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SEC Commissioner Peirce Offers Recommendations to Increase Participation in the Financial Markets's picture
Commentary by Steven Lofchie

In an address before the FINRA Certified Regulatory and Compliance Professional Program, SEC Commissioner Hester M. Peirce considered solutions for enhancing retail investors' access to the financial markets and reducing employment barriers in the financial industry.

Ms. Peirce urged regulators to assess why, despite the U.S. financial markets generating substantial returns, only half of American households (i) directly own equities or (ii) own mutual funds or exchange-traded funds. Ms. Peirce suggested that the low level of market participation is in part a result of poor financial education. She also argued that Accredited Investor, Qualified Client and Qualified Purchaser eligibility were impediments to participation in the financial markets by investors of limited means. She stressed that such barriers prevent most Americans from participating in private markets, which deprives them of the opportunity to invest in companies with the potential to generate significant early gains, particularly since companies are waiting longer to go public. Rather than more heavily regulating private markets to push companies to go public, Ms. Peirce stated that a simpler approach would be to remove the existing barriers. She remarked that such barriers do not just exist for retail investors, but for small companies in areas without a significant pool of wealthy investors. Accordingly, Ms. Peirce urged the SEC to adopt a tailored regulatory framework for individuals to act as "finders" to match small companies with investors, either through its 2020 proposed exemptive order or by a rule.

Ms. Peirce also addressed barriers to financial industry employment. She pointed to the Exchange Act's statutory disqualifications for employment as an associated person of a broker-dealer, including the barring of individuals with any felony convictions or certain misdemeanors within the previous 10 years, as an unreasonable barrier considering how "remarkably easy" it is to commit a felony in the United States. Additionally, Ms. Peirce noted the requirements in FINRA's Form U4 and the SEC's Form ADV for an applicant to report any offense charges, even if they have not resulted in a conviction, as "an unreliable guide to a person's character" and irrelevant from a regulatory perspective. Ms. Peirce also cited the SEC's and FINRA's punitive approach to compliance officers in enforcement actions, emphasizing that such actions can sometimes lead to professional and personal devastation that can prevent people from being comfortable entering the industry.

Ms. Peirce noted the substantial increase in retail participation in individual equities and options trading as a result of new technologies, including mobile apps, artificial intelligence and stablecoins. She emphasized that as a result, a new generation of retail investors is getting a cheap, accessible, convenient and high-quality hands-on financial education that previous generations did not have the opportunity to receive.


There is one investor qualification definition that even an SEC that favors investor protection over investor choice should reconsider: "Qualified Purchaser."

Generally, "accredited investors" (which is a fairly low standard of wealth and income) are permitted to invest in private funds exempt from registration under the Investment Company Act by virtue of Section 3(c)(1), which limits these funds to less than 100 investors. To invest in a Section 3(c)(7) private fund, which has no limit on the number of investors, an investor must be a "qualified purchaser" (which imposes a significantly higher standard of wealth requirement). Many of the better established funds rely on Section 3(c)(7) and so are not available to mere accredited investors.

The effect of this two-tier standard is to the detriment of retail (accredited) investors. They are effectively relegated to investing in funds that may have only other retail investors who cannot provide the same level of due diligence as can institutional investors. By allowing accredited investors to invest in all private funds, and not limiting them to private funds that may be effectively only for smaller investors, the SEC would allow these investors to piggyback off the benefits of the more substantial diligence that is performed by institutions.

As a practical matter, this is the way that the stock markets work. However much retail investors may read offering documents, in fact their greater protection probably derives from the fact that public market prices are largely set by institutions and retail can piggyback off of institutional valuations. Private funds should work the same way: retail investors should be permitted to piggyback off of the diligence performed by institutions.

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Private Placements; SA Section 4(a)(2)
Body of Law: