A Securities and Exchange Commission bigwig said the commission wants to help block traders use client commission arrangements, or CCAs, without incurring the legal responsibilities of an adviser.
Bob Plaze, associate director in the SEC’s Division of Investment Management, told a fall conference that his group is working to make CCAs less daunting for block-trading officials.
Officials of some bulge bracket firms fear the use of the popular CCAs would subject them to the requirements of the Investment Advisers Act of 1940. They fear that they would be covered by the act if institutional clients, for whom they commit capital on trades, pay them in hard dollars for their research.
So how will the SEC ease these fears? Plaze, speaking at the Securities Industry and Financial Markets Association’s annual institutional brokerage conference, said a broker-dealer could structure its legal relationships so its institutional client is the investment management company and not the funds themselves. That’s the approach now used by Lehman Brothers in dealing with Fidelity Management Company. That agreement has the tacit approval of the SEC.
“If the client is the money manager, rather than the mutual fund,” Plaze told the conference last fall, “the broker providing the research is not restricted in its ability to do principal transactions with the mutual fund. I would expect sometime in the next couple of months that would be formalized.”
Broker-dealers that don’t want to structure their relationships with fund companies themselves, he added, might still be able to trade on a principal basis with their accounts. If the research were generic, the principal-transaction rules wouldn’t apply, Plaze said.
Traditionally, brokers have been paid for research with commission dollars. However, many managers are moving to unbundling arrangements. They separate execution from research. The managers are using CCAs to pay their execution providers with their commissions while assigning a portion of those payments to research providers.
But the Advisers Act, which deems these hard dollar payments as “special compensation,” prohibits firms from trading with customers on a principal basis. Again, though, Plaze said there was a possible solution for block traders.
“If you do unbundle now, there is an advisory relationship. But there are a couple of options or models you have to make that kind of unbundled arrangement work,” Plaze said.
The SEC may have already moved in the direction of removing CCA barriers. In September the commission proposed a rule permitting retail brokers offering non-discretionary fee-based accounts to trade with those accounts on a principal basis.
The rule requires brokers to verbally notify clients they are taking the opposite side of a trade. Plaze suggested that rule “may be available” for institutional brokers as well.
