SEC plans to issue new rules on broker pay

The Securities and Exchange Commission is taking aim at compensation practices across the brokerage industry — specifically the large upfront bonuses firms pay many brokers and advisers when they leave one firm and join another.
In remarks at the annual meeting of the Securities Industry Financial Market Association today in New York, SEC Chairman Mary Schapiro said the agency is in the process of writing rules about compensation, particularly pay that rewards risk-taking.
Upfront bonuses and compensation that encourages risk-taking “are things that absolutely have to change,” she said.
Ms. Schapiro said that the SEC intends to write rules that require “compensation programs that incentivize the right kinds of behavior.”
“Clearly, what’s unnecessary are compensation programs that compensate and incentivize short-term risk at the expense of … the long-term franchise from the viewpoint of investors,” Ms. Schapiro said.
She also criticized pay schemes that produce “higher levels of compensation for higher levels of turnover in the portfolio,” referring to churning practices, in which brokers can receive larger payouts for increasing the trading activity in clients’ portfolios.
John Heine, an SEC spokesman, declined to comment about SEC rulemaking and bonuses beyond Ms. Schapiro’s remarks.
In the wake of the passage of the Dodd-Frank regulatory reform act this summer, the SEC is left with a broad mandate to rewrite financial service industry rules. But Ms. Schapiro has recently taken aim at upfront bonuses that large wirehouses and regional broker-dealers routinely pay to woo brokers from competing firms.
As firms scrambled to pick up brokers in 2009 after seismic shifts on Wall Street, some broker-dealers began offering top advisers pay packages that could be greater than 300%of one year’s fees and commissions. Much of the bonus is linked to the broker’s performance after joining the new firm.
That caught Ms. Schapiro’s attention, and in August 2009 she issued an “open letter” to broker-dealer chief executives. (Read more here.)
“Certain forms of potential compensation may carry with them enhanced risks to customers,” she wrote. “Some types of enhanced compensation practices may lead registered representatives to believe that they must sell securities at a sufficiently high level to justify special arrangements that they have been given. Those pressures may in turn create incentives to engage in conduct that may violate obligations to investors.”
The retail brokerage industry has no single standard of disclosure regarding such bonuses, said Kent Christian, senior managing director and president of the financial services group with Wells Fargo Advisors LLC. Some firms have “fairly general” disclosure to clients about upfront bonuses, he said.
Most advisers, he added, would typically discuss any bonus along with the rationale for changing firms with clients, he added.