My name is Max Schatzow and I am an attorney with the law firm of Stark & Stark in Lawrenceville, New Jersey. When we first saw the press release issued by Governor Murphy back in September announcing his intentions, we knew that we wanted to participate in this process, because the Investment Management practice group at Stark & Stark represents numerous broker-dealers and countless investment advisers registered with the United States Securities and Exchange Commission and the New Jersey Bureau of Securities on regulatory and compliance matters.
Our clients are extremely varied and range from those providing investment advice to private investment funds and registered investment companies to retail individuals. However, our most common client is an individual or group of individuals who have broken away from a larger financial institution, such as Morgan Stanley or Merrill Lynch to start their own boutique investment advisory firm. We then help those firms address their legal and compliance needs and serve as outside counsel and compliance officers as they grow their business.
First, I’d like to thank the Bureau Chief, Christopher Gerold and the rest of the staff of the Bureau of Securities for having us here today and taking the time to consider a very important issue for the residents of New Jersey and the investment industry. I’d like to also thank Governor Murphy for recognizing the importance of putting customers first in New Jersey.
It is important to note that my comments today, while informed by my experience in representing our clients, represent my own views and are not intended to reflect the views of any of the firm’s clients.
The preproposal solicited comments on amending the New Jersey Annotated Code 13:47A-6.3 or the “Conduct Rule” to specifically require that broker-dealers, agents, investment advisers, and investment adviser representatives be subject to a fiduciary duty. While enhancing protections for investors in our great state is always a noble cause, my comments here today are intended to help shape the debate and inform the Bureau as they consider a final rule.
Justice Frankfurter once stated that,
“[t]o say that a man is a fiduciary only begins the analysis; it gives direction to further inquiry. To whom is he a fiduciary? What obligations does he owe as a fiduciary? In what respect has he failed to discharge those obligations? And what are the consequences of his deviation from duty?”[1]
The fiduciary standard placed on investment advisers under federal law has had the benefit of over 70 year of legal development. Investment advisers have long been subject to a legal standard that requires them to act in the best interest of clients[2] and to abstain from behavior that injures clients at the investment adviser’s expense or to disclose those material conflicts of interest to clients.[3] We have the benefit of looking to hundreds of enforcement actions by the SEC and state regulatory authorities and numerous interpretive releases and no action letters that have helped further shape the fiduciary duty that is owed by investment advisers to their clients.
I believe that the Bureau should articulate a clear standard of what it intends by its broad, proposed application of the fiduciary duty, especially as it relates to broker-dealers. We trust that the Bureau will continue to work with the industry to provide additional clarity, guidance, and certainty for firms seeking to comply with this new standard.
Similar to the proposals recently issued by the U.S. SEC, we also ask that the Bureau consider adopting a rule that applies only to the provision of investment advice to retail clients.
As the quote I recited earlier from Justice Frankfurter questions, what obligations would broker dealers and investment advisers owe as fiduciaries? I assume that the proposed fiduciary duty would include the duty of care and would not necessarily prohibit broker-dealers or investment advisers from using disclosure to avoid claims that they have breached their fiduciary duty. For example, certain investment advisers and broker-dealers recommend proprietary products or receive additional compensation from third parties when recommending certain financial products. Assuming that these investment advisers and broker-dealers have made adequate disclosures about these conflicts of interest and the recommended products are otherwise suitable, these practices should not result in an investment adviser or broker-dealer having breached their fiduciary duty.
I also have concerns that the Bureau may lack the authority to impose this new requirement on investment advisers registered with the U.S. SEC. As you may know, all regulatory requirements imposed by state law on federal covered investment advisers relating to their advisory activities or services is preempted by Section 203A(b) of the Investment Advisers Act of 1940, unless specifically preserved by the Investment Advisers Supervision Coordination Act (“Coordination Act”).[4] There is extensive guidance and literature concerning the intent of Congress’s intent to preempt state law. The SEC has specifically noted that a state’s authority is limited with respect to:
Commission-registered advisers under state investment adviser statutes to investigate and bring enforcement actions with respect to fraud or deceit against an investment adviser or a person associated with an investment adviser.[5] In fact, Congress intended that investment advisers registered with the SEC should not be subject to “overlapping” state and federal regulation, but instead be subject to uniform “national rules.”[6]
I have concerns that the proposed standard proposed by the Bureau could lead to overlapping state and federal regulation and potentially 50 different fiduciary standards imposed on federally registered investment advisers by state regulatory authorities. I request that the Bureau and its staff address in any further rule proposal why its proposed rule applicable to federal covered investment advisers and their supervised persons are not preempted by federal law. Should the Bureau conclude that its proposed rule is not preempted by federal law, I ask that the Bureau narrowly tailor its law to defer to the state regulatory authority where a federal covered investment adviser has its principle place of business to inform what is required by its fiduciary duty to the extent there is any inconsistency between the two laws or their interpretation.
Thank you for giving me the opportunity to comment on the Bureau’s preproposal regarding the fiduciary duty. I hope that our comments can help inform the Governor, the Bureau and the staff in crafting a rule that adequately protects retail investors while not overly burdening investment advisers and broker-dealers.
[1] SEC v. Chenery Corp., 318 U.S. 80, 85–86 (1943).
[2] See SEC v. Capital Gains Research Bureau, Inc., 191 F. Supp. 897, 898 (S.D.N.Y.
1961) (“Capital Gains”)
[3] See Capital Gains; see also Form ADV.
[4] See Rules Implementing Amendments to the Investment Advisers Act of 1940, Investment Advisers Act Rel. No.-1633, available at https://www.sec.gov/rules/final/ia-1633.txt.
[5] Id.
[6] See S. REP. NO. 293, 104th Cong., 2d Sess. 3-4 (1996) [hereinafter Senate Report].
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