As I have discussed before, there are some rule violations that are going to happen no matter what FINRA says about them, no matter how many Enforcement cases it brings, and no matter what BDs do to “detect and prevent” such violations. A prime example of such is outside business activities, or OBAs. The rule itself – new FINRA Rule 3270 and old NASD Rule 3030 – is straightforward: before an RR can engage in an OBA, he has to notify his firm. While the rule does not require that the RR obtain approval, in practice, nearly every firm’s internal procedures do require such. In addition, under 3270, the firm is required to undertake an analysis of the proposed OBA to ensure that it would not confuse customers about whether they are dealing with the RR wearing his RR hat, or the RR wearing his OBA hat. Once notice of a proposed OBA has been provided (and, if required, permission obtained), and the requisite “possibility of confusion” analysis conducted, the BD can wash its hands of the matter, since a BD has no obligation to supervise an RR’s OBA.
That’s it. Not much to it, really. Yet, every year, there are tons of Enforcement cases devoted to OBAs, mostly against RRs who fail to notify their BDs of their OBAs, but, also against BDs who fail to take reasonable steps to ensure that their RRs are dutifully disclosing their OBAs, or BDs who erroneously treat a PST (private securities transaction) as an OBA. Seems like a lot of regulatory and compliance energy spent on something that, relative to lots of other problems, doesn’t have too much of an impact on investor protection, market integrity, the supposed raison d’etre of FINRA’s existence.
Perhaps that is why at its December Board meeting, FINRA approved a proposal to consider “streamlining” the rules on OBAs, as well as PSTs. According to the FINRA website, the Board approved the publication of a Regulatory Notice seeking comment on a proposal that would reduce unnecessary burdens while maintaining strong investor protections. The proposal would require registered persons to provide their member firms with prior written notice of a broad range of outside activities, and would impose on firms a duty to reasonably assess a narrower set of activities that are investment-related, allowing firms to focus on outside activities that are more likely to raise potential investor-protection concerns. The proposal also would streamline the obligations by generally excluding from the rule a registered person’s personal investments and work performed on behalf of a firm’s affiliate, and it would eliminate supervisory obligations for non-broker-dealer outside activities, including investment advisory activities at an unaffiliated third-party adviser.
This does not mean that a rule change will inexorably follow, but, if I had to guess, the comments FINRA receives will be universally in favor of anything that makes life easier for BDs. If FINRA is serious that is willing to explicitly narrow the range of OBAs that firms are required to run through the “possibility of confusion” meter, if FINRA is willing to eliminate completely from consideration an RR’s personal investments, that would be a huge step in the right direction.
But, the biggest gift of all would be FINRA’s apparent willingness to carve out a need to consider or supervise work done for affiliates of the BD, “including investment advisory activities at an unaffiliated third-party adviser.” Why do I say this? Because this particular issue has been the subject of such hand-wringing and angst over the years, due to FINRA’s inability ever to explain adequately what its expectations are regarding a BD’s responsibility to supervise the IA activities of its dually registered RR/IA reps who conduct their IA business away from the BD. NASD tried back in 1994 Notice to Members 99-44 to outline just when a BD has the obligation to supervise its RRs’ IA business as PSTs. Good luck figuring out that NTM. I must have read it 100 times in the last 20+ years, and it still makes no sense.
NASD realized it had done a poor job in 94-44, so, two years later, in NTM 96-33, it tried a second time, this time in the form of Q&A, to explain what its expectations were. Again, the attempt at clarification only muddied the waters worse. Unfortunately, that represented the last effort by FINRA (apart from the occasional Enforcement action) to speak to this issue. The result, as I said, has been confusion, uncertainty and anxiety among compliance personnel, who to this day are still unsure about what transactions done away from the firm by customers of their dually registered RR/IA reps must be supervised as PSTs and which need not be supervised (because they are merely OBAs).
Given this, you can, perhaps, sense my excitement over the prospect of a rule change that eliminates the confusion created by 94-44 and 96-33, and clearly delineates the trades subject to supervision by the BD and those which may safely be ignored. I certainly hope that FINRA follows through on this promise, and provides meaningful relief to firms who are now nearly crippled by the sheer amount of their compliance obligations.