How Increased Regulations Drive Smaller Broker Dealers Out Of Business

Actimize FMC Product Team, Financial Markets Compliance

At the recent FINRA Annual Conference in Washington, D.C., the common – yet familiar – theme was restoring investor confidence and trust in the securities business. But now, as the new age of regulation has emerged in the wake of one of the worst financial crises in modern history, this climate has significantly changed the course of the dialogue surrounding this critical topic.

As a result of the new rules and regulations that are rolling out, there seems to be a sharp decline of independent, small brokerage firms. These firms have been squeezed hard by the impact of new regulations – both through the sheer volume of these guidelines and the costs to implement them. The largest financial firms have teams of lawyers/compliance officers that can deal with the changing regulations, but not so for the smaller firms, which often get not-so-uniformly pushed down.

Small broker dealers will continue to face strong regulatory pressure in the next few years, and many more of these firms will shut down, seek a merger partner, or abandon the transaction-oriented style used by securities houses and transition as registered investment advisers that charge fees rather than rely on commission revenue.

As defined by the securities industry, a broker dealer with 150 registered representatives or fewer, smaller broker dealers make up the overwhelming majority of firms registered with FINRA. The number of FINRA-registered firms has declined to less than 4,300 – over 100 fewer than last year.

The trend is for the numbers to decrease further to around 4000, according to FINRA. At the 4,000 level, the numbers are expected to stabilize, but that’s still a net loss of around 7% to 8% over the next couple of years – not the direction we should be heading in.

Senior executives at even the largest of broker dealers have been complaining for years about their perception of over-regulation, and the increased costs associated with achieving compliance are making it increasingly difficult for many firms.

Smaller broker dealers aren’t keeping up with the cost of doing business; coupled with this, the industry is also waiting to see the next 200 plus regulations expecting to flow out of Dodd-Frank – referencing the rest of financial regulations President Barack Obama signed into law in 2010. The SEC is still writing/rewriting many of those rules. Over-regulation is what everyone is concerned about, not just the smaller firms, as well as how FINRA and the rest of the regulators will handle this flood of new rules.

Regulators certainly have an obligation to address the concerns regarding investor confidence, and many of the new rules actually do make sense to maintain fair and orderly markets in the current market landscape. And FINRA has encouraged firms to send in “comment letters” when new rules are proposed to get their opinions and feedback. If these new rules are deemed too complex and expensive to comply with, firms need to step up and send in those letters during the comment period before the rules are passed and become law.

To sum up, my observations from listening to the various panels, discussions, and debates at the most recent FINRA event, seem to suggest that the common element shared by both large and small firms is that there is a definite need to restore investor confidence. The remaining debate is how to go about it without hurting smaller firms that will not be able to comply in the new world of regulation and be forced out of business.

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