In a public statement issued on June 15, 2020, U.S. Securities and Exchange Commission (SEC) Chairman Clayton confirmed the June 30, 2020, deadlines for compliance with Regulation Best Interest (Reg. BI) and the Form CRS requirements, echoing his statements from April that the implementation of Reg. BI and Form CRS requirements is necessary to protect investors, especially in the midst of COVID-19. As broker-dealers and investment advisers are well aware, the SEC adopted Reg. BI and Form CRS last year to enhance the quality and transparency of relationships with retail investors, which the SEC believes is more important than ever in times of market volatility. In the time since adoption, the SEC has continued to engage with broker-dealers, investment advisers, and market participants about these new requirements, including by providing answers to various FAQ. Our May 18, 2020, alert provided a brief overview of Reg. BI and Form CRS requirements and highlighted a few areas of continued focus (and potential pitfalls) for firms.
In an effort to further aid in transparency for investors, Chairman Clayton announced a new website for Main Street investors that will explain the benefits of Form CRS. Along with providing educational resources, this new website is aimed at helping retail investors research firms and financial professionals. Broker-dealers and investment advisers should expect investors to be aware of the requirements and be ready to answer their questions.
As broker-dealers work to implement Reg. BI requirements, Chairman Clayton expressed concern about certain investment products and strategies that have been marketed to Main Street investors in response to COVID-19. He explained that during this time of great market volatility, investors may have a greater need for cash and liquidity rather than risky investments. Reg. BI requires broker-dealers to make recommendations that are in the retail customer’s best interest. Chairman Clayton highlighted several areas for firms to consider when making recommendations in order to adhere to those requirements. Firms can expect that the SEC will carefully examine recommendations that touch on these areas.
- Rollovers and withdrawals from 401(k) and other plans. Reg. BI applies to recommendations of rollovers of, and withdrawals from, retirement accounts. Firms must be mindful of this, especially given that the CARES Act 1 allows participants in certain retirement plans to take early distributions without being subject to withdrawal penalties.
- Complex or risky products. Firms and their representatives should carefully consider their obligations when recommending complex and risky products, including: (1) so-called “geared” products — leveraged or inverse exchange-traded products that rely on derivatives strategies, and (2) products having less liquid and more volatile markets.
- COVID-related investments. Some COVID-19 related investment promotions have been involved in alleged “pump and dump,” fraud, and manipulation schemes. Firms should be careful when recommending investments in new products or services that rely on claims of aiding in the fight against COVID-19.
- SPACs and other structured investment vehicles. Firms should carefully evaluate the complexity and risks of special purpose acquisition corporations (SPACs), and their customers’ appetite for risk, before recommending these investments.
The SEC likely will focus on firms’ processes and considerations when recommending these specific account types, investment products, and related investment strategies. Firms should develop appropriate policies and procedures that are reasonably designed to ensure that recommendations are in the best interest of investors and align with the other requirements of Reg. BI. This is especially true as the agency begins to examine firms after the June 30th compliance date. Firms should have processes in place to document their analyses in real time to substantiate their determinations if and when they are questioned by examiners.
1 Coronavirus Aid, Relief and Economic Security Act, Pub. L. No. 116-469.
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