Specter proposes jail time for B-Ds who violate standards

Don’t look now, but the push to extend fiduciary standards to broker-dealers appears to be gaining momentum. And the latest proposal raises the specter of imprisonment for B-Ds who violate a more-stringent standard of care.

On Wednesday, Senator Arlen Specter, D-Penn., introduced two amendments to the Senate’s financial reform bill which would dramatically expand the fiduciary burden of advisers.

The first amendment, cosponsored by Senator Ted Kaufman (D-Del.), imposes a fiduciary duty on all registered broker-dealers, and their agents and employees, who provide investment advice regarding a purchase or sale of a security or a security-based swap.

But unlike the House version of the bill, the amendment’s higher standard of care is not limited to only those broker-dealers that provide services to retail customers. Instead, it applies the standard to B-Ds who advise instituational customers as well.

“This is a common sense amendment which seeks to close a gaping loophole in federal law where brokers and dealers can avoid putting their clients’ interest first,” Mr. Specter said in a statement.

“By establishing a fiduciary duty obligation between brokers and customers,” Sen. Kaufman noted, “this amendment would help to end the conflicts of interest that permeate the financial industry and in doing so rebuild confidence among investors and restore the credibility to our capital markets.”

Specter’s amendment also imposes criminal penalties for willful violations of the broker-dealer standard of care.

Neither the current House nor Senate version of the financial reform bill fully addresses the discrepancy in the standard of care between investment advisers and broker-dealers.

The House version raised the standard solely for brokers who provided personalized services to retail customers – and would not apply to institutional investors such as pension funds and mutual funds. The Senate bill merely calls for the SEC to conduct a study of current standards.

Mr. Specter, along with Kaufman and Sen. Jack Reed (D-R.I.), also introduced an amendment that would authorize defrauded investors to hold those who knowingly aid and abet securities fraud accountable in civil suits.

Investors had that right until 1994 when the Supreme Court ruled that aiders and abettors are not liable in civil suits. That ruling put the law at odds with federal criminal law, which makes it crime to aid and abet a crime, including securities fraud.

The push for expanded fiduciary standards for advisers comes on the heels of the suit filed by the SEC against Goldman Sachs. That suit alleges that the firm failed to tell investors that a third-party was involved in creating an investment vehicle – a vehicle essentially designed to flop. Goldman has denied the charges.

It remains to be seen if the Democrat-backed amendments will garner bi-partisan support. But last week, a key Republican senator said she plans to offer an amendment on fiduciary standards that could be broader than language contained in the House bill.

Sen. Susan Collins, R-Maine, indicated that she may favor imposing fiduciary requirements on broker-dealers for both retail and institutional investors. An aide to Ms. Collins said that specific language for a specific amendment hasn’t yet been drafted.