(February 4, 2005) Want some clues about what direction Canada’s regulators might take once they process comments on their soft-dollar concept paper? Look south, says TD Asset Management compliance manager Michael Valihora, because the trend towards regulatory harmonization means recent changes in the U.S. will influence the course taken by Canada.

“It’s not an absolute predictor,” he said Thursday at a Strategy Institute conference in Toronto, “but it can be a good bellwether for what may be coming here.”

Indeed, OSC assistant manager for market regulation Susan Greenglass told the conference they were looking at a report issued last fall by the National Association of Securities Dealers (NASD) as part of their consultative process. NASD’s report called on the Securities Exchange Commission (SEC) to narrow the scope of the existing soft-dollar safe harbour and ensure items purchased by advisors for brokers with whom they have trading arrangements enhance the value of the execution.

NASD’s task force advised the SEC to interpret the safe harbour to protect only brokerage services and the intellectual content of research. It defines intellectual content as an “investment formula, idea, analysis or strategy” that is communicated to and applied by the broker, or a third-party research provider.

That definition would not protect computer hardware and software that’s not related to any research content or analytical tool. In other words, says Michael Udoff, an associate general counsel with the Securities Industry Association in New York, a computer terminal containing client data could not be paid for by an advisor, but a terminal containing a data feed from Bloomberg or another provider would remain covered.

Other items NASD wants to see excluded are:

  • Phone lines and data transmission lines;
  • Magazines, newspapers, journals and on-line news services;
  • Portfolio accounting services;
  • Proxy-voting services unrelated to issuer research; and
  • Travel expenses incurred in company visits.

Redefining how soft dollars can be used is part of a larger mission by securities regulators to ensure retail firms, be they advisors or broker-dealers, provide their clients with the best possible executions. Greenglass noted soft-dollar arrangements can generate a lot of noise around the ability of regulators, and the firms themselves, to determine execution quality. The arrangements often diminish the amount of commission a broker makes, meaning the firm may not always be motivated to seek out the best price.

The SEC has struggled with requests by U.S. firms for an improved definition of best execution for several years. In 1999, it issued a concept release on market fragmentation that floated the idea of a centralized limit order book to allow direct comparisons of executions.

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  • Regulators turn a skeptical eye to soft dollars

    • While the stated purpose behind the release was to assess the impact of third-market trading venues on equities pricing, the commission’s real intent was to drill down and “try to figure out exactly what actually constituted best execution,” according to an SEC associate director. Ultimately, the commission adopted order-routing disclosure rules that require brokers to issue quarterly reports outlining where they send transactions for execution.

    Those rules also require market centres, such as NASDAQ and the New York Stock Exchange, to issue monthly reports that include statistical measures of execution quality. A client can compare the reports to determine whether an execution provided by an advisor or broker was consistent with the best prices available in the market at the time.

    Filed by Philip Porado, Advisor’s Edge, philip.parado@advisor.rogers.com

    (02/04/05)