Registered investment adviser

Last updated

A registered investment adviser (RIA) is a firm that is an investment adviser in the United States, registered as such with the Securities and Exchange Commission (SEC) or a state's securities agency. The numerous references to RIAs within the Investment Advisers Act of 1940 popularized the term, which is closely associated with the term investment adviser. An investment adviser is defined by the Securities and Exchange Commission as an individual or a firm that is in the business of giving advice about securities. However, an RIA is the actual firm, while the employees of the firm are called Investment Adviser Representatives (IARs).

Contents

Registered investment adviser firms receive compensation in the form of fees for providing financial advice and investment management. They are required to act as a fiduciary. This is very different from broker-dealers and their representatives, who provide recommendations for a commission. Broker-dealers and their representatives are not required to act as a fiduciary, they simply must make suitable recommendations for a client. This is a different standard of care, but most consumers are unaware of the difference, as any of these professionals may call themselves a financial advisor.

In some instances a firm may be "dual registered", meaning they are a registered investment adviser along with being registered as a broker-dealer. In that case they may provide advice for a fee and collect a commission on certain product sales. [1]

Standard

Fiduciary standard

An IA must adhere to a fiduciary standard of care laid out in the US Investment Advisers Act of 1940. This standard requires IAs to act and serve a client's best interests with the intent to eliminate, or at least to expose, all potential conflicts of interest which might incline an investment adviser—consciously or unconsciously—to render advice which was not in the best interest of the IA's clients. [2]

To "promote compliance with fiduciary standards by advisers and their personnel," on August 31, 2004, the SEC adopted Rule 204A-1 under the Investment Advisers Act of 1940 requiring investment advisers to adopt a code of ethics setting forth "standards of conduct expected of advisory personnel and to address conflicts that arise from personal trading by advisory personnel. Among other things, the rule requires advisers' supervised persons to report their personal securities transactions." [3]

Rule 204A-1 treats all securities [4] as reportable securities, with five exceptions (i.e., direct obligations of the US Government, certain money market instruments, certain money market funds, certain mutual funds, and certain unit investment trusts). The rule is "designed to exclude securities that appear to present little opportunity for the type of improper trading that the access person reports are designed to uncover". [5] However, transactions in exchange-traded funds are reportable securities according to an SEC response to National Compliance Services, Inc.'s 2005 request for no action guidance. [6]

While "The rule does not require the adviser to adopt a particular standard, the standard chosen must reflect the adviser's fiduciary obligations and those of its supervised persons, and must require compliance with the federal securities laws." Although the rule contains certain minimum provisions, advisers have "substantial flexibility to design individualized codes that would best fit the structure, size and nature of their advisory businesses." [3] Most state regulators require or recommend advisers establish similar ethical requirements and supervisory procedures.

Investment Adviser Fiduciary Standard vs. Broker-Dealer Suitability

The financial industry and lawmakers have yet to establish a consistent standard for providing investment recommendations to retail investors.

Section 202(a)(11)(C) of the Investment Advisers Act of 1940 [7] exempts from the definition of an Investment Adviser (and therefore the associated fiduciary standard) "any broker or dealer whose performance of such services is solely incidental to the conduct of his business as a broker or dealer and who receives no special compensation therefor."

In Release 34–51523; [8] the Financial Industry Regulatory Authority (FINRA), the US Securities Self Regulatory Organization (SRO) having authority over Brokers and Dealers, determined that Broker-Dealers (BD) are "not to be deemed investment advisors" and therefore are not subject to the same fiduciary standards as IAs when recommending investments to clients, as are Registered Investment Advisers.

Registered Representatives (RRs) affiliated with a Broker Dealer are therefore required to recommend securities that are deemed "suitable" for non-institutional clients. The FINRA "Suitability" standard requires that a member shall make reasonable efforts to obtain information concerning a client's: [9]

  1. Financial status
  2. Tax status
  3. Investment objectives
  4. Risk tolerance
  5. Other information used or considered to be reasonable

RRs of a Broker-Dealer who also engages in the business of providing investment advice are required to affiliate with a Registered Investment Adviser. As Investment Adviser Representatives (IARs) they are held to the "Fiduciary Standard" as defined under the US Investment Advisers Act of 1940 when providing investment advice to clients. This requires the dually registered Financial Advisors recommending a security to clearly communicate to their clients whether they are brokering suitable security as a RR or providing investment advice as an IAR and therefore acting as a fiduciary. [10] Some "dually registered" advisors are limited in the scope of their recommendations by their affiliation with their broker-dealers and therefore do not have unfettered access to all product/service solutions for their clients. This is known as a "Captive Platform" which many dually registered or "Hybrid" advisors are affiliated with. Only "Independent RIAs" (those not affiliated with (or restricted by) a broker dealer) can be considered true fiduciaries.

In 2012, suitability and "know your customer" (KYC) rules will expand with FINRA rule 2111. This rule will effectively expand liability for recommendations of strategy. Over the years, investment advisors have been taught to know the customer's suitability, objectives, time horizon and risk tolerance, and to limit speculative or aggressive recommendations based on information from the customer. With the new rule 2111, brokers may be liable for their product and service recommendations which are part of a strategy. A strategy could include tax, retirement, investments, funds, or even estate planning. Therefore, a registered adviser may want to make better use of CPA advice or licensed attorneys. [11] "New FINRA Rule 2111 generally is modeled after former NASD Rule 2310 (Suitability) and requires that a firm or associated person "have a reasonable basis to believe that a recommended transaction or investment strategy involving a security or securities is suitable for the customer, based on the information obtained through the reasonable diligence of the member or associated person to ascertain the customer's investment profile".

Following are some of the more substantive changes under FINRA's new "know your customer" (KYC) rules :

  • Firms' and brokers' efforts to get to know their customers are now expressly governed by a reasonableness standard.
  • Firms' and brokers' KYC obligations are now limited to knowing (i) their customers, and (ii) the authority of each person acting on behalf of their customers.
  • The new KYC rule expressly directs that firms and brokers should use reasonable diligence to know those facts required to (i) effectively service their customers' accounts, (ii) act in accordance with any special handling instructions for their customers' accounts, (iii) understand the authority of each person acting on behalf of their customers, and (iv) comply with applicable laws, regulations, and rules.
  • Firms and brokers should use reasonable diligence to retain their customers' KYC information and keep it up to date.
  • The new suitability rule expressly identifies the following information to be used in determining suitability: (i) customer's age, (ii) other investments, (iii) financial situation and needs, (iv) tax status, (v) investment objectives, (vi) investment experience, (vii) investment time horizon, (viii) liquidity needs, (ix) risk tolerance, and (x) any other information the customer may disclose.
  • Suitability now expressly applies to "investment strategies" as well as investments, and it also expressly applies to recommendations to "hold" as well as recommendations to buy, sell, and exchange.
  • The new suitability rule directs firms and brokers to have a reasonable basis for believing an investment or strategy is suitable based on the information they obtain through reasonable diligence (as opposed to based on what their customers tell them). [12]

Uniform Fiduciary Standard

Section 913 of the Dodd-Frank Act [13] mandated that the SEC study whether a uniform fiduciary standard should be applied to brokers and investment advisers. The results of the SEC's study released in January 2011 [14] recommended that the SEC proceed with rulemaking to adopt a uniform fiduciary standard for brokers and investment advisers when providing personalized investment advice to retail consumers.

On March 1, 2013, the SEC issued Release No. 34-69013 [15] to request information for a cost-benefit analysis to determine the anticipated economic impacts of moving forward with uniform fiduciary standard rulemaking.

Registration

State registered investment advisers

In general, RIAs managing assets totaling less than $100 million must register with the state securities agency in the state where they have their principal place of business. [1]

Federally registered investment advisers

In general, RIAs that manage $100 million or more in client assets must register with the U.S. Securities and Exchange Commission (SEC). [1] While the process is not as involved as registration as a broker-dealer, it can be complex. [16]

As of 2019, 12,993 firms were federally-registered serving over 43 million clients; most firms were small, with 88% having fewer than 50 employees. [17] FINRA-registered stockbrokers, who may also provide advice but are not fiduciaries, dropped to 3,596 firms and 4,720 individuals, [17] some of whom are "wirehouse brokers". [18]

Registering requirements

Representatives of the RIA who are charged with providing investment advice are called an "investment adviser representative" (IAR). These IARs must generally complete the Uniform Investment Adviser Law Examination (see List of securities examinations) known as the Series 65 Exam, or by meeting the exam waiver requirement by holding one or more of the following pre-qualifying designations; Certified Financial Planner (CFP), Chartered Financial Consultant (ChFC); Personal Financial Specialist (PFS), Chartered Financial Analyst (CFA), or Chartered Investment Counselor (CIC). [19] However, these requirements differ by states. For example, New York has no exam requirements for representatives of SEC-registered RIA firms. [20]

Fees and regulations

RIAs are permitted to make risky investments, which can result in significant losses. [21] Fees are typically as a percent of assets under management (AUM), and around 1%. [22] This may include "held-away" assets such as investment properties for high-net-worth individuals. [23]

Unlike mutual funds, RIAs may not report their overall performance, since they represent a varied number of clients and investment objectives. However, when they do report data such as performance, such advertising is required to be factual and not misleading. [24]

Some asset managers charge a fixed fee, but about 95% charge as a percent of AUM. [25]

See also

Related Research Articles

<span class="mw-page-title-main">Stockbroker</span> Professional who buys and sells shares for others

A stockbroker is an individual or company that buys and sells stocks and other investments for a financial market participant in return for a commission, markup, or fee. In most countries they are regulated as a broker or broker-dealer and may need to hold a relevant license and may be a member of a stock exchange. They generally act as a financial advisor and investment manager. In this case they may also be licensed as a financial adviser such as a registered investment adviser.

In financial services, a broker-dealer is a natural person, company or other organization that engages in the business of trading securities for its own account or on behalf of its customers. Broker-dealers are at the heart of the securities and derivatives trading process.

<span class="mw-page-title-main">Municipal Securities Rulemaking Board</span>

The Municipal Securities Rulemaking Board (MSRB) is a United States self-regulatory financial organization that writes investor protection rules and other rules regulating broker-dealers and banks in the municipal securities market. This including tax-exempt and taxable municipal bonds, municipal notes, and other securities issued by states, cities, and counties or their agencies to help finance public projects or for other public policy purposes.

The Investment Advisers Act of 1940, codified at 15 U.S.C. § 80b-1 through 15 U.S.C. § 80b-21, is a United States federal law that was created to monitor and regulate the activities of investment advisers as defined by the law. Passing unanimously in both the House and Senate, it is the primary source of regulation of investment advisers and is administered by the U.S. Securities and Exchange Commission.

The term soft dollars refers to a Wall Street practice, especially in the asset management and securities industries, and means the benefits provided to an asset manager by a broker-dealer as a result of commissions generated from a financial transaction executed by the broker-dealer for client accounts or funds managed by the asset manager. In a soft dollar arrangement, the investment manager directs commissions generated by a client's or fund's transactions to a broker-dealer or other trading venue. Soft dollars, in contrast to hard dollars which have to be reported, are incorporated into brokerage fees and paid expenses, which may not be reported separately. Most investment managers follow the limitations detailed in Section 28(e) of the Securities Exchange Act of 1934. In particular, if soft dollar arrangements are entered into with respect to registered investment companies and pension plans, compliance with Section 28(e) is generally required. However, hedge funds, which are generally not registered, may not be subject to the limitations of Section 28(e) and, thus, in some cases, the fund's commissions may be used for the adviser's benefit. In situations where fund commissions are used outside of the Section 28(e) safe harbor, full and comprehensive disclosure must be provided to fund investors.

<span class="mw-page-title-main">Know your customer</span> Financial institution and company-related term

Know your customer (KYC) guidelines and regulations in financial services require professionals to verify the identity, suitability, and risks involved with maintaining a business relationship with a customer. The procedures fit within the broader scope of anti-money laundering (AML) and counter terrorism financing (CTF) regulations.

National Association of Personal Financial Advisors (NAPFA) is an American financial planning trade organization created in 1983 to expand the use of fee-only financial advisors by individual consumers. NAPFA established the first set of professional standards for fee-only financial advisors and has updated them to reflect changes in industry practices.

<span class="mw-page-title-main">Financial adviser</span> Professional who renders financial services to clients

A financial adviser or financial advisor is a professional who provides financial services to clients based on their financial situation. In many countries, financial advisors must complete specific training and be registered with a regulatory body in order to provide advice.

Uniform Investment Adviser Law Examination, also called the Series 65 exam, is a test taken by individuals in the United States who seek to become licensed investment adviser representatives. The exam covers topics necessary to provide investment advice to clients.

LPL Financial Holdings Inc. was founded in 1989 and is considered the largest independent broker-dealer in the United States. As of 2021 the company had more than 17,500 financial advisors, over US$1 trillion in advisory and brokerage assets, and generated approximately $5.9 billion in annual revenue for the 2020 fiscal year.

The Financial Industry Regulatory Authority (FINRA) is a private American corporation that acts as a self-regulatory organization (SRO) that regulates member brokerage firms and exchange markets. FINRA is the successor to the National Association of Securities Dealers, Inc. (NASD) as well as to the member regulation, enforcement, and arbitration operations of the New York Stock Exchange. The U.S. government agency that acts as the ultimate regulator of the U.S. securities industry, including FINRA, is the U.S. Securities and Exchange Commission (SEC).

Houlihan Smith & Company was an investment banking firm that provided financial advisory and financing services to public and private businesses. Houlihan was founded in 1996 and reorganized as Houlihan Capital in 2011.

An Investment policy statement (IPS) is a document, generally between an investor and the assisting investment manager, recording the agreements the two parties come to related to issues relating to how the investor's money is to be managed. In other cases, an IPS may also be created by an investment committee to help establish and record its own policies in order to assist in future decision-making or to help maintain consistency of its policies by future committee members or to clarify expectations for prospective money managers who may be hired by the committee.

Selling away in the U.S. securities brokerage industry is the inappropriate practice of an investment professional who sells, or solicits the sale of, securities not held or offered by the brokerage firm with which he is associated (affiliated). An example of the term expressed in a sentence is, "The broker was selling investments away from the firm." Brokers marketing securities must have obtained the appropriate securities licenses for various types of investments. Brokers in the U.S. may be "associated" with one or more Brokerage firms and must obtain licenses by passing standardized Financial Industry Regulatory Authority (FINRA) exams such as the Series 6 or Series 7 exam. See List of Securities Examinations for types of securities licenses in the U.S.

Exempt market dealer (EMD) is a Canadian financial regulatory category of broker-dealer that is allowed to deal in exempt market securities across the country. Unlike other dealer types they have less regulation and are not required be a member of a self-regulatory organization such as the Investment Industry Regulatory Organization of Canada (IIROC) but still need to be registered and still have the same know your customer (KYC) requirements as other brokers.

Personal fiduciary services are fiduciary services provided by a financial institutions or advisors to an individual or family that are typically wealthy or high net worth individual. They are often referred to as private trust, private client, private wealth management, or private banking services in the United States.

<span class="mw-page-title-main">Retail Investor Protection Act</span>

The Retail Investor Protection Act is a bill that would delay some pending regulations being written by the United States Department of Labor until the Securities and Exchange Commission has finalized their own rules. The rules in question are rules that would describe "when financial advisors are considered a fiduciary, which means they must work in their clients' best interest." The bill passed the United States House of Representatives during the 113th United States Congress.

<span class="mw-page-title-main">Securities market participants (United States)</span>

Securities market participants in the United States include corporations and governments issuing securities, persons and corporations buying and selling a security, the broker-dealers and exchanges which facilitate such trading, banks which safe keep assets, and regulators who monitor the markets' activities. Investors buy and sell through broker-dealers and have their assets retained by either their executing broker-dealer, a custodian bank or a prime broker. These transactions take place in the environment of equity and equity options exchanges, regulated by the U.S. Securities and Exchange Commission (SEC), or derivative exchanges, regulated by the Commodity Futures Trading Commission (CFTC). For transactions involving stocks and bonds, transfer agents assure that the ownership in each transaction is properly assigned to and held on behalf of each investor.

Cambridge Investment Research Incorporation is a United States-based broker-dealer and asset management firm headquartered in Fairfield, Iowa. The company was founded in 1981 and mainly works as a broker-dealer, but also manages investment assets through its subsidiary Cambridge Investment Research Advisors Inc.

References

  1. 1 2 3 U.S. Securities and Exchange Commission: Investment Advisers: What You Need to Know Before Choosing One
  2. ↑ WEBCPA Financial Planners Push to Extend Fiduciary Standard
  3. 1 2 Investment Adviser Code of Ethics, SEC Release No. IA-2256 (July 2, 2004)
  4. ↑ The term "security" is defined in section 2(a)(18) of the Securities Act of 1933. [15 US 80b-2(a)(18)]
  5. ↑ Investment Adviser Code of Ethics, SEC Release No. IA-2256 (July 2, 2004).
  6. ↑ SEC response to National Compliance Services, Inc.'s 2005 request for no action guidance.
  7. ↑ "SEC.gov".
  8. ↑ "SEC.gov" (PDF).
  9. ↑ FINRA Manual Online Recommendations to Customers (Suitability)
  10. ↑ "NASD First Allied".
  11. ↑ "Regulatory Notice 11-02 | FINRA.org". www.finra.org.
  12. ↑ Greenberg Traurig (July 13, 2012). "FINRA's New Know Your Customer and Suitability Rules". The National Law Review. Retrieved September 17, 2012.
  13. ↑ "Thabet trang cá cược bóng đá uy tín".
  14. ↑ https://www.sec.gov/news/studies/2011/913studyfinal.pdf [ bare URL PDF ]
  15. ↑ https://www.sec.gov/rules/other/2013/34-69013.pdf [ bare URL PDF ]
  16. ↑ "SECLaw.com: Registration and Regulation of Investment Advisers".
  17. 1 2 "Number of RIAs Grew 3.3% Last Year while Broker Count Continues to Slide". AdvisorHub. 2019-09-12. Retrieved 2020-03-18.
  18. ↑ Kenton, Will. "Wirehouse Broker". Investopedia. Retrieved 2020-03-18.
  19. ↑ "North American Securities Administrators Association (NASAA)".
  20. ↑ "Investment Advisers FAQs".
  21. ↑ "Safeguards Are Scant as Registered Advisers Increase 39%". www.bloomberg.com. 2011-07-05. Retrieved 2020-03-18.
  22. ↑ Box, RIA in a. "2018 RIA Industry Study: Average Investment Advisory Fee is 0.95%". www.riainabox.com. Retrieved 2020-03-18.
  23. ↑ "Nearly half of advisors now charge clients to manage held-away assets". RIABiz. Retrieved 2020-03-18.
  24. ↑ "SEC warns RIAs about exaggerating investment performance and other misleading advertising practices". InvestmentNews. 2017-09-14. Retrieved 2020-03-18.
  25. ↑ "Broker-dealer RIAs renew fraught debate: What is fee-only?". Financial Planning. 2019-01-11. Retrieved 2020-03-18.
This page is based on this Wikipedia article
Text is available under the CC BY-SA 4.0 license; additional terms may apply.
Images, videos and audio are available under their respective licenses.