The RIA Times They Are A Changin'

April 20, 2016



By Andrew Wels, Esq.

The RIA Times They Are A Changin'

If you've been a successful broker long enough to remember Bob Dylan then you must have thought about leaving your brokerage firm to start your own firm as a registered investment adviser ("RIA").  But if you haven't done so yet, then get ready to do it now. Historic changes in regulation and technology are converging in a perfect storm that will transform the financial services industry.  Over the next few years, every broker will have to consider becoming an RIA.

In this two-part series, I hope to explain the trends that are now forcing this fundamental change, and what you can and should do to protect yourself and your clients. These insights come from more than 30 years of personal experience as regulatory counsel for some of the most innovative firms on Wall Street.

To Know Where We Are Going, We Must First Know From Whence We Came

In the beginning, everyone was a broker.  A group of traders met under a Buttonwood Tree on Wall Street and agreed to trade only with each other.  Everyone else who wanted to buy or sell had to go through them and pay a fixed commission that they determined. There were no laws, rules or regulations.  Just a gentleman's agreement that created the brokerage industry.

There was little in the way of change for almost a century.  Then Thomas Edison perfected the ticker tape machine and stock brokers moved from Wall Street to Main Street.  It took the government 60 years to catch up, but they did, and in 1934 Congress passed the Securities Exchange Act to regulate brokers.

However, conspicuously missing from the Securities Exchange Act was any regulation of investment advisers, because at that time all advice was passed through brokers. Advisers were not regulated until Congress passed the Investment Advisers Act 1940 which was designed as a means to regulate the managers of investment companies. In fact brokers were specifically excluded from the regulation as long as they did not receive special compensation for providing advice. The brokerage business remained unchanged.

Changes in Regulation and Technology Began A Shift to RIAs

The world changed on May 1, 1975 - "The Big Bang" - when fixed commissions, the last remnant of the Buttonwood Agreement, fell at the push of regulators.  Almost overnight a new industry of "discount" brokers appeared led by visionaries such as Charles Schwab and Larry Waterhouse - NYSE members who founded firms that would go on to jump start the investment adviser industry.

After The Big Bang the brokerage business - i.e., the business the business of executing trades - became separated from the business of providing investment advice. Brokers could no longer charge monopoly prices for trade execution and competition quickly drove down the price of commissions.  Although full service brokers still charged high prices as long as they did not receive "special compensation for providing advice" many brokers realized that their true value was in the advice and their relationship with clients.

The advent of internet trading in the 1990s accelerated the transition. Brokers were no longer tied to the major brokerage firms for trading systems and research.  Instead of pushing products and placing trades to meet sales minimums, enterprising brokers could open their own shops as investment advisers with very little capital, custody client assets at one of the discount firms, use a fee based business model that was more aligned with their customers' interests and take advantage of the relatively light regulatory model offered under the Investment Advisers Act.

Will Everyone Become An RIA?

The twin drivers of regulation and technology are relentlessly pushing the industry to a world where most brokers will be forced to consider setting up their own RIA or becoming an investment adviser representative for another RIA.  In fact, as a result of the Department of Labor's "Fiduciary Duty Rule" any broker servicing a retirement account may soon have to shift the account to a fee based model or deal with onerous new disclosure and business conduct regulations.   And once a broker has made the shift for some accounts, why not for all?  The cost of compliance, just measured in terms of the time necessary to address the befuddling universe of FINRA regulations, can be traded for the satisfaction and economic rewards of focusing on client needs and running your own firm.

Technology is also making the transition easier.   The tools necessary to start and run an RIA are readily available, and many custodians offer packages designed to facilitate the transition quickly. These include everything  . . . website design, bookkeeping systems, trading, research, client reporting, and, of course, compliance.

Setting Up Your Own RIA -- How Does It Feel To Be On Your Own?

There are several business models to consider when starting your own firm.  Will you be fee only, or fee based (or hybrid)?  Do you want to go it alone or work with an aggregator to jump start your transition?   In part II of this series I will review these alternatives and outline the process of creating an RIA, including entity formation and SEC registration.

READ Part II: Setting Up Your Own RIA -- How Does It Feel To Be On Your Own?



Andrew Wels, Esq.

Gusrae Kaplan Nusbaum PLLC

120 Wall Street  New York, NY 10005

Telephone: (212) 269-1400

Andrew Wels, Esq. leads Gusrae Kaplan's investment advisor unit. A veteran of the securities industry with more than 30 years of experience as a regulatory attorney and compliance officer, Andrew specialized in providing practical regulatory advice. He regularly helps clients develop effective compliance programs, prepare for routine regulatory examinations, and respond to complex investigations. Andrew's experience across asset classes for investment advisers and broker-dealers provides a unique perspective to help clients navigate the confusing and frequently overlapping regulatory requirements for investment advisers and broker-dealers.

Andrew has provided legal and regulatory guidance for the development of several successful financial services, including the high net worth investment advisory programs for clients of JPMorgan Chase and the Dreyfus Division of BNY Mellon, and the investment adviser services platform for TD Ameritrade.  

Prior to joining Gusrae Kaplan, Andrew served as Assistant General Counsel and Director of Compliance at Cantor Fitzgerald / BGC where he oversaw all legal, regulatory and compliance matters - and helped guide business development for the firm's trading, brokerage and asset management businesses.  

His experience includes almost every asset class including swaps, foreign exchange, life settlements and futures (including movie futures), as well as matters involving trading, clearing and settlement. Andrew launched his career in the public sector working for the National Association of Securities Dealers and the U.S. Securities and Exchange Commission. A graduate of the Wharton School, Andrew has a B.S. in Economics and Finance as well as a J.D. from Boston University School of Law.