By Paul Foley and John Sanders
On November 8, 2016, political power in United States shifted in an unexpected and unprecedented way. As of January 20, 2017, Republicans will hold the White House and both Houses of Congress. President-elect Donald Trump will also have the opportunity to appoint two SEC Commissioners and a new Chair. He and his party will have the ability to reshape securities law and regulation. As this was unanticipated, there was little discussion before the election as to what it would mean for securities law and regulation. We believe the following seven issues are likely to be part of the discussion in the weeks and months ahead.
1. Dodd-Frank Act – Volcker Rule
The Volcker Rule, a 900-plus-page rule adopted in December 2013, was intended to limit proprietary trading by banks. Championed by former Federal Reserve Chairman Paul Volcker, the rule was a last-minute addition to the 2010 Dodd-Frank Act. For years, it stalled as regulators and commentators tried to distinguish between speculation (deemed bad) from investment (deemed good). Few believe that the regulators were successful in properly drawing this distinction. Making the rule more susceptible to criticism, many experts have determined the rule “would have done nothing to mitigate [the Great Recession,] the worst financial crisis since the Great Depression.”
President-elect Trump’s nominee for Secretary of the Treasury has promised “strip back” elements of the Dodd-Frank Act, including the Volcker Rule. If the new administration is dedicated to repealing the Volcker Rule, something that isn’t quite clear, repealing it won’t be easy. Legislative action would likely require bipartisan support in the Senate. Eliminating the rule through agency rule making, like adopting the rule, would require coordination between multiple independent agencies, an opportunity for public comment, and time. The easier (but less permanent) solution is for the new President to appoint agency heads who will interpret the rule differently or deemphasize its enforcement. The discussion of whether, and how, to repeal the Volcker Rule should be followed closely.
2. Delegated Authority for Enforcement
In 2009, the SEC delegated authority to the Director of Enforcement to open formal orders of investigation of persons and entities. The Director of Enforcement then took the unprecedented step of sub-delegating authority to Regional Directors, Associate Directors, and Specialized Unit Chiefs. The delegation supports Chair White’s “broken windows” approach by which deficiencies and misconduct of every size and nature are addressed. This approach has resulted in a record number of enforcement proceedings. However, many commentators have raised concerns about the ease with which proceedings can be brought and subpoenas issued and whether enforcement is now less effective because it is uncoordinated. If the new administration wishes to end the delegation, it can appoint SEC Commissioners and a Chair that will withdraw the delegation with an order not subject to the lengthy formal rule making process.
3. Fiduciary Rule
The Department of Labor (the “DOL”) finalized the so-called “Fiduciary Rule” in April 2016 and announced it would go into effect in April 2017. According to the DOL, investors lose billions of dollars in fees each year because their advisors are not acting in their best interests. The goal of the Fiduciary Rule, therefore, is to “stop advisers from putting their own interests in earning high commissions and fees over clients’ interests in obtaining the best investments at the lowest prices.” However, the net effect of the rule is unclear. Among the potential negative effects of the rule are investors losing access to competent advice, skyrocketing costs for affected accounts, decreases of 25 to 50% in annuities sales, and unnecessary corporate restructuring.
If lawsuits aimed at preventing the rule from going into effect fail, those who advocate repealing the rule will find the job challenging. First, the rule isn’t within the reach of the Congressional Review Act and isn’t likely to be suspended by the Secretary of Labor who oversaw its creation. That means a lengthy formal rule making process would be required to repeal the rule. It is uncertain whether this is an effort the investment advisory industry would welcome after spending the past year working toward compliance, which included spinning off business units changing long-standing pricing models, and jettisoning certain clients.
4. Consolidated Audit Trail
In 2010, as the SEC and CFTC attempted to trace the root cause of the Flash Crash, it became abundantly clear that the financial market regulators were ill-equipped to police modern markets. Out of this realization came the idea for the Consolidated Audit Trail (the “CAT”). CAT is conceptualized as a market-wide system that tracks equity and option trades. It would help in both investigations and monitoring. Proving manipulation and fraud, as well as identifying systemic risk, should become easier with CAT in place. However, despite years of work, “a fully baked, centralized trail is still years away.” Given the benefits of an operational CAT to each of the SEC’s mandates, including maintaining the investor confidence that drives investment into our public markets, getting it up and running may be a priority. However, many commentators argue that CAT would be a hacker’s dream. The new administration will signal its where it stands on CAT with its appointment of SEC commissioners and Chair.
5. Pay Ratio Disclosures
The Dodd-Frank Act instructed the SEC to adopt a rule requiring each publicly traded company to disclose “the ratio of the compensation of its chief executive officer (CEO) to the median compensation of its employees.” The ratio would appear in registration statements, proxy and information statements, and annual reports that call for executive compensation disclosure. This seemingly simple calculation may “actually entail herculean bookkeeping for large, diverse companies.”
The compliance date for the pay ration rule is January 1, 2017. Once the new Congress and SEC commissioners are in place, authorities should consider whether the rule serves any of the SEC’s three mandates: protect investors; maintain fair, orderly, and efficient markets; and facilitate capital formation. If the rule is deemed inappropriate under those mandates, Congress may amend the Dodd-Frank Act and instruct the SEC to engage in a formal rule making process aimed at repealing the rule. If the rule is deemed appropriate, or the political will to repeal the rule is lacking, it may remain in place with the SEC allowing companies “substantial flexibility in determining the pay ratio.”
6. Political Contributions Disclosures
In 2011, a group of college professors argued that the Supreme Court’s Citizens United ruling necessitated an SEC rule requiring public companies to disclose their political expenditures. The SEC received more than 1 million public comments – a record. Yet, the SEC did not act. Senator Elizabeth Warren, less than a month before the recent election, openly urged President Obama to remove SEC Chair Mary Jo White for refusing “to develop a political spending disclosure rule despite her clear authority to do so.” This was perhaps a bit unfair. Not only was the SEC restricted by law from working on the rule at that time, but the rule has faced tremendous opposition. Business groups and Republicans have long argued that “a company’s political contributions are not related to its financial performance and that the disclosures are unnecessary.” A Republican Congress or appointments to the SEC may find 2017 is an ideal time to revisit this issue.
7. Liquidity Risk Management
On October 13, 2016, the SEC announced that it had finalized a rule that would require open-ended investment companies to develop liquidity risk management programs and make additional disclosures related to liquidity. The rule, among other things, requires an investment company’s board of directors to adopt a formal plan for managing liquidity risk and make disclosures classifying fund investments into one of four categories according to liquidity. In a letter to the SEC supporting the rule, Senator Sherrod Brown cited several sources for the proposition that the fund industry was growing and offering investments in less-liquid assets. Tellingly, Senator Brown cited widely-available public sources such as Barron’s and Bloomberg articles. If the public has access to multiple news stories about liquidity risk, risk disclosures in regulatory filings, and lists of fund holdings online, it is fair to ask whether the rule carries a benefit to investors along with its cost. If the determination is made the costs of this rule substantially outweigh the benefits, then the SEC may engage in a formal rule making process to repeal the rule.
Paul Foley is a partner with Kilpatrick Townsend & Stockton’s New York and Winston-Salem, North Carolina offices. John Sanders is an associate based in the firm’s Winston-Salem office.
 Richard Cowan and Susan Cornwell, Republicans Defend Grip on U.S. Congress as Trump Wins Presidency, Reuters (Nov. 9, 2016), http://www.reuters.com/article/us-usa-election-congress-idUSKBN13317Z.
 Mark Shoeff Jr., Where Donald Trump Stands on Top Financial Adviser Issues, Investment News (Nov. 9, 2016), http://www.investmentnews.com/article/20161109/FREE/161109909/where-donald-trump-stands-on-top-financial-adviser-issues.
 SEC, Final Rule: Prohibitions and Restrictions on Proprietary Trading and Certain Interests In, and Relationships With, Hedge Funds and Private Equity Funds (Dec. 10, 2013), https://www.sec.gov/rules/final/2013/bhca-1.pdf.
 The Volcker Ambiguity, The Wall Street Journal (Dec. 11, 2013), http://online.wsj.com/news/articles/SB10001424052702304744304579250393935144268.
 Ben Steil, Beyond the Volcker Rule: A Better Approach to Financial Reform, Council on Foreign Relations (April 2012), http://www.cfr.org/financial-crises/beyond-volcker-rule-better-approach-financial-reform/p27894.
 Jacob M. Schlesinger, Trump Treasury Choice Steven Mnuchin Vows to ‘Strip Back’ Dodd-Frank, The Wall Street Journal (Nov. 30, 2016), http://www.wsj.com/articles/trump-treasury-choice-steven-mnuchin-vows-to-strip-back-dodd-frank-1480513188.
 Emily Stephenson, Trump Calls for ‘21st century’ Glass-Steagall Banking Law, Reuters (Oct. 26, 2016), http://www.reuters.com/article/us-usa-election-trump-banks-idUSKCN12Q2WA.
 Ryan Tracy and John Carney, How to Kill the Volcker Rule? Don’t Enforce it, The Wall Street Journal (Nov. 28, 2016), http://www.wsj.com/articles/how-to-kill-the-volcker-rule-dont-enforce-it-1480329002.
 Tracy and Carney, supra note 8.
 Bradley J. Bondi, A Questionable Delegation of Authority: Did the SEC Go Too Far When It Delegated Authority to the Division of Enforcement to Initiate an Investigation?, Center for Financial Stability (Sept. 20, 2016), http://centerforfinancialstability.org/wp/2016/09/20/a-questionable-delegation-of-authority-did-the-sec-go-too-far-when-it-delegated-authority-to-the-division-of-enforcement-to-initiate-an-investigation/
 Jean Eaglesham, SEC Breaks Record for Number of Enforcement Cases, The Wall Street Journal (Oct. 11, 2016), http://www.wsj.com/articles/sec-on-track-to-break-record-for-number-of-enforcement-cases-1476198436.
 Bondi, supra note 14.
 Department of Labor, Final Rule: Conflict of Interest Rule (April 8, 2016), https://www.dol.gov/agencies/ebsa/laws-and-regulations/rules-and-regulations/completed-rulemaking/1210-AB32-2.
 Liz Skinner, Figuring Out Fiduciary: Now Comes the Hard Part, Investment News (May 9, 2016), http://www.investmentnews.com/article/20160509/FEATURE/160509939/the-dol-fiduciary-rule-will-forever-change-financial-advice-and-the.
 Robert Litan & Hal Singer, Obama’s Big Idea for Small Savers: ‘Robo’ Financial Advice, The Wall Street Journal (July 21, 2015), http://www.wsj.com/articles/obamas-big-idea-for-small-savers-robo-financial-advice-1437521976.
 Jed Morowitz & Mason Braswell, Exclusive: Merrill to End Commission-Based Retirement Business on Retail Accounts, AdvisorHub (Oct. 6, 2016), http://advisorhub.com/exclusive-merrill-end-commission-based-retirement-business-retail-accounts/.
 Skinner, supra note 22.
 Christine Idzelis, Sale of AIG Advisor Group May Signal Wave of Mergers Ahead, Investment News (Jan. 29, 2016), http://www.investmentnews.com/article/20160129/FREE/160129906/sale-of-aig-advisor-group-may-signal-wave-of-mergers-ahead.
 Aaron Back, Eliminating Obama’s Fiduciary Rule Easier Said Than Done, The Wall Street Journal (Dec. 5, 2016), http://www.wsj.com/articles/eliminating-obamas-fiduciary-rule-easier-said-than-done-1480976385.
 Greg Iacurci, Insurance Based Broker-Dealers Plan to Use BICE Under DOL Fiduciary Rule, Investment News (July 7, 2016), http://www.investmentnews.com/article/20160707/FREE/160709959/insurance-based-broker-dealers-plan-to-use-bice-under-dol-fiduciary.
 Andrew Welsch, Raymond James follows Morgan’s Lead in Keeping Commissions Under Fiduciary, OnWallStreet (Oct. 27, 2016), http://www.onwallstreet.com/news/raymond-james-follows-morgans-lead-in-keeping-commissions-under-dol; See also Robert Powell, New Rules Force Financial Advisers to do What’s Best for their Clients, USA Today (April 6, 2016), http://www.usatoday.com/story/money/columnist/powell/2016/04/06/investors-new-fiduciary-rule-protection/82661384/.
 Nick Fera, What New Developments in the Consolidated Audit Trail Spell for Broker-Dealer Compliance, The Street (June 13, 2016), https://www.thestreet.com/story/13604582/1/what-new-developments-in-the-consolidated-audit-trail-spell-for-broker-dealer-compliance.html.
 Dave Michaels, SEC Approves Consolidated Audit Trail to Detect Market Manipulation, Wall Street Journal (Nov. 15, 2016), http://www.wsj.com/articles/sec-to-vote-on-consolidated-audit-trail-to-detect-market-manipulation-1479240411.
 SEC, SEC Adopts Rule for Pay Ratio Disclosure (Aug. 5, 2015), https://www.sec.gov/news/pressrelease/2015-160.html.
 Richard Levick, The Pay Ratio Rule: Businesses Face Unprecedented Executive Pay Disclosure Burden (Feb. 9, 2016), http://www.forbes.com/sites/richardlevick/2016/02/09/the-pay-ratio-rule-businesses-face-unprecedented-executive-pay-disclosure-burden/#a044585cf077.
 SEC, Final Rule: Pay Ratio Disclosure (Aug. 5, 2015), https://www.sec.gov/news/pressrelease/2015-160.html.
 SEC, SEC Adopts Rule for Pay Ratio Disclosure (Aug. 5, 2015), https://www.sec.gov/news/pressrelease/2015-160.html.
 Citizens United v. Federal Election Com’n, 558 U.S. 310 (2010).
 Committee of Corporate Political Spending, Rulemaking Petition to SEC (Aug 3, 2011), available at https://www.sec.gov/rules/petitions/2011/petn4-637.pdf.
 Ranee Merle and Jim Tankersley, Elizabeth Warren Urges President Obama to Remove the Head of the SEC, The Washington Post (Oct. 14, 2016), https://www.washingtonpost.com/news/wonk/wp/2016/10/14/elizabeth-warren-asks-president-obama-to-remove-the-head-of-the-sec/.
 Pub. L. No. 114-113, 129 Stat. 3030 (2016), available at https://www.congress.gov/bill/114th-congress/house-bill/2029/text (stating that no funds made available under the Consolidated Appropriations Act would “be used by the [SEC] to finalize, issue, or implement any rule, regulation, or order regarding the disclosure of political contributions.”)
 Andrew Ackerman, Elizabeth Warren to Obama: Fire SEC Chief Mary Jo White, The Wall Street Journal, (Oct. 14, 2016), http://www.wsj.com/articles/elizabeth-warren-to-obama-fire-sec-chief-mary-jo-white-1476439200.
 Merle and Tankersley, supra note 45.
 Letter from U.S. Senator Sherrod Brown to SEC Chair Mary Jo White (July 6, 2016), available at https://www.sec.gov/comments/s7-24-15/s72415-247.pdf.