SROs in the sights of single regulator: Hyndman

While Canada has been basking in the adulation of the world for the survival of its banking system, our fragmented securities regulation regime leaves much to be desired.

The advantages of a single securities regulator are obvious, according to Doug Hyndman, chair and CEO of the Canadian Securities Transition Office and former BCSC chair.

Speaking at the Investment Counsel Association of Canada’s 2009 conference, he extolled the virtues of the single regulator: It will give Canada better international representation and influence; better coordination on enforcement; stronger investor protection; faster, better policy responses; and make it simpler and cheaper to deal with one regulator for the entire market.

The new regulator could find itself governing products that have, until now, escaped the oversight of securities commissions. Hyndman says one of the issues his team is studying is the ability to regulate deposit- and insurance-based investment products, such as principal protected notes and segregated funds.

Oversight of hedge funds is practically a foregone conclusion.

But there is one area of the financial services sector which might not expect be caught up in the bundling of oversight activities: the new body could eventually find itself taking over the country’s self regulatory organizations.

There has been some pressure already to do away with the SROs, but they may win a stay of execution simply because the task of absorption could prove too complex. The merger of IIROC and RS should have been relatively straightforward, but was still not accomplished overnight.

“I’ve been encouraged by some people in this process to think about creating a Canadian securities commission that absorbs the existing SROs – IIROC and the MFDA,” says Hyndman. “Quite apart from whether that is a desirable thing to do or not, my conclusion is that it is not a practical thing to do. We’ve got a complicated enough job to do over the next three years, and we’ve got to avoid scope-creep.

“I would have, as one of a series of policy issues that should be on the agenda of the Canadian Securities Regulator early in its life, a review of the future of self regulation.”

“If self-regulation is going to die, then the role of advocacy organizations becomes even more important,” said Ted Waitzer, partner at Stikeman Elliott. “The exercise of mapping out what a national regulator will look like is an ideal opportunity to figure out where self regulation fits into that overall framework.”

Waitzer points out that past reforms have been driven by the regulators themselves, but that this time is different; the creation of the CSR is a political initiative.

“The two largest parties in Parliament both support this proposal,” Hyndman says, allowing for the fact that the Liberal Party has said its support is contingent on the Supreme Court agreeing that the federal government has jurisdiction to demand the creation of the single regulator. “The fact that 10 provinces and territories have signed on to talk about it is a big step. I think we have considerable momentum and I’m focused on success.”

Despite support from both the governing Conservatives and the opposition Liberals, politics remains a major hurdle for those who would create the single securities regulator.

Robert Evershed, principal of Prospectus Associates, a political consultancy, says there is little incentive for any federal political party to push too hard for a single securities regulator. This is especially true for the Conservatives.

The two main provinces opposed to a national regulator are Alberta, a traditional powerbase that the Conservatives cannot afford to alienate, and Quebec, where the party is desperate to pick up seats.

“How much does he want to push the envelope and test his minority in the house?” he asks. “I think he can get the legal support that he needs. The issue is does he have the feeling that Premiers Charest and Stelmach will be campaigning against him in the next campaign.”

Evershed points to the last election, when Conservative cuts to arts funding inflamed passions in Quebec. Now imagine, he asks, what would happen if the federal government unilaterally imposed a national securities regulator on the province.

“The single regulator is the right thing to do, but there are no votes in it,” Evershed says.

For some, the debate over the Canadian Securities Regulator does not go far enough, as its focus will be far too narrow to protect investors and markets from macro-level crises.

What is needed in Canada is a new body that focuses on macro-prudential risks – those that threaten not a single financial institution, but the entire financial system, according to Anita Anand, associate professor in the Faculty of Law at the University of Toronto.

Since no existing regulator can realistically be charged with monitoring the entire system, such a body should bring together the Department of Finance, OSFI, the Bank of Canada, the CDIC, and FCAC.

The creation of the CSR may be largely academic for Canada’s largest and most widely held companies. These businesses tend to be covered by a national regulator already, Anand says. That national regulator is the U.S. Securities and Exchange Commission.

But the U.S. regulatory landscape is undergoing its own upheaval, with a revolution brewing in the oversight of investment advisors and broker-dealers.

FINRA vs. State regulators

In the U.S., investment advisors are regulated by the state if they have less than $25 million in assets under management, or the SEC if they are above that threshold. The broker-dealer universe, is regulated separately, by the SEC, individual states and FINRA.

There is a push in the U.S. to harmonize the regulation of investment advisors and broker-dealers. Those supporting harmonization generally want to impose broker-dealer rules on investment advisors, not the other way around.

Brokers are the ones moving into the advisory realm, points out David Tittsworth, executive director of the Investment Advisor Association, so they should be the ones adapting their rules, not IAs.

With its current resources, the SEC is can only hope to inspect about 9% of the 11,000 advisors it must oversee, he says, making it all the more tempting to hand the task off to FINRA. While raising the current $25 million AUM threshold for SEC regulation would help solve the problem, Tittsworth points out that two of the five SEC Commissioners are FINRA alumni, and he suspects they are guaranteed votes for a FINRA take-over the advisor regulation.

“I hope Canada has more sense than the U.S. and you go a completely different direction than us on this,” he says.

Unfortunately, Tittsworth says, scandals have a tendency to play a role in any public policy debates, and there is little room of facts in these arguments.

“FINRA is basically saying ‘if we had had jurisdiction over investment advisors, Bernie Madoff would never have happened.’ That’s completely false,” he says. “In fact they had total authority and were in seven or eight times to visit Bernie Madoff’s firm. FINRA had all the authority it needed, but the facts are turned on their head and we’re forced to try to fend off this powerful organization that has a billion dollars in revenue per year, and is trying to become more rich by plying is efforts to lobby Congress.”