The Securities and Exchange Commission should strengthen the requirements that allow investors to qualify for private-placement offerings, including adding a requirement that they work with an investment adviser, according to a new study by the investigative arm of Congress.
In a new report, the Government Accountability Office said that the so-called accredited investor standard would better protect investors if it also included a requirement that investors maintain a minimum amount of liquid investments. It defined liquid investments as those being easily sold, marketable and valued.
The recommendations were based on GAO interviews of 27 market participants — including attorneys, accredited investors, retail investors, broker-dealers and investment advisers — over the past year.
The current accredited-investor standard requires a net worth of at least $1 million, excluding home value, or an annual income of $200,000 or more. If an investor meets these qualifications, he or she can buy unregistered, or private-placement, securities, which are often highly speculative and illiquid.
The market participants interviewed by the GAO cited the net worth standard as being the most important accreditation criteria. The GAO estimated that by raising the $1 million threshold to $2.3 million to account for inflation since the last time the standard was adjusted, the number of U.S. households qualifying as accredited would drop to 3.7 million, from 8.5 million.
The panel was mixed about whether to raise the net worth standard, with 13 saying such a move would strengthen investor protection, 12 saying it would have no effect and two saying it would weaken investor protection.
Under the Dodd-Frank financial reform law, the SEC must review the accredited-investor definition every four years, beginning in 2014. The GAO report, mandated by Dodd-Frank, was designed to provide guidance for the agency's work in the area.
“In preparing recommendations to the commission, the staff will factor in the views of the GAO that the SEC should consider alternative criteria for the accredited investor standard, and in particular, adding liquid investments and use of a registered adviser,” wrote Keith Higgins, director of the SEC's Division of Corporation Finance, in a letter accompanying the GAO report.
The debate over who is qualified to participate in a private offering spiked last week, when the SEC adopted a rule that allows advertising to the public for such sales. The transactions would still be limited to accredited investors. The regulation implements a provision of a law passed with overwhelming bipartisan support last year in Congress.
That measure was designed to ease securities regulations for startup companies and spur job growth. Critics asserted that the rule will put investors in danger because it lacks appropriate safeguards. The SEC also has proposed a related package of investor protection, but it is unclear whether they will be approved.
Last week, the SEC said the private placement market reached $1.6 trillion in 2012.