PIABA: Finra proposal to ease oversight of brokers’ outside activities would spur selling away

Arbitration lawyers assert changes would create regulatory 'black hole.'

A Finra proposal to ease requirements for brokerages’ oversight of their registered representatives’ work outside the firm will create a regulatory “black hole” and lead to more investor rip-offs, according to new report from securities attorneys.

In a report released Thursday, the Public Investors Arbitration Bar Association criticized a rule change being considered by the Financial Industry Regulatory Authority that would relieve financial firms of some responsibilities for supervising outside business activities.

Under the Finra proposal, brokerages would not have to monitor their representatives when they sell private securities away from the firm if the firms do not approve the sales. Firms also would not have to supervise or keep records of a broker’s work at an unaffiliated registered investment adviser.

If the proposal is implemented, it will unleash rogue brokers and cause a spike in investor harm, according to PIABA.

“These changes will create a regulatory and supervisory black hole that will insulate brokerage firms now serving as the first line of defense against selling away schemes at the direct expense of protecting investors,” the report states.

Andrew Stoltmann, a Chicago securities attorney and PIABA board member, said on a media conference call that he was stunned by the proposal, which was released earlier this year.

“This is undoubtedly one of the worst rule changes ever contemplated by Finra,” said Mr. Stoltmann, a co-author of the report. “It would be a bonanza for rogue brokers and it would paint a huge target on the backs of individual investors.”

“We continue to listen to stakeholders and are reviewing all comments on this issue,” a Finra spokesperson said in an email.

The proposal on outside business activities was a result of Finra’s retrospective rule review. In its February regulatory notice, the organization said that the reform “is intended to reduce unnecessary burdens [on firms] while strengthening investor protections relating to outside activities.”

Under the new approach, registered representatives would have to notify their firms about their intention to engage in selling away or work at a third-party adviser.

The firms would have to conduct a risk assessment and decide whether to approve the activities. But they would not have to assess non-investment-related work, activities at affiliates of the firm or personal investments.

Adam Gana, a PIABA board member and co-author of the report, said easing supervision of activity at unaffiliated RIAs would lead to more private placement and Ponzi rip-offs because brokers often set up outside RIAs to conduct those schemes.

“Brokerage firms are let off the hook. Rogue brokers are let off the hook,” Mr. Gana said on the conference call. “And small investors get left holding the bag.”

The public comment period on the proposal closed in April. Finra will now have to decide whether to drop the proposal or modify it. All Finra rules must be approved by the Securities and Exchange Commission.

“Hopefully, they’re going to put investor protection issues first and let this horrific rule die,” Mr. Stoltmann said.