator of RIAs been so muted?

The answer partly is that advisors simply don’t care that much — even the RIAs who will be most directly affected.

RIAs know something must be done about the current regulatory regime. It’s broken. With RIAs getting inspected by SEC examiners about once every decade, owners of RIAs know that better regulation is needed.

Do RIAs want FINRA as their regulator? No, of course not. However, like most business owners, RIAs are pragmatic. While RIAs would much prefer that the Securities and Exchange Commission would continue a their primary regulator, they know there is little chance of that happening.

With the obsession to cut government spending sweeping the electorate, it’s political suicide to argue for increasing the budget deficit to expand the SEC bureaucracy. This is the agency that failed to find the $50 billion Madoff fraud after it was provided evidence from an industry expert showing Madoff was likely running a Ponzi scheme.

Frank Armstrong, one of the nation’s most accomplished financial advice professionals, posting a comment on A4A on April 26, said:

“FINRA is my worst nightmare. Corrupt and incompetent. Who is going to look out for investors? My preferred solution is to charge investment advisors a fee sufficient to cover SEC regulation.

For all their shortcomings, many due to underfunding by Congress, at least they are not total todies for the wire houses and broker-dealers. I thought I had left the stench of NASD behind when I went independent 18 years ago.”

Armstrong is smart and practical, and I respect him for all he does. But that does not make him right.

FINRA is the devil you know. If the government creates a new inspection and enforcement program, it will be another kind of demonic bureaucracy. And it will cost taxpayers more than if FINRA does it. That’s just the history of government. The additional examiners and support staff that the SEC will have to hire to handle the added workload would create a new bureaucracy that would enrage you in new ways.

The other reason why it’s unrealistic to expect the SEC to continue regulate RIAs is because of the power, politics, and money. The financial services industry is organized and, relative to RIAs, vastly more able enough to spread around money to help candidates get elected. It’s a machine.

In contrast the behemoth Securities Industry & Financial Markets Association representing Wall Street, the largest industry group in the RIA sphere — investment advisors serving high-net-worth individuals — is the FPA, which is amid a membership slump and seeking ways to reinvent itself.

Moreover, the fee-only RIA business —the core group of advisors fighting against FINRA becoming their regulator — represents a tiny fraction of the financial advice industry. With more than 95% of the financial advisors in the country affiliated with securities brokerages and insurance companies, and doing business on a commission-basis, do you really expect to win this fight?

The fee-only advisors who say they are the financial advice profession are effectively disowning the financial services industry, ignoring the history of forebears, the place from whence they came. It’s high-minded but unrealistic. It just won’t work when you have an entire industry not doing fee-only business.

Advisors know all this. That’s why you don’t see more outrage expressed about the looming prospect of FINRA becoming the SRO for RIAs.

Advisors are focused on their businesses. They’re besieged by the rapid pace of change in software, marketing techniques, and productivity tools. The FINRA-as-an-SRO fight is not an issue they seem to care about that much.

Then again, I’ve been predicting that FINRA was going to become the regulator of RIAs for five years and I have not been right yet.