INVESTMENT ADVISERS—SEC advisory committee adopts recommendations on innovation, small advisers - 04 November 2021

The meeting was the last for the Asset Management Advisory Committee, formed in 2019 to advise the SEC on issues pertaining to asset management.

At its final meeting, the SEC’s Asset Management Advisory Committee unanimously adopted recommendations from two of its subcommittees. One of the sets of recommendations highlights principles for regulation in the technologically evolving investment advisory industry, while the second aims to support and encourage smaller advisers and funds. Chair Gary Gensler described the SEC’s projects in the asset management space and encouraged committee members to continue to engage via the notice and comment process.

In remarks before the vote on the recommendations, Gensler thanked the committee for its work and highlighted four projects the SEC is working on in the area of asset management:

  • Enhancing fund disclosures;
  • Examining issues relating to digital engagement practices, such as conflicts of interest;
  • Furthering transparency into private funds, a $22 trillion market; and
  • Regulating funds’ use of names such as “green” or “sustainable.”

Commissioner Peirce stressed that regulation should encourage innovation and be technology-neutral, principles shared by the Evolution of Advice Subcommittee’s recommendations, which the full AMAC unanimously adopted. Observing that innovation in the provision of advice and guidance holds promise but also carries a potential for risks to investors, the Evolution of Advice Subcommittee also urged the SEC to focus on transparency regarding data practices; ensure users retain control over access to their data; and consider additional guidance on biases or disparities embedded in technology-based prompts.

Small firms. The AMAC also unanimously adopted recommendations from the Subcommittee on Small Advisers and Small Funds. The subcommittee emphasized that “small” firms and funds are really the typical SEC registrant: nearly 88 percent of SEC registered advisory firms reported employing 50 or fewer individuals in non-clerical positions and managing less than $2 billion in assets, and most registered firms are in middle markets across the country. While they may be “typical,” small firms have different challenges and opportunities compared to large firms, and their business models typically involve lower-risk activities as they tend not to manage derivatives or deploy strategies that implicate liquidity constraints. “Nonetheless … regulatory compliance expenses, as a percentage of revenue, for these firms tends to be ‘outsized’ as compared to the small number of large firms.”

The subcommittee, and now the full AMAC, recommends that the SEC modernize its definitions of small business/organization/entity for Regulatory Flexibility Act purposes. The SEC should acknowledge that assets under management is an ineffective measure, particularly sole measure, to identify small businesses; instead, it should consider human and financial resources available to operate the business. A small adviser or fund should be one with fewer than 50 employees or less than $25 million in annual revenue.

The SEC should also, through its Division of Economic & Risk Analysis, conduct periodic assessments and report on the cumulative impacts of regulation on small advisers and funds. The AMAC recommends convening a roundtable to study the inability of small advisers, funds, and retail investors to access new issues in the bond market, with a goal toward a level playing field and continued growth of the public market.

The committee also recommends that the SEC quickly allow investment advisers and funds to deliver notices and other disclosures electronically by default, without investors’ affirmative consent (investors would have the right to opt out and continue to receive paper communications). Similarly, the SEC should allow advisers and funds to default to electronic signatures on an opt-out basis.

Through the Office of Legislative Affairs, the Commission should encourage Congress to establish a centralized regime for data security and privacy that would also apply to the financial services sector. The committee also recommends that the SEC or its staff consider guidance on best practices in the areas of cybersecurity, business continuity, and disaster recovery that is tailored separately to large and small businesses.

The recommendation also states that the SEC’s work on the use of and reliance on proxy firms should be considered “unfinished.” The Commission and the staff should “fully consider the extent to which reliance on issuer diligence and recommendations made/performed by proxy advisory firms enhances (rather than detracts from)” how smaller advisory firms and funds fulfill their fiduciary duties when it comes to proxy voting. The SEC should look into the Derivatives Risk Management Program because of confusion on the balance of governance and oversight by the fund board, the committee said. Under current SEC rules, a fund’s investment adviser is ineligible to serve as the derivatives risk manager. However, funds have requested more guidance in this area, in particular the delineation of duties between the fund board, fund advisor, and the derivatives risk manager.

Finally, the committee recommended that the SEC examine whether to remove “CUSIP” (Committee on Uniform Securities Identification Procedures) references to its own securities identifiers in its rules and regulations. The SEC should study whether it has jurisdiction over regulating CUSIP and securities index licensing fee practices as they pertain to investment advisers. If the SEC does have such jurisdiction, it should take action to limit such fees; if not, it should coordinate with the Federal Trade Commission.

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