Canada’s provincial and territorial securities commissions recently announced plans to review the investment industry’s self-regulatory framework. Ontario’s Capital Markets Modernization Task Force has just called for that, too. They’re all asking important questions about whether the self-regulatory framework should be modified to help reduce regulatory burden and foster growth in tomorrow’s capital markets.
But perhaps the securities commissions and other policy-makers would gain better perspective by stepping back further to ask a more fundamental threshold question: Whose interests should self-regulation serve and reflect in future? Or, to phrase it another way – who should be the ‘self’ in self-regulation?
When self-regulation of Canada’s investment business began in 1916, the endeavour was rooted in self-interest. It quelled cutthroat practices among brokers in order to let them all compete fairly for trade. As such, it was regulation of the industry, by the industry, for its own benefit.
That changed in the late 1990s when the industry’s self-regulatory organizations (SROs) were given mandates to regulate their members “in the public interest.” This modernized concept of self-regulation reflected the notion that our capital markets are public institutions and, therefore, the doings of all market gatekeepers, including investment firms, are a legitimate matter of public concern that affects society as a whole.
So, today, our SROs – the Investment Industry Regulatory Organization of Canada (IIROC) and the Mutual Fund Dealers Association of Canada (MFDA) – strive continually to balance the interests of the industry they govern and the public interest at the same time. That’s all well and good, but it overlooks something important.
A subset of the public – namely, investors – are a distinct factor in this equation. Investors are affected by market regulation more directly, more specifically and far more profoundly than other citizens.
Also, investors and the investment industry are mutually interdependent. Investors need financial advice and access to investment products and the industry needs clients as a source of business revenue. That makes investors and the industry partners in a symbiotic relationship that doesn’t extend to other members of society.
In other words, investment firms and the clients who use their services comprise an investment community distinct from society as a whole. It’s a community with complex interests, some of which might be the same as the broader public interest, but many of which are not. Furthermore, within the investment community, there are interests in common and interests that diverge and compete.
Given this dynamic complexity, astute and effective governance is necessary if the investment community’s interactions are to work well for everyone involved. But regulation that’s done “in the public interest” isn’t a complete or perfect fit for this task. What’s needed in addition is regulation tailored by the community, as a community, to manage its own distinct collective interests.
That means the “self” in self-regulation really should be re-imagined. It ought to encompass the whole investment community, not just the investment industry. And that requires two evolutionary changes:
- Investors must be given a voice as full partners within the SROs’ decision-making apparatus. SROs’ directors must include a cohort of individuals whose lived experience equips them with deep understanding of investor perspectives and concerns as opposed to being people whose worldview has been shaped by careers within the industry. Both viewpoints are essential and need to be at the table.
- The partnership must be conducted collaboratively for mutual benefit. All directors, including these new ones, must come to the table with a mindset that their role is to act in the best interest of the investment community, as a whole. They should not consider themselves to be representatives of one constituency or the other. Instead, they should view their purpose as one in which, collectively, they provide the SROs with a broadened and more nuanced understanding, allowing the organization to better “see” key issues, set priorities and balance competing needs.
Recently, IIROC amended its criteria for selection of independent director candidates to include actual experience with consumer and retail investor issues, and those criteria have been applied in the selection of IIROC’s most recent board nominees. That’s a promising first step toward renewal of the SRO concept.
More progress could come in the next few months as Canada’s securities commissions embark upon their review of the SROs’ regulatory framework – although it’s unknown how far this examination may take things.
Some interested observers, including, most notably, the MFDA, want the review to be very broad. They’ve urged policy-makers to consider whether SROs are still necessary at all; and, if so, whether the existing SRO model should be completely demolished and replaced with a new one built on a fresh foundation that encompasses all categories of registered firms, including exempt-market dealers, discretionary portfolio managers and scholarship plan dealers.
The MFDA favours taking as much time as may be necessary to design this new entity in order to avoid perpetuating the suboptimal aspects of our current framework.
IIROC and others worry this approach will turn the whole thing into a never-ending existential meditation or too much of a mega-project, likely to bog down in its own details and never actually able to get underway. They suggest instead that IIROC and the MFDA should be merged immediately, in a practical fashion, to capture synergistic efficiencies and reduce regulatory burden, and that further restructuring should be carried out afterward on an ongoing basis as needed.
This debate promises to be lively. But if we’re going to design the SRO of tomorrow, we should start by determining which “self” it’s meant to reflect. Ideally, it should be one that mirrors and best serves the intertwined communal needs of both investors and the investment industry.
Neil Gross is president of Component Strategies, a capital markets policy consultancy based in Toronto.