Article originally appeared on AdvisorPerspectives
Southwest Airlines canceled 16,000 holiday flights. It will cost the airline dearly in reputational rage and lawsuits. Will massive Reg BI compliance failures cost broker-dealers (BDs)?
The costs to Southwest are piling up. The Senate Commerce Committee Chair promises to hold hearings. Fifteen Senators wrote Southwest CEO Robert Jordan demanding answers. The transportation secretary called the disruption “unacceptable” and said fines may be coming. Southwest estimated the cancellations will cost the airline $825 million. Last week a shareholder lawsuit was reported.
What about the massive BD failures with Reg BI? Days after the Southwest holiday debacle, FINRA released its 2023 report, titled The Examination and Risk Monitoring Program.
By FINRA’s reckoning, many BDs ignored Reg BI.
Indeed, FINRA reported massive BD compliance failures.
Tracey Longo reported in Financial Advisor how FINRA explained findings on Reg BI. Longo cited a FINRA executive: “We spent a lot of time on Reg BI in many of our exams. … I think we’re going to be moving more towards delving in a little deeper on point-of-sale issues,” Michael Solomon, FINRA’s senior vice president of exams, said in a new podcast on the exam findings.
FINRA said its report showed a commitment to transparency. Perhaps. But if so, it was overwhelmed by the massive failures cited in the findings. The “compliance obligation” section cited:
Failure to comply with compliance obligation… Failing to adopt and implement written policies and procedures… Failing to modify existing policies… Failing to develop adequate controls… Failing to enforce Reg BI procedures… Failing to maintain sufficient systems… Failing to conduct adequate training… Failing to ensure recommendations involving variable annuities…”
Failures were not limited to the “compliance” obligation. They are also riddled through obligations of care, conflict of interest and disclosure. The report stated as “findings”:
Failure to Comply with Care Obligation…
Making recommendations of securities or investment strategies involving securities without a reasonable basis to believe that they were in the best interest of a particular retail customer.
Limiting consideration of cost solely to sales charges instead of also considering other relevant costs and fees…
Failing to conduct a reasonable investigation of offerings prior to recommending them…
Failure to Comply with Conflict of Interest Obligation…
Not identifying conflicts and disclosing or, if necessary, eliminating conflicts of interest associated with recommendations of securities transactions… (or) conflicts of interest that create an incentive for an associated person to make securities recommendations that place the interests of the associated person or the firm ahead of the interests of the retail customer…
Not identifying and mitigating potential conflicts regarding revenue or fee sharing arrangements with fund managers for offerings that were recommended to retail customers…
Failure to Comply with Disclosure Obligation…
Not providing retail customers with “full and fair” disclosures of all material facts related to the scope and terms of their relationship with these retail customers or related to conflicts of interest that are associated with the recommendation, including:
Material fees received as a result of recommendations;… transaction-based fees that were inconsistent with – and, in some cases, materially higher than – those outlined in Reg BI customer disclosures…
FINRA’s findings revealed flagrant failures. They are disturbing but not surprising, as I previously warned.
In June 2019, before Reg BI was released, then Consumer Federation of America consumer superhero, Barbara Roper, foresaw the future – that Reg BI would fail by not requiring brokers to recommend investments that are best for investors or curb broker incentives. Instead, it would “weaken protections that currently apply.”
Roper was prescient.
In November 2021, the North American Securities Administrators Association (NASAA) released a survey of 225 BDs from 35 jurisdictions that served more than 77.5 million retail accounts. NASAA president Melanie Senter Lubin noted, “Most firms are operating… as they were under the suitability rule.”
The Southwest holiday debacle became a worldwide media frenzy. Tens of thousands of affected travelers missed holiday gatherings. Their grievances are valid, and Southwest will pay a dear price.
And for the grievances of BDs’ retail customers? Reg BI failures over the last 30 months affected tens of millions of retail customers. The magnitude of the financial harm dwarfs those of Southwest’s customers. Yet, there was no media frenzy over the FINRA report. The BD harms are barely known except by a few investor advocates, some regulators and industry insiders. Why the silence?
Read the full article here
