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State Regulators vs. The Securities and Exchange Commission – Who Best Regulates Your Assets?

There is an ongoing debate regarding the role of state regulators in financial product oversight as Congress mulls over a proposal to expand the range of state oversight. Currently, financial advisors with under $25 million in assets are regulated by state regulators, with anything over that amount being regulated by the Securities and Exchange Commission (SEC). Congress is considering increasing state oversight to include firms with up to $100 million in assets, effectively stripping the SEC of some oversight.

The timing of this change is directly related to the apparent failure of the regulation system in the United States following an explosion of long operating fraudulent schemes being uncovered over the past year. There has been finger pointing, calls for greater reform, and an apparent lack of consensus on the issue. The answer which no one seems to be able to answer is, how do we best split regulation between state and federal departments?

Texas Securities Commissioner Denise Voigt Crawford has been a vocal advocate of giving more power to state regulators. State regulators were stripped of many powers under the National Securities Markets Improvement Act of 1996, powers which Ms. Crawford believes should be reinstated. “The naivete behind the view that markets are always self-correcting now seems apparent,” she said. “But clearly, reliance by the investing public on federal securities regulators, self-regulatory organizations (SRO) and `gatekeepers’ in the years preceding the crisis and in its midst to detect and prevent even the most egregious of frauds and deceit was equally naive.” This sentiment is not shared by many, however, who see the idea of giving state regulators more power as potentially damning to investors and the U.S. financial market as a whole.

Joseph Borg, director of the Alabama Securities Commission, recently spoke on the matter at the Financial Services Institute’s OneVoice 2010 Broker-Dealer Conference in New Orleans. When asked if states would be able to handle the increased work load, Borg stated, “Some yes, some no.” He offered a solution by which states would be allocated more resources and interstate cooperation would increase.

It remains to be seen if Congress will increase the threshold on state regulation, but the good news for investors is that meaningful discussion on the topic is happening, and hopefully, good law making will follow.