Don’t Forget the Disclosure Obligation

Recently, the SEC announced the settlement of an enforcement case against Morgan Stanley Smith Barney (MSSB) involving charges that MSSB provided misleading information to its clients in connection with trading costs in its retail wrap fee programs. MSSB agreed to pay a $5 million penalty that will be distributed to harmed investors. The case is the latest in a series of cases against firms that sponsor wrap fee programs. Wrap fee program sponsors are generally dually registered as investment advisers and broker-dealers.

In a typical wrap fee program, a client pays a single asset-based management fee to the sponsor to cover investment advice and brokerage services, including trade execution. To the extent trades are executed at other brokers (“trading away”), clients generally incur additional trading fees, which generally are not visible to the client.

The practice of trading away is not illegal, and there are often good reasons why a manager may choose to trade away from the sponsor. However, in cases over the last several years the SEC has found that wrap fee program sponsors, such as MSSB, have not adequately disclosed the trading away practice or the costs of such trades to clients.

The SEC has prioritized cost transparency to investors as an important focus over the past few years and has brought many cases on the topic. This focus is highlighted in the SEC’s adoption of Regulation Best Interest (Reg BI), which imposes a new standard of care upon broker-dealers to act in a client’s best interest. This standard can only be satisfied by, among other things, exercising care in making a recommendation (or executing a trade) and disclosing all relevant information, including fees, costs and conflicts of interest. Reg BI is effective June 30, 2020.

CSS’s regulatory experts are former CCOs, and can help you with any compliance challenges you’re facing today. Email us at info@cssregtech.com. 


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