IAA Briefs Members on 2023 Policy Landscape

February 10, 2023

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Assessing the implications of current legislative and regulatory activity on the policy landscape for investment advisers, the IAA provided its outlook for 2023 in a briefing webinar for members on February 9.

“Our industry has had to deal with a challenging policy environment this past couple of years – and it’s not letting up any time soon,” said IAA President & CEO Karen Barr. “We’re seeing a very aggressive policy agenda affecting our industry, mostly from the SEC. They’re giving us little time to analyze the proposals and short comment periods, and really rushing these rules through.”

The webinar touched on expected policy themes in 2023, including changes to principles-based regulation of advisers, the disproportionate impact of regulation on smaller advisers, the cumulative impact and interconnectedness of new and existing regulation, implementation of the new Marketing Rule, retirement policy, sustainable investing, changes to how markets work from a buy-side perspective, and how regulation is targeting perceived increased risks.

The briefing also focused on IAA advocacy on behalf of our members on several recent legislative and regulatory proposals, including SEC proposals on cybersecurity, outsourcing, and private fund advisers. IAA staff also discussed trends in SEC exams and enforcement.

Marketing Rule

Regarding the Marketing Rule, IAA Associate General Counsel Sanjay Lamba discussed the push-and-pull between growing your business through marketing and social media while staying within the regulatory guardrails. Primarily, we are seeing this tension around the presentation of gross and net performance, live oral communications (like a TV or radio interview), and social media.

“An important takeaway from firms’ efforts to implement the Marketing Rule is how crucial it is that we help policymakers appreciate the real-world implications of their decisions and understand what it looks like to operationalize new rules,” explained IAA General Counsel Gail Bernstein.

Environmental, Social, and Governance

While we are awaiting final rulemaking on ESG this year, the SEC is taking action now. The SEC is currently examining advisers concerning their ESG practices and in recent months has brought multiple enforcement cases against advisers for what they see as deficient ESG practices. In short, the SEC is looking at all steps of portfolio management with a focus on greenwashing, to ensure that advisers are doing what they say and saying what they do.

Additionally, several states have enacted laws to limit ESG investing, citing concerns that ESG investing is putting policy and social objectives ahead of financial objectives. The DOL recently removed barriers to plan fiduciaries’ ability to consider climate change and other ESG factors when they select investments.

There is also abundant skepticism among House Republicans about ESG. Rep. Bill Huizenga (R-Mich.), new chair of the House Financial Services Committee Oversight and Investigations Subcommittee, has identified ESG investing as one of four “targets” for his subcommittee.

Cybersecurity

Almost exactly a year ago, the SEC proposed significant new cybersecurity rules for advisers and funds. A recent survey by the IAA indicates that the SEC severely underestimates the cyber proposal’s costs. The IAA asked the SEC to update its cost-benefit analysis to incorporate this data and modify the proposal to reflect these more significant costs that would be imposed on advisers.

“We expect the SEC to adopt cybersecurity rules for advisers and funds in 2023. We expect there will be a reporting requirement but are hopeful it will be longer than the 48 hours proposed,” said Associate General Counsel Laura Grossman.

Outsourcing

At the end of 2022, the SEC released a proposal that would require specific oversight of service providers used by advisers. IAA Associate General Counsel Dianne Descoteaux noted, “The proposal is very prescriptive, departing from principles-based regulation and reflecting a check the box approach that’s designed in part to provide additional information to the SEC in order to facilitate its examination and enforcement efforts.”

The IAA believes this proposed rule is unnecessary – investment advisers already have a fiduciary duty with respect to all services provided, including those that are outsourced. We are particularly concerned that the rule was promulgated as an anti-fraud rule, which could result in a fraud violation for minor foot faults in compliance processes pertaining to vendor oversight. We will be meeting with SEC commissioners to discuss the profound impacts of this proposed rule on the industry, and have worked with members on comment letters.

Other Topics of Note:

• Retirement: The DOL has been focused on how advice is provided to retirement investors, specifically focusing on rollover recommendations. The DOL has also proposed rules that would change the way it grants exemptions for prohibited transactions and has proposed to make substantial changes to the QPAM exemption, which is a broad-based exemption relied upon by many advisers to allow them to provide services to retirement plans.
• Private Funds: Advisers that manage private funds continue to face increased SEC scrutiny. On the rulemaking front, we expect the SEC to adopt its proposal that could alter the landscape for private fund advisers. Increased oversight of private funds and private fund advisers is an SEC priority, and we expect that these rules will be finalized this year. “The rule changes represent a major shift in the way the SEC regulates private fund advisers and will constrain advisers’ ability to negotiate contractual terms, even with sophisticated private fund investors, and will require significant investments in technology and compliance resources,” said IAA Associate General Counsel Monique Botkin.
• T+1: The SEC recently announced that it will adopt its proposal to move from a T+2 to a T+1 settlement on February 15. Investment advisers will need to implement new operational, contract, and recordkeeping provisions around trading.
• Definition of “Dealer”: The SEC is also proposing to redefine what it means to be a “dealer” of securities. While the proposal exempts registered investment companies, the proposed amended dealer definition could capture advisers, private funds, and even SMA clients, under vague and arbitrary tests of their trading activity, though it is not clear how many would be captured. If the rules are adopted as proposed, advisers and private funds could be subject to onerous monitoring requirements, among other dealer requirements such as net capital, reporting, and SRO membership.
• Equity Market Structure/Broker-Dealer Best Execution: A package of SEC proposed rules impacting investment advisers relates to changes to equity market structure and broker-dealers’ best execution obligations. While there may be more data on brokers’ execution, it is unclear what impacts there may be on changes to payment for order flow, commissions, and soft dollars.
• Anti-Money Laundering: Though the AML provisions were dropped from the ENABLERS Act, AML for advisers remains on the horizon, and is likely to be developed by Treasury’s Financial Crimes Enforcement Network (FinCEN).
• FTC Proposal on Non-Compete Clauses: Employers would be banned from using these clauses, not only in agreements with employees, but also with other individuals like sole proprietors and independent contractors. Employers would have to rescind existing non-competes and advise employees that those provisions are no longer in force.
• Mandatory Arbitration: The use of pre-dispute arbitration clauses has recently garnered both Congressional and regulatory attention. The SEC has had the authority since 2011 to prohibit or restrict the use of these clauses. With this increased interest, a potential rulemaking could occur that may impact the use of these clauses going forward.

Wrap-Up

“We’re seeing a troubling shift from principles-based regulation of advisers to a more prescriptive approach that takes away an adviser’s flexibility to tailor its compliance program to its particular business,” said Bernstein. However, “We’re pressing the SEC to step back and look holistically at the cumulative effects of all regulatory requirements on your firms – whether small or large. Policymakers must appreciate how all these regulatory requirements, taken together, are affecting our industry and ultimately your clients.”

The IAA brings our members together to advocate on behalf of the industry in response to this tidal wave of regulation. We are laser-focused on educating policymakers about the cumulative impact of all these regulations on your businesses. And, we are working to ensure that policymakers acknowledge and take into account the effect of regulation on small businesses, which are the core of our industry.

IAA members may watch the entire Briefing Webinar on the IAA website. IAA members who wish to get involved on any of these topics are encouraged to reach out to the Legal Team at iaalegalteam@investmentadviser.org.