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December 18, 2007

2007 Review: One Regulator's Surprising Attack on Soft Dollars

The Year in Trading

By Gregory Bresiger

Securities and Exchange Commission Chairman Christopher Cox surprised many in the securities industry when he suddenly called for the abolition of soft dollars. In a speech in May, Cox said soft dollars "offer perverse incentives to investment advisers to use them in ways that aren't beneficial to investors."

Cox also suggested that soft dollars lead to higher brokerage costs and "may operate to impede the further development of efficient markets." Cox called on Congress to pass a bill to kill Section 28(e) of the Securities Act, which justifies the use of soft dollars. The use of soft dollars results in investors paying more for trades in exchange for access to research.

Cox's war cry against soft dollars was surprising on at least two counts. First, no other SEC commissioner had made such a comment. Secondly, in July 2006 the SEC had once again interpreted 28(e) and concluded that soft dollars were an acceptable use of client dollars. However, the SEC tightened up how soft dollars could be used and required more disclosure.

The SEC soft dollar reinterpretation in July had been unanimous. Therefore, lobbyists for the trading industry, who had feverishly lobbied the SEC and Congress to protect the practice, thought soft dollars were safe. In the short term, the industry lobbyists seemed victorious. Ultimately, Cox found little support for his soft dollar abolition call. Indeed, Sen. Charles Schumer, D-N.Y., defended soft dollars, contending they supported "a vibrant independent research industry."

Schumer told Cox in a July hearing before the Senate Banking Committee: "I still don't quite get why there is a need for legislation, when about six months or a year ago, everyone thought the disclosure rules would basically do the job."

Soft dollars seemed safe at the end of the year. But there still were a few senators who thought Congress should take another look at the controversial practice. Possibly, they will again raise the issue in 2008.