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SEC Staff Issue Bulletin on Duty of Care

Cody Foster - April 28, 2023

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Recently, the staff at the U.S. Securities and Exchange Commission published a “FAQ”-style bulletin specifically directed to broker-dealers and investment advisers and their “care obligations when they are providing investment advice and recommendations to retail investors.” 

In 2019, the SEC adopted a standards of conduct rulemaking package. This standards package included their Fiduciary Duty Interpretation for investment advisers as well as Regulation Best Interest for Broker-Dealers. Since its adoption, the SEC staff has issued three pieces of guidance and interpretation regarding those standards, with this bulletin being number four. Like previous SEC guidance bulletins on this topic, this piece is quite lengthy, so we’ve broken down the three main components of guidance as well as mentioned a couple of key special circumstances.

Core Duty of Care Components

Understanding the Investment or Investment Strategy 

The first, and possibly most important, item the SEC stresses is the importance of investment adviser representatives (“IARs”) clearly understanding the investment products or investment strategies on which they are advising clients. Along with this, IARs have a duty to understand and be able to dictate to clients the potential risks, costs, or rewards with any of their products, investment strategies, account types, or transactions. 

Understanding the Retail Investor’s Investment Profile 

This core component translates similarly to knowing and understanding your customer. The SEC dictates that an investor’s “investment profile” refers to “information that the firm or financial professional generally should make reasonable efforts to ascertain about the retail investor.” Fully understanding a client’s investment profile is a critical step to satisfying an IAR’s duty of care to that client. The more an IAR knows and understands of a client’s profile and financial situation, the more strategically and smartly they can advise the client.

Considering Reasonably Available Alternatives

The SEC staff mentions the responsibility and importance of IARs including consideration of reasonable alternatives for a retail investor’s strategy. A reasonably available alternative could include, for example, making sure a client is placed in the lowest-cost mutual fund share class available. In the staff’s view, it is important for IARs to always select the best decision and option that is in the best financial interest of the investor.

Special Considerations

Complex or Risky Products

In some circumstances, IARs may be inclined to recommend complex or risky investment products to their clients. While neither Reg BI nor the IA Fiduciary Standard prohibits recommending or providing advice about complex or risky products, the SEC advises that financial professionals, regardless of the complexity or risk of the item, have a duty to seek the best interest of the retail investor. The staff also mentions financial professionals should consider whether less risky, complex, or lower-cost alternatives may achieve the same or similar financial objectives for their retail investors.

Recommendations and Advice by Dual Registrants

This point by the SEC is directed towards those that are dually licensed financial professionals that may be working at a dually licensed firm in which some clients may have both brokerage and advisory accounts. To this end, the SEC state that dually licensed professionals and firms have an obligation to provide recommendations or advice regarding account types that are appropriate based on the facts and circumstances.  Professionals should be clear about the capacity in which they are acting.

Working in a Client's Best Interests

This FAQ represents some beneficial clarification on the duty of care obligations of an investment adviser and broker-dealer. If you or your firm have any questions or concerns regarding your duty of care obligations or how to handle certain retail investor compliance situations, don’t hesitate to reach out to the FinTech Law team

Click here to read the SEC’s full bulletin.

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