February 7, 2013 / 12:18 PM / 6 years ago

Exclusive: Watchdog backs off over financial adviser regulation

NEW YORK (Reuters) - Wall Street’s industry-funded watchdog is pulling back from a campaign to expand its powers so that it would oversee 11,000 registered investment advisers, leaving a regulatory hole that could be exploited by those intending to commit fraud, its head warned on Wednesday.

CEO of FINRA Richard Ketchum speaks at the Reuters Exchanges and Trading Summit in New York in this file photo taken March 29, 2010. REUTERS/Natalie Behring

Financial Industry Regulatory Authority (FINRA) Chairman and CEO Richard Ketchum said there was no sign it can convince lawmakers in Washington to support a change in the way the advisers are regulated anytime soon.

In particular it does not expect the House of Representatives Financial Services Committee to revisit the topic in the immediate future, given leadership changes following the 2012 elections, and that has led FINRA to change its strategy, he said.

“I’m not a big believer in beating a head against the wall,” Ketchum said in an interview. “We’ll focus on things we can impact.”

FINRA, which oversees the U.S. brokerage industry, has spent about $4.9 million on lobbying since 2008, according to the Center for Responsive Politics, a Washington-based research group. Much of that has been directed at the adviser regulation question.

Currently, registered investment advisers are regulated by the U.S. Securities and Exchange Commission but a lack of resources means it can only get around to examining each adviser’s books about once every 11 years on average.

A 2009 report by a special committee commissioned by FINRA reported that its lack of authority over investment advisers contributed to its failure to uncover Bernard Madoff’s multi-billion-dollar fraud. FINRA’s authority extended to the brokerage arm of Madoff’s business while the SEC oversaw Madoff’s investment advisory business. They both missed numerous red flags.

One of the problems in getting progress in Washington is that FINRA has been unable to get unequivocal support from the SEC for its stance. Ketchum said that if it could get clear and enthusiastic backing from the SEC, then FINRA would become more aggressive about the question again.


Investors, in the meantime, remain vulnerable to advisers who are not examined regularly, he said. FINRA examines the 4,275 firms it currently regulates once every two years on average.

There is wide agreement that investment advisers need to be examined more often than they are now. But there’s little agreement about how to get there. And now that key Congressional committees that could extend FINRA’s role are led by lawmakers who have other priorities - such as housing policy - the issue is on the backburner.

“The problem and exposure for investors is exactly the same as it was before,” Ketchum said. While other changes in regulation of the securities industry following Bernard Madoff’s Ponzi scheme will make it more difficult to conduct scams of that size in the future, fraud is still a problem, he said.

Inadequate policing of investment advisers enhance that threat, he said. “When you don’t go in and examine an entity on a regular basis, the potential for a Ponzi scheme is much greater,” Ketchum said.

A lack of manpower and financial resources at the SEC are at the root of the problem, Ketchum said.

The Dodd Frank financial reform law shifted oversight responsibilities for 2,300 mid-sized investment advisers from the SEC to state regulators, but that did little to ease the SEC’s workload, Ketchum said.

That is because the law also directed hedge fund and private equity fund advisers to register with the SEC - a requirement that added 1,500 private fund advisers to the SEC’s responsibilities, according to figures from the SEC last October. Another 2,500 private fund advisers were registered with the agency before Dodd Frank.

It is often far more complex for the SEC to monitor hedge fund advisers than the mid-sized advisers previously under its control, Ketchum said.

Most investment advisers are vehemently opposed to FINRA regulation and prefer to remain under the SEC’s watch. They are skeptical that FINRA will back off the issue of self-regulation for long.

The Investment Adviser Association, a Washington-based trade group, will “remain vigilant” about monitoring FINRA’s moves, said executive director David Tittsworth.

He pointed to a November speech in which Thomas Selman, FINRA executive vice president of regulatory policy, suggested that investment advisers should warm to the idea.

“I think Rick Ketchum is a very sensible fellow,” Tittsworth said. “He understands that you just can’t keep going back to Congress time and time again, unless you’re making some headway.”

Reporting By Suzanne Barlyn; Editing by Martin Howell

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