Remarks at the SIFMA Independent Firms Conference

Douglas Shulman

Vice Chairman

April 25, 2007

Thank you for having me at today's conference. Conferences like this provide an ideal setting for regulators and market participants to engage in a productive dialogue concerning the challenging and exciting issues in this fast-changing market.

It is of particular pleasure for me to be here speaking to leaders of the independent dealer community. The independent financial professionals that you work with are filling an important part of the puzzle of helping investors with their financial needs - saving for retirement, health care, and education expenses, or - more and more - drawing down upon accumulated financial assets in retirement. And so, as we see the markets and the industry evolving, we want to work with you to make sure that investors are treated fairly, and that they receive the information they need to make informed decisions.

As I look ahead, there is no doubt in my mind that the challenges we face will test firms of all business models and sizes -as well as regulators.

So today I want to focus on what NASD is doing to prepare for these challenges and the evolving market of the future; as well as what NASD is doing to help your firms prepare for tomorrow's market realities.

Regulatory Consolidation

The most visible step we are taking to keep pace with the changing marketplace is the NASD/NYSE regulatory consolidation.

This plan will combine NASD and NYSE member regulation into a single, new self-regulatory organization (SRO) that will be the sole private-sector regulator for all 5,100 securities brokers and dealers doing business with the public in the United States.

This is the first modernization of the self-regulatory regime in decades, and it sets up a unique structure that I believe will serve our industry and investors well for years to come.

When the new organization is in place and fully integrated, there will be a single set of rules adapted to firms of all sizes and business models. There will be one set of examiners and one enforcement staff.

The consolidation plan sets forth a more sensible and less complex regulatory regime that will make private-sector regulation more efficient and effective. It will reduce regulatory costs for all firms-some quite dramatically-while providing more effective protection for the tens of millions of people who invest for their future in the U.S. capital markets.

We are very excited about this plan. On its face, there are tremendous advantages for both investors and the industry. We have also discussed some of the other possibilities that we hope will emerge, as we move forward as a single SRO for the industry.

First, with one entity responsible for member firm oversight, we think there are real opportunities to tailor our rulebook in a more targeted way towards firm size and business model.

We are committed to making distinctions in regulation, where feasible, between firm size, business focus and business model. We believe that this tiered approach in our thinking about regulation should yield a rulebook better rationalized between intent and impact and, therefore, more efficient regulation. We plan to seriously explore this going forward.

As we explore this, we will rely on you to provide us feedback - through the notice and comment process when we propose rule changes, and also through day-to-day dialogue. We have always maintained strong channels for industry feedback. We have district committees in all regions of the country, and national standing committees - such as the Independent Dealer/Insurance Affiliate Committee. These are valuable forums for us. It's how we receive feedback on the most efficient ways to achieve our shared goal of investor protection, and these committees will continue after the consolidation.

At a Board level, the new SRO will have strong industry representation. Ten of the twenty-three governors will be industry representatives. Of these industry seats, three are allocated to large firms, one to a medium sized firm, and three to small firms. In addition, there are three industry seats set aside for particular business models - one of which is allocated to an independent dealer / insurance affiliated firm.

We also think that a single SRO will help the U.S. capital markets keep their competitive edge. People from Europe and Asia look at our regulatory scheme in the United States, which includes the SEC, CFTC, States and multiple SROs, and are often confused. Through our merger with NYSE member regulation, we are doing our part to streamline the regulatory structure in the U.S. markets.

Now that the By-Law amendments have been approved by our membership, they have been sent to the SEC for approval. Our hope is to have all the necessary approvals and a final agreement with the NYSE Group completed in June.

It is important to understand that once consolidation takes effect, there will be no immediate, dramatic changes for firms as far as rulebooks, exam cycles or forms and technology interfaces.

From a firm perspective, immediately upon closing:

  • Rulebooks will remain the same for firms: Dual firms will be subject to both rule sets until rulebook is merged and NASD only firms will be subject to NASD's previous rules.
  • Exam cycles will remain the same, except dual firms will have coordinated exams.
  • Forms and technology interfaces will stay the same as we merge systems and rulebooks.
  • Most of 2007 will be spent integrating staffs, systems and rulebooks. Firms can expect to see more significant changes in 2008.

In the end, consolidation will allow us to do our job more efficiently, which not only will benefit member firms, but investors as well.

Trends and Issues

One of our jobs as a regulator is to understand the trends facing the industry, and to be ahead of (or at least keep pace with) those trends. Let me speak for a few minutes about what we see as the most significant issues facing investors and the brokerage industry today.

First, there is the technology revolution. Simply put, technology has changed our everyday lives and has empowered investors like never before.

10 years ago, my computer was networked to other computers in our office, and I could access the broader world through a Bloomberg terminal or through LexisNexis.

Today, essentially all of our computers are connected to one another through the Internet, and investors in Australia can receive real-time information about U.S. markets and even place an order from the beach in Perth.

Consumers (in our case, investors) today demand quicker access to more information that is easier to understand.

In an example of our response to this, we recently advocated a revamping of the disclosure regime for mutual funds. We have recommended to the SEC that they adopt a two page internet-based disclosure form for mutual funds, which enunciates in plain English the objectives, risks, benefits and costs of the fund.

I think we can all agree that sending a 50 page prospectus to investors a few days after selling them a mutual fund is not the kind of disclosure that benefits an investor in today's information-rich world. We think that the demand for information, together with new technology, will drive a new kind of disclosure regime in the future.

Rapid technological change can also create challenges for firms.

As we emerge from a period of active rulemaking that followed the excesses of the dot-com era, firms have spent a great deal of money on systems and data to enhance supervisory and compliance processes. In the balance, better technology should translate into enhanced investor protection, and I encourage firms to continue to invest in providing their supervisors and compliance professionals with better information - be it through better data on the products that they sell, better exception reports showing anomalous activities, or better management reports to allow executives to monitor activities at the firm.

For our part, we've expanded the data that we provide free of charge to firms through the NASD Report Center. You can now get monthly reports showing your firm's performance against trade reporting obligations, or timeliness with reporting disclosures to CRD, to name two examples. We have also expanded our facilities to provide better product data to firms, including detailed data on sales charges and pricing rules for mutual funds that carry front-end loads.

On the whole, the investment in compliance technology is a positive trend that we hope will continue. As with any investment in technology, though, we must remain vigilant to ensure that the systems are performing as expected. As firms move from using staff resources to technology resources for compliance, they must be careful not to lull themselves into thinking that the systems are without flaws, and supplement them with the right level of staff oversight.

The second trend that is transforming our industry is the coming tidal wave of baby boomer retirees. And with uncertainty surrounding the federal government's safety net, namely Social Security, the stakes are higher than ever before.

As our population grows older and baby-boomers close-in on retirement, more and more American households are looking for your help to provide them with a safe and secure financial future.

The difference between a senior who is well prepared for the challenges of retirement and one who is not becomes a stark reality in the golden years. It's the difference between living one's last years in comfort and stability or in worry and debt.

As your clients age, focus will shift from helping them with asset accumulation and allocation in the working years, to using those assets to provide for them in a retirement that could last thirty years or more.

The third - and related - major trend we are watching is customers' desire for holistic financial solutions from their financial professional, not just a securities purchase or sale.

This trend shows more and more investors relying on structured or packaged products, such as mutual funds and variable annuities, rather than traditional stocks and bonds. A robust and competitive market for a new generation of packaged products could be quite helpful to investors struggling to make sense out of complexity.

All of you will have a unique vantage point to watch this trend evolve. Your independent financial professionals will be scanning the horizon, on the lookout for products that can better meet their clients' needs. As your firms determine how to evolve to support the next phase of advisor needs, there will inevitably be opportunities as well as challenges. New products will bring new ways to help clients meet their evolving needs. We already see competition among product manufacturers to bring about the next generation of packaged products.

In any competitive business, with the attendant time-to-market pressures, we need to balance the innovation that these products will bring with an equal emphasis on training those who sell these products, and on providing clear and approachable information to investors.

We remain committed to a dialogue with distributors and product manufacturers to do whatever we can to ensure that products are sold appropriately, and with full disclosure of the risks, costs and benefits of each product.

The Modern Regulator

These are just some of the changes taking place in the market today. But these changes don't only impact firms, they obviously impact regulators as well and NASD recognizes the need to keep pace.

As our CEO and Chairman Mary Schapiro has pointed out, to be a successful regulator today we must be more things to more people - in other words we need to evolve with the times. In a recent speech, she outlined several characteristics a modern regulator must embrace to be effective. Let me walk you through them today.

First, the modern regulator must ensure that investors have choices—in the types of firms they seek to do business with and the array of products and services those firms offer. We must be more sophisticated in understanding different business models, and the particular challenges of different-sized firms, without compromising investor protection.

That means "one size fits all" rulemaking isn't always the best approach. It means considering a principles-based approach to regulation or tiered regulation based on firm size.

Second, the modern regulator is proactive not just reactive.

We must always be on the lookout for risk and developing problems. Waiting for a product or practice to blow up and then reacting is not effective investor protection. And it is no longer sufficient in this day and age.

Proactive regulation means exploring all of our options for addressing emerging issues once we identify them. There should be no automatic response, such as writing a rule, when we see an issue emerge in the industry. We must consider a range of options, including best practices, guidance, education and task forces to help us understand the problem and propose effective solutions.

One example is our approach to the number of increasingly complex investment products that are being introduced to the markets and are not well understood by retail investors.

Rather than just write a new rule to deal with these potential issues, NASD met with multiple firms and developed a best practices guideline for the introduction of new products.

What we asked is that at a minimum, those procedures should include clear, specific and practical guidelines for determining what constitutes a new product, for what group of consumers it will be suitable, how reps will be trained to sell it and how it will be marketed and advertised. The issues surrounding new product manufacture and distribution will take on heightened currency as the flood of products marketed to retirees and aging baby boomers hits.

But even where rules are the right answer, we have an obligation to follow through with appropriate steps to help member firms comply.

Which underscores my third point - a modern regulator needs to find ways to assist you in meeting your compliance and regulatory obligations.

Education is one of our central obligations as a regulator. Ten years ago, we offered a small handful of conferences to the industry.

Today, we've invested significant energy and resources into developing a wide range of programs to offer—from conferences, training courses and more recently, a compliance boot camp and a wide range of online programs such as e-learning, webcasts, podcasts and online workshops.

You will see much more from us in terms of member education—particularly when it comes to offering online programs that are easily accessible for firms of all sizes.

Aside from helping firms comply with our rules by offering educational programs, we also need to make sure that we periodically step back and examine the impact of our rules. What we need to be asking ourselves on a regular basis is: Are the rules doing what we intended them to do? Are they protecting investors? At what cost? And finally, is there a better, more efficient way to achieve the benefit?

One of the first rules we are focusing on for comprehensive review is our OATS rules. Are they meeting their intended goal, and if not, how should we adjust? We will continue to put other rules through this lens as we learn from the pilot.

The fourth attribute of the modern regulator is to understand the world in which we operate. It is clear that regulatory jurisdictional boundaries are blurring, both abroad and at home.

Whether it is through U.S. investors' appetite for exposure to foreign stocks, or exchange mergers such as the NYSE/Euronext merger, regulation of broker dealers in the U.S. is no longer just a U.S. proposition. This necessitates that regulators must learn to operate in a world less and less defined by geographic borders. This global transformation won't wait for regulators to figure it out, so we need to re-double our efforts to work with fellow regulators across the globe.

But international boundaries should not be our only concern. Jurisdictional boundaries are not serving investors well either. As investors turn to financial professionals to help them manage their assets, they often do not know the difference between insurance and securities products or fiduciary duties versus suitability obligations. They just want to put their money to work so they can meet their financial and life goals.

We believe retail investors should get the same basic regulatory safeguards and protections no matter which investment product they choose.

Financial product regulation must have a harmonized approach irrespective of whether the product is insurance, securities, banking, or investment advisory.

We're not talking about more regulation—or additional jurisdiction for NASD. The point is that as the market evolves, products and providers no longer fit into neat little boxes. Therefore, regulators need to work together to regulate products that look and act in similar ways.


An aging population, the democratization of technology, high-velocity information, globalization - all are here to stay. The only question is how we adapt. We can dismiss the changes taking place all around us as a passing fad, or we can embrace them and learn from them.

NASD is here to help you navigate the road ahead. We have a wide assortment of tools and training to help you stay ahead of the curve. We encourage you to take advantage of these resources, and you have our commitment to stay in deep, constant dialogue with the independent firms community.

I hope you look upon this time of change as I do—as an opportunity to improve our capital markets and further solidify their reputation as some of the most efficient, liquid, and best-regulated in the world.

Thank you for listening. I hope you enjoy the rest of today's conference.