The Labor Department's forthcoming fiduciary rule and its "demanding requirements" make sense, says FINRA CEO Richard Ketchum, who expects the entire industry will eventually have a uniform standard.
"There is no good reason that in today's environment why a best interest standard shouldn't apply across all products and all activities," Ketchum says.
Yet one of the challenges facing his successor will be the duplication and overlap among a variety of regulatory agencies, says Ketchum, who is set to retire later this year once a successor is chosen.
And it'll be an ever more challenging environment to navigate as FINRA has faced criticism from investor advocates who charge it with being too close to the industry, and equally sharp criticism from the industry itself, which says its rules are sometimes too burdensome.
In an exclusive interview, on the sidelines of SIFMA's Compliance and Legal Society Annual Seminar in Orlando, Fla., Ketchum reflected on his career and how the regulatory environment will change once the Labor Department's fiduciary rule is finalized.
The DOL’s fiduciary rule is expected soon. Do you foresee a uniform fiduciary rule for the entire industry at some point in the future?
I think so. It makes sense. There are many things about the [current] proposal that I really like, starting with the implementation of a best interest standard and increased disclosure at the point of sale for investors. There are some things that I am concerned about that may inadvertently harm small investors because firms may offer them more expensive fee-only accounts. I think it will create an imbalance from the standpoint of how retirement accounts are regulated compared to others. There is no good reason in today's environment why a best interest standard shouldn't apply across all products and all activities. There is no reason why there shouldn't be more demanding requirements from the standpoint of how firms manage their conflicts, particularly with regard to difficult ones involving compensation and how they compress differences in compensation between different products.
In my perfect world, you'd eventually have a common standard under securities laws that could be enforced by regulators. The DoL's standard can really only be enforced by attorneys generals as the DoL doesn't have enforcement authority over the BIC part [best interest contract exemption]. And it would have common standards across retirement accounts and other accounts.
I hope that we get there. I would be surprised if we got there this year given the huge range of responsibilities that Chair White has. But I hope it happens soon.
What challenges lay ahead for your successor?
First, to navigate a very crowded regulatory world. There is always integration with the SEC. But with bank organizations being increasingly concerned with capital markets and with entities like the Department of Labor, which has decided to have different rules with regard to retirement accounts, I think the challenge of coordination and cooperation across all regulators in order to reduce duplication is going to be a big challenge.
There is no good reason that in today's environment why a best interest standard shouldn't apply across all products and all activities.
The other challenges are continuations of what we've already expressed the last seven years. The industry is always creative. There are always new products, a rush to explain that there is a new paradigm of investing and this time is different and that risks are less than they may appear to be. The equity markets will continue to change dramatically. I think that you will have fixed income markets look less like equity markets, but way different. They may be more and more driven with respect to automatic trading algorithms, and, I think, more transparent so that customers know what the cost is of what they are investing in.
I think some of that is good. But any time that markets change dramatically, that's a big challenge to regulators.
What didn’t you accomplish during time at FINRA that you wish you had?
I'm pretty much a glass half full person.
I was disappointed with the industry's concern with our CARDs proposal [a data aggregation program]. I think that data analytics is critical from a regulatory standpoint. I think it would have been a great thing for reducing burdens on the firms while increasing our ability to respond rapidly to rule breaking and fraudulent behavior.
But we do gather a great deal of information from firms as is.
As I said, I'm a glass half-full person. Sometimes your direction is a little more indirect than you want, but we are moving inexorably towards an organization that is targeting our efforts based on data analytics.
Given the report that
It was a good time to reemphasize that whether its FINRA rules or just the logic of how you treat customers, there are the same issues there whether it's a human being or an algorithm. Understanding what comes out the other end, vetting it beforehand and looking at the range of profiling investors… the risk of algorithms is that they can be cleverly designed but that people follow it wherever it goes.
How do you see the regulation of robo advisors evolving?
Most robo advice today is through a registered investment advisor, but we are seeing more and more on the broker-dealer side which is why we put out the report.
Those are human beings that are putting out the algorithm. Human beings are charged with overseeing the results on the other side.
It seems to me that you have the same responsibilities whether the advice is delivered through an algorithm or through a human. Somewhere in there the humans have responsibility for supervising the activity and humans design the algorithm and the algorithm does what the human designed it to do.
From FINRA's standpoint, the same requirements are in place. The same expectations that you understand your customer and both from the standpoint of what their risk appetites are and also that you have asked enough questions to really understand their financial situation and that they can accept risk and the risk of loss.
You may have designed a nifty set of products for 2014, but whoops, something happened to the energy sector in 2015. So if you were a human being you would start rethinking your advice with respect to the energy sector, and you should start asking the same questions from the algorithm.
FINRA’s critics have charged the regulator is too soft on the firms it regulates. Conversely, firms and advisors shoot back that it’s too tough. Why do you think FINRA gets equally sharp and opposing critiques?
It's certainly a question that I reflect on sometimes.
You see the critiques that Chair White gets. It's not just us. There remain some firms, I think, that preferred an environment with an old NASD or NYSE that was closer to them [FINRA's predecessors]. Some firms may not have accepted that the present regulatory environment is fundamentally extremely independent and less forgiving. There is a degree accountability today that I firmly believe in.
The reality is that within the last seven years, you've got to demand an accountability that involves fines and money going back to customers. That really matters. It's changed how firms manage compliance. There will always be frustration there and there will always be people who remember the time they thought was more balanced.
On the other side, it's probably good for us because it's a constant challenge to demonstrate our independence. But some people look at FINRA and – because we are not a government agency and because we do have a minority of industry persons on our board – that makes them suspicious and cynical.
I think both of those things are somewhat inevitable. But when you sit as FINRA CEO you've got to call them as you see them and try to make decisions that stand up to our business card, which is investor protection and market integrity. And at the same time do that in a way that is balanced and fair.
