Stacked white books on rules and regulations

Over the past five years or so, investment dealers have implemented, at an accelerating pace, an integrated wealth-management model to meet the evolving needs of investors in the digital era. Existing and new clients have demanded an integrated platform of products and services driven by their desire for convenient, one-stop shopping for investment advice, financial planning, insurance and estate needs. They also seek the ability to compare investment and portfolio performance across products and types of accounts, and between advisor-directed and do-it-yourself investing. Further, the advisor has increasingly taken on the role of “financial quarterback,” managing the broader financial affairs of the client — notably financial, retirement, tax, insurance and estate planning — supporting the entire life-cycle needs of the client.

The capability and sophistication from technologies and innovation, in terms of computing power and digitization, have made this integrated model a reality. Technologies now can manage extensive informational and complex computational needs as well as sophisticated portfolio management and planning tools, while enabling timely access to digitized information through computers and mobile devices.

The investment industry’s ability to compete and provide the most advanced services and technology depends on capital to make significant upfront investments. Yet regulatory compliance demands compete for this same scarce capital. The corollary is that inefficient and duplicative regulation needlessly limits the availability of business-directed capital.

The capital spend on technology, systems infrastructure and expertise to build effective wealth-management platforms has been enormous and, given the accelerating pace of innovation in technology and business practice, spending will continue at a rapid, if not accelerating rate. The business goal is to improve the client experience by steadily upgrading the calibre of the integrated investing process. These improvements translate into increased savings and the on-boarding of smaller clients into the investing process. Charles Schwab Corp. and Fidelity Investments have become industry leaders in the United States in drawing together technology and packaged investments, such as ETFs and mutual funds, with professional advice to serve the needs of small investors in the capital markets.

The Canadian investment industry has been at the center of the perfect storm as the accelerating capital and operating spend in the retail advisory business have been matched with a massive regulatory reform effort initially focused on standardizing expanded disclosure requirements for the investing process, portfolio performance, and fees and charges on investments and accounts. With the completion of the two client relationship model initiatives (CRM1 and CRM2), the reform process has continued and shifted to improving the standards for advisor conduct. The capital and operating costs for needed technology and systems, and compliance/systems expertise, have been substantial and will continue to be in coming years. These compliance-related capital and operating costs compete head-on with the client-facing and related back-office business costs.

Firms typically set out annual budgets for their capital and operating expenditure on regulatory and business infrastructure. These budgets have held fairly steady in recent years, given the steady upward trend in retail revenues across the industry, matched by a corresponding trend in operating costs. However, the available spend for many smaller dealers has likely shrunk, reflecting weaker earnings performance. For all firms, regulatory compliance spend, of course, takes precedence over the client-focused spend, leaving the business spend as the residual.

Aside from debate about the analysis needed to determine the regulatory gap and optimal rules, regulators should recognize the significant opportunity cost of the compliance spend, measured particularly in terms of less capital for improving the client-focused investing process. In effect, infrastructure spend for regulatory compliance blocks or limits the application of new technologies and stifles innovation in the industry.

Regulators have the opportunity to reduce the compliance spend for dealers, even in the context of dealing with perceived regulatory gaps in the system. This is partly about identifying obsolete and inefficient rules, regulations and policies. However, the largest impact on reducing the compliance costs for dealers is a comprehensive and systematic examination of not only the existing rulebook, but of regulatory policies and approaches — including both written and unwritten expectations — to find ways to streamline and adjust regulatory practices to achieve the same objective.

This ongoing and continual critical examination of rules, policies and expectations must be embedded within the culture of the regulator. Moreover, integrated wealth platforms can be — and often are subject to — different regulatory regimes. In this case, streamlining should address the need for deference to one primary regulator only where multiple regulators may arguably have jurisdiction.

The mandate of securities commissions is to promote fair and efficient capital markets and ensure a high standard of investor protection. A critical, meaningful examination of regulatory structure, rules and practices in light of our ever-evolving technological reality speaks to that mandate.