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Speaker 1: Welcome to the Bloomberg Law Podcast. I'm June Grosso. Every

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Speaker 1: day we bring you insight and analysis into the most

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Speaker 1: important legal news of the day. You can find more

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Speaker 1: episodes of the Bloomberg Law Podcast on Apple Podcasts, SoundCloud

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Speaker 1: and on Bloomberg dot com slash podcasts. Seven states and

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Speaker 1: d C accused the Securities and Exchange Commission of watering

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Speaker 1: down a final regulation intended to protect the customers of

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Speaker 1: broker dealers from conflicts of interest, and they're suing over it.

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Speaker 1: Joining me is John Coffee, professor at Columbia University Law School.

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Speaker 1: So Jack, what does the new rule do and what

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Speaker 1: do these states say it should do? Well? Essentially, the

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Speaker 1: new rule doesn't do that much. The hope was, or

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Speaker 1: at least the hope of these eleven states and many others,

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Speaker 1: was it the rule would say that brokers have to

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Speaker 1: put their client's interests first. They have a fiduciary duty

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Speaker 1: to their clients and a fiducia areas to treat the

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Speaker 1: client's interests as paramount. The new rule and said instead

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Speaker 1: says the brokers cannot subordinate the client's interests to their own.

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Speaker 1: That's a lot weaker than saying put the client's interests

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Speaker 1: first and says you cannot subordinate the client's interest to

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Speaker 1: your interests in many settings. And these eleven states that

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Speaker 1: are so think that's too little. I am sympathetic to

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Speaker 1: what they're saying, but I don't think this litigation can

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Speaker 1: win because courts just do not do the line drawing

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Speaker 1: necessary to write a new rule. They're not going to

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Speaker 1: dictate to the administrative agency, with all the expertise the

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Speaker 1: sec where that line should be drawn. There is, however,

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Speaker 1: an even bigger issue lying here which is going to

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Speaker 1: come up soon. Also. One impact of this new weak

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Speaker 1: federal rule is it may cause courts to be required

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Speaker 1: to supersede, reverse, and cancel the rules in all the states.

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Speaker 1: Many states already say, maybe half the state's already say

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Speaker 1: that the broker owes a fiduciary duty to the client.

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Speaker 1: This new week federal rule may pre empt all the

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Speaker 1: state rules. By preempt, I mean if there's a conflict

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Speaker 1: between federal law and state law, federal law supersedes and wins,

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Speaker 1: and that may mean that states like California that have

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Speaker 1: a strong fiduciary duty standard may find that that has

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Speaker 1: to be reversed. New York has no such rule. They

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Speaker 1: don't say that the broker is a fiduciary to you.

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Speaker 1: But that's the other issue that's going to be underlying

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Speaker 1: this leviation as well, whether state law is now going

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Speaker 1: to be canceled by this new federal rule. Let's talk

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Speaker 1: first about the possible success of this lawsuit. Business groups

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Speaker 1: and lobbyist sued over a similar fiduciary standard proposed by

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Speaker 1: the Labor Department, and last year in appeals court overturned

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Speaker 1: that regulation. Is that the federal yes, so explain why

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Speaker 1: they did that. Well, they thought there were procedural errors

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Speaker 1: in the way that the Commission had gone about it. Uh.

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Speaker 1: But this this is a different litigation. They want a

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Speaker 1: strong rule mandated, and that's very unusual for a federal

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Speaker 1: court to tell the agency, this is the rule you

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Speaker 1: must adopt. It's easy to reverse the rule, much harder

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Speaker 1: to write a rule and impose it on the federal agency. Now,

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Speaker 1: looking at at the rule, SEC Chairman Jake Clayton said

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Speaker 1: in a speech on Monday that it brings disclosures in

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Speaker 1: line with what the reasonable investor would expect. New York

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Speaker 1: ag Letitia James says that it doesn't address the confusion

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Speaker 1: of consumers. Does it do anything to help consumers who

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Speaker 1: are confused about the conflicts that broker dealers does some good?

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Speaker 1: I won't say that it's meaningless. It does improve the

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Speaker 1: duty that the broker owes the clients somewhat, but not

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Speaker 1: nearly as much as state law and many jurisdictions already does.

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Speaker 1: It says that you can't subordinate the client's interests to

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Speaker 1: your own interest as broker, but doesn't mean you have

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Speaker 1: to put the client's interests first. For example, you could

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Speaker 1: have a proprietary product and you don't have to tell

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Speaker 1: the client that that same product is available from your

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Speaker 1: competitors at a much lower cost. Uh, that's not you

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Speaker 1: didn't subordinate his interest. You just didn't put his interest

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Speaker 1: first and tell them that your rivals had a better product.

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Speaker 1: So then will there also be more litigation about whether

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Speaker 1: the state rules are superseded by the federal rules. Well,

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Speaker 1: I think sooner or later, the state rules are going

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Speaker 1: to be applied in some case and the broker and

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Speaker 1: the industry is going to say that state rule is invalid.

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Speaker 1: They're going to treat the state rule as being invalidated.

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Speaker 1: But no court has yet ruled, and it's a question

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Speaker 1: about when that issue is going to arise. But all

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Speaker 1: the state rules are in jeopardy. That's all I can say.

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Speaker 1: It will be the industry that will say the state

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Speaker 1: rule is invalid and they're not going to suit at

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Speaker 1: the outset. They're going to wait till the case arises

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Speaker 1: in which the state tries to say that their rule

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Speaker 1: has to be followed. In this case under Dodd Frank,

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Speaker 1: the intent was to bring the standard of conduct for

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Speaker 1: stockbrokers on conflicts of interest in line with the stricter

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Speaker 1: standard for financial advisors. I believe why did the SEC

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Speaker 1: decide not to do that? They didn't do that. The

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Speaker 1: question was can we reconcile and even up the obligation

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Speaker 1: z owed by an investment advisor who is a fiduciary

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Speaker 1: with the obligations that are broker host who isn't the fiduciary,

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Speaker 1: but under the standards of a private body called SINA,

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Speaker 1: the financial industry regulatory authority has to observe certain suitability

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Speaker 1: rules and make sure he doesn't recommend products that are

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Speaker 1: clearly unsuitable to the investor. So they were supposed to

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Speaker 1: even the amount reach some kind of balance between the two.

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Speaker 1: In fact, what they did was raised the standard for

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Speaker 1: the broker a little bit and then lower the standard

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Speaker 1: for the investment advisor a considerable amount. So we've leveled off,

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Speaker 1: not at the intermediate point, but at a point that

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Speaker 1: reduces the duties of investment advisors and moves the duties

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Speaker 1: of brokers up a little. So investors lost here. I

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Speaker 1: think this was a giant lobbying battle at the SEC,

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Speaker 1: and the industry won out over the over the clients investors.

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Speaker 1: So what what is to be done at this point?

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Speaker 1: If the lawsuit won't work well, I doubt that the

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Speaker 1: lawsuit will win. I suspect this could be a political

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Speaker 1: issue if we ever have a presidential election in which

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Speaker 1: a Democrat gets elected. I suspect that a new SEC

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Speaker 1: appointed by a new president will reconsider this issue, but

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Speaker 1: that would take several years. In the meantime, I don't

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Speaker 1: think after this long a lobbying battle that the SEC

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Speaker 1: is going to change as it is presently constituted. Can

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Speaker 1: you explain to the average person why Dodd Frank was

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Speaker 1: passed nearly a decade ago, why it took so long

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Speaker 1: to even get this watered down version. It's certainly a

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Speaker 1: very good question. Of course, these are intense lobbying battles.

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Speaker 1: Brokers do not want to be subject to a do

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Speaker 1: they want to sell their own products. They don't want

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Speaker 1: it to say that their competitor's product has a better

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Speaker 1: price to it. They don't want to have a constant

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Speaker 1: duty to warn the investor about risky faces. Uh. They

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Speaker 1: are scared about the liabilities that would be involved here.

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Speaker 1: I understand their fear of liability. But I thought that

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Speaker 1: the ten of Congress was to get some fair intermediate

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Speaker 1: compromise between the duty that investment advisors owed and the duty,

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Speaker 1: the lesser duty that brokers had to observe. And I'm

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Speaker 1: afraid the compromise has not come out in the middle,

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Speaker 1: but substantially below the midpoint of that difference. Less than

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Speaker 1: a minute here. But can Congress do anything? Okards can

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Speaker 1: do anything he wants to do. But if you've observed

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Speaker 1: Congress recently, it's fairly paralyzed. Uh. Things might go through

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Speaker 1: the House, but they won't go through the center. And

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Speaker 1: we're entering into an election year, and in an election year,

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Speaker 1: I don't expect that there will be much of a

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Speaker 1: compromise effort to pass legislation. Thank you so much. Jack.

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Speaker 1: As always, that's John Coffee. He's a professor at Columbia

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Speaker 1: University Law School. Thanks for listening to the Bloomberg Law Podcast.

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Speaker 1: You can subscribe and listen to the show on Apple Podcasts, SoundCloud,

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Speaker 1: and on bloomberg dot com slash podcast. I'm June Brosso.

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Speaker 1: This is Bloomberg