For the first time in two decades the Securities and Exchange Commission has approved new guidelines for the Wall Street practice in which money managers pay above-average trading commissions to brokerage firms in exchange for research and brokerage services.
The SEC on Wednesday unanimously approved the guidelines, which were unveiled in October and will take effect in six months. Regulators are seeking to clarify what types of services are permitted under an arrangement that critics say might potentially be harmful to investors.
SEC Chairman Christopher Cox cited the need “to better circumscribe the use of soft dollars” to ensure that “they are used only for research and not for other things.”
“Soft dollar” arrangements have been legitimate since 1975, when Congress said inflated commissions were acceptable as long as money managers had determined that the commissions paid were reasonable relative to the services received. The rationale was that clients benefit from research obtained through the arrangement.
Critics have complained that the arrangements are, in effect, kickbacks, with the result that investors pay for conference fees, computers, office administration and other items unrelated to the management of their money.
The SEC itself has found that some money managers were using “soft dollar” arrangements to pay for carpeting, membership dues, professional license fees, office rent and “even entertainment and travel expenses,” Cox said.
“Money managers have an obligation to use soft dollars to obtain real brokerage and research services for the benefit of investors who entrust their money to them,” said Cox.
Under the new guidelines, eligible research services will be restricted to advice, analyses and reports. Market, financial, economic and similar data also would be permitted.
“We generally agree” with the SEC guidelines, said John Giesea, president of the Security Traders Association. “We have been of the position that soft dollars properly handled and not abused are an important tool.”
U.S. money managers paid about $970 million in soft-dollar fees to Wall Street firms for the 12 months ended in February, unchanged from the same period a year earlier, according to consulting firm Greenwich Associates. It said it expects soft-dollar commissions to hold steady for the next 12 months.
SEC Commissioner Paul Atkins said he expects the agency will soon propose measures that would require money managers to tell clients what services they receive for soft dollars, discouraging abuse.
“I anticipate we will soon be discussing the disclosure aspects of soft dollars,” he said. “If we structure that disclosure properly and in sufficient detail, investors will know how much of their money has been used in what ways.”
