The National Association of Securities Dealers last week unveiled rules to comprehensively govern bank brokerage activities. The proposals -- to oversee areas like disclosure, the location of sales activities, and the content of marketing materials -- have raised concerns among bankers, who feel that the NASD is overreacting. American Banker reporter Karen Talley discussed the proposals with Robert M. Kurucza, who specializes in banking regulation as a law partner at Morrison & Foerster, Washington.
Q.: Why is the NASD proposing rules to govern bank brokerage activities?
KURUCZA: It's clear that NASD officials believe they need to be doing something, based on their perception that bank customers are enormously confused about securities products. But what they have endeavored to do is redundant in many respects to what banking regulators are already doing.
Q.: Where are the redundancies between the NASD measures and bank regulators' guidelines.
KURUCZA: One area is the use of confidential customer information [which the NASD proposals block!. It is not entirely clear what information the NASD is referring to. The question is whether this measure would restrict cross-marketing, a practice that bank regulators allow.
Another conflict is in the area of referral fees. The NASD would ban their payment by the bank brokerage directly to bank employees. Bank regulators allow the practice, provided the fee is not based on a successful sale.
Also on the subject of referral fees: By limiting the practice the NASD would be imposing a standard that other broker-dealers are not subject to.
Clearly this can't be the intent. Why should the bank brokerage be treated any differently from any other broker-dealer?
The NASD is also requiring additional disclosures, saying that investors must be notified that their principal is not protected from market conditions by the Securities Investor Protection Corp. SIPC only protects investors against fraud on the part of the mutual fund company. But that disclosure may be a positive step, because it's a shorthand way of conveying an important fact.
Q.: It sounds like the NASD is encroaching on turf that bank regulators already monitor.
KURUCZA: NASD officials say they want to make absolutely clear they are not regulating banks. But the proposals are getting into areas that are clearly the provenance of bank regulators.
For instance, the NASD would require a written agreement between the bank and the brokerage doing business in its branches, whether this be the bank's own brokerage or a marketing company doing business inside the bank. That measure would require a number of substantive provisions directly relating to the financial institution's participation in the program.
Q.: It appears that banks will be caught in the squeeze between banking and NASD regulations.
KURUCZA: Sure they will. This is a perfect example of where banks will find themselves with redundant and ambiguous regulations and the burdens and costs of complying with them. It will be a very untenable situation, dealing with redundant, different, and new requirements.
This is the first time the NASD has proposed rules that apply to just one segment of the investment industry, as opposed to all broker-dealers.
Q.: What about the political fallout of the NASD's actions?
KURUCZA: The potential political ramifications are enormous. The timing is particularly unfortunate because we are on the cusp of a serious congressional effort to reform regulation of the financial services industry.
Achieving comprehensive regulatory reform will clearly require a more rational allocation of responsibilities between banking and securities regulators.
It's not a positive to have the regulatory agencies fighting over whose turf banks' brokerage activities are. The scrape may be a setback to reforming the Glass-Steagall Act to allow securities firms and banks to engage in a broader range of cross-over activities.
Q.: Are the hassles worth it? Should banks get out of the investment products business?
KURUCZA: Unequivocally no. Clearly, 1994 has not been as positive as prior years, but the fact that investment products are a permanent fixture of banking has been well established. We have only seen the tip of the iceberg for annuities and mutual funds. These products will continue to be demanded by bank customers.
But it certainly is discouraging for many bankers to face the burden of another layer of regulation that may disturb the synergies that have been established through investment programs.
Q.: Are the regulators done?
KURUCZA: The banking agencies indicated, when adopting their guidelines, that they would wait a while to see if the measures were having a positive impact. The most recent "mystery shopping" of bank investment programs is turning up some real improvements in this regard. Whether or not there will be further regulation depends on whether banks make sure their sales representatives recommend appropriate investments.
Q.: Will anything positive result from the NASD's desire to take a greater hand in bank investment sales programs?
KURUCZA: Overall, I have to question whether there was a true need for the NASD regulation. But public hearings on the measures will provide a way for the banking industry to make its case. This is an opportunity to enhance the NASD's understanding of bank regulation in this area. And, perhaps most important, to make sure the NASD fully recognizes how these bank activities are conducted in a very safe and sound way.