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Finra engages in rulemaking by enforcement: financial industry groups

FSI and SIFMA criticize broker-dealer regulator for creating standards based on settlements

Jun 21, 2017 @ 1:56 pm

By Mark Schoeff Jr.

Financial industry trade associations criticized Finra for using enforcement to establish regulatory standards for brokers rather than the formal rulemaking process, in letters to the broker-dealer regulator as part of its self-examination process.

The Financial Services Institute, which represents independent brokers and financial advisers, said that as the Financial Industry Regulatory Authority Inc. has increased its fine level, FSI members are wondering about the broker-dealer self-regulator's motivation.

"Recent developments in fines have lead [sic] members to believe that enforcement has moved away from investor protection and is now actively creating standards and rules outside the rulemaking process," David Bellaire, FSI executive vice president and general counsel, wrote in a June 19 comment letter. "Furthermore, some FSI members report that they feel the threat of large fines is being used to force them to sign [settlements]. The drastic rise in fines combined with lower restitution rates tend to show that Finra is using the enforcement mechanism to regulate members rather than make investors whole."

The FSI based its comment in part on a study by Brian L. Rubin and Adam C. Pollet of the law firm Eversheds Sutherland that shows that Finra fines reached a record $176 million in 2016, an increase from $94 million in 2015, while investor restitution decreased to $28 million in 2016 from $96 million in 2015.

The Securities Industry and Financial Markets Association made a similar assertion, saying that its members were targets of enforcement actions based on "unofficial legal positions taken by Finra staff," such as when a settlement becomes an "interpretation...applied to all firms," or when decisions are based on remarks in a Finra official's speech.

"Member firms find 'regulation by enforcement' extremely troublesome because it creates legal standards and imposes retroactive regulatory requirements and legal liability outside the formal rulemaking process," SIFMA president and chief executive Kenneth E. Bentsen Jr. wrote in a May 8 comment letter.

"Earlier this spring, FINRA President and CEO Robert W. Cook asked the public to provide their thoughts and ideas on improvements to FINRA's current engagement programs," Finra spokeswoman Nancy Condon said in a statement. "We thank those who have commented for their thoughtful feedback, which we will consider in our evaluation to help ensure FINRA is the most effective and efficient regulator it can be."

The FSI and SIFMA were responding to a 30-page March 21 request for comment in which Finra asked for feedback about its engagement with member firms. The solicitation of comments is part of the Finra 360 initiative launched by Mr. Cook in which the organization is reviewing its operations. The comment deadline was June 19.

The expansive request for comment provided an opportunity for respondents to evaluate a range of Finra activities, policies and structure. For instance, the Public Investors Arbitration Bar Association criticized the makeup of the Finra committees and its board of governors, where it said it wanted to see more investor advocates. The Finra board is comprised of 23 members, 12 of whom are "public governors" and 10 of whom are "industry governors." Mr. Cook also sits on the board.

"While the Finra Board of Governors has its purported 'public' governors, it would appear from their background and/or current positions that most of them are not what PIABA would consider to be investor advocates," PIABA president Marnie Lambert wrote in a June 19 comment letter. She cited five public governors who are currently or were formerly associated with investment firms or have ties to the financial industry.

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