Wall Street’s new overseer has outlined an aggressive regulatory agenda that threatens to squeeze the financial industry’s profit margins.
Securities and Exchange Commission chairman Gary Gensler is working on tougher rules for high-speed trading firms, private-equity managers, mutual funds and online brokerages. Gensler, less than six months on the job, says he wants to make the capital markets less costly for companies raising money as well as for ordinary investors saving for retirement.
His main targets are what he says are profits and salaries earned above what a purely competitive market would allow, known as economic rents.
“I hope that we address, and try to lower, the economic rents in our capital markets,” Gensler said. He noted that finance as a share of US economic output had more than doubled since the 1950s to roughly 8% of today’s gross domestic product.
“If we ever got back to what it was,” he said, “that’s a lot of savings.”
The regulatory push risks shaking up some of Wall Street’s most lucrative business models. Some Republicans accuse him of overreach. People close to the industry say Gensler’s plans are likely to spark opposition. But because the SEC hasn’t issued formal proposals for most of the items on his agenda, few industry representatives have been willing to publicly criticise it.
“I do think it’s very easy for anyone who comes into one of these regulatory roles to become paternalistic,” Republican SEC commissioner Hester Peirce said. “And so we have to guard ourselves against that tendency, because we all think we know what’s best for everyone else.”
Gensler developed a reputation as a hard-charging regulator during his 2009-14 stint as chairman of the Commodity Futures Trading Commission, or CFTC. Despite legal opposition from Wall Street, he wrote dozens of rules to govern the vast swaps market, which had previously been mostly unregulated and contributed to the 2008 financial crisis.
The SEC, a much larger agency, has been working remotely since Gensler took over in April. Leading its 4,400 staffers from a bedroom in his 135-year-old house north of Baltimore, Gensler, 63 years old, has assembled policy experts, lawyers and economists to write proposals for each of the roughly 50 rule-making items on his agenda.
Rather than selecting senior staff from inside the SEC or large corporate law firms, as many of his predecessors have done, Gensler has filled important positions with academics and policy advocates from progressive lobbying groups. One example is Barbara Roper, a longtime proponent of tougher rules for stockbrokers, whom Gensler tapped as a senior adviser focused on investor protection.
Perhaps the biggest fight he has picked is over the plumbing of the stock market, in which a handful of large firms execute a majority of individual investors’ trades.
Under an arrangement known as payment for order flow, brokerages such as Robinhood send many client orders to high-speed trading firms such as Citadel Securities or Virtu Financial rather than to a stock exchange. The high-speed traders pay brokerages for the orders and profit from the difference between the buying and selling price of the shares being transacted.
The SEC has previously approved the decades-old practice, which has enabled many brokers to stop charging trading commissions for individual investors in recent years. Citadel Securities and Virtu say they often execute trades at a slightly better price than exchanges, further saving money for investors.
“Concerns about concentration and conflicts are theoretical,” said Douglas Cifu, the chief executive of Virtu. “The actual results are overwhelmingly beneficial to individual investors.”
But Gensler and other critics say payment for order flow poses a conflict of interest for brokers and reduces transparency in the market by channeling data away from exchanges. He said in August that he was open to banning it altogether, a remark that sent shares of Robinhood and Virtu falling sharply.
“You’ve got some big actors here whose entire business model in the equity market space is based on current rules,” said Chris Iacovella, who worked with Gensler at the CFTC and now runs a trade association representing regional brokerages. “They’re going to do everything they can to not have to change their business model.”
Gensler is also scrutinising the new generation of brokerages like Robinhood. Instead of human brokers taking orders from clients and recommending investments by phone, they use data analytics to study how clients behave. Their algorithms can tailor messages to individual clients and influence investment decisions through push notifications and other features.
“While these developments…can increase access, increase choice, and lower costs, they also raise new questions about potential conflicts, biases in the data, and yes, even systemic risk,” Gensler told the Senate Banking Committee in September.
Robinhood has said it looks forward to working with the SEC and that its platform has made the stock market accessible to millions of first-time investors.
Gensler has also signaled plans to require more information from fund managers who offer products they claim to be environmentally or socially responsible. Public interest in addressing issues such as climate change and racial inequity has made so-called sustainable investing a growing profit source for money managers who have seen their fees decline amid the decades-long shift by investors toward low-cost index funds.
The problem, Gensler says, is that the funds don’t use consistent metrics to back up their marketing claims, making it hard for investors to compare them.
Conservatives say some of Gensler’s plans could undermine his goal of saving investors money. For instance, rules to require more disclosure from companies about the risks they face from climate change could saddle firms with higher compliance costs, which are ultimately borne by shareholders.
A former Goldman Sachs banker, Gensler’s scepticism of Wall Street goes back decades. After serving in President Clinton’s Treasury Department from 1997 to 2001, he and a former colleague, Greg Baer, co-wrote a 2002 book titled “The Great Mutual Fund Trap.”
In it, they criticized professional stock pickers for charging high fees and delivering poor returns, and urged savers to buy index funds rather than actively managed investments.
“Do not delude yourself into believing that your interests are the same as your broker’s interests,” Gensler and Baer wrote. “In the great majority of cases…expert money management advice simply leads investors to underperform the market and enrich Wall Street.”
As SEC chief, Gensler also is now looking at similar fees charged by private-equity firms. While the SEC traditionally has considered big institutions like pension funds more sophisticated than individual investors, Gensler has said these investors in private-equity could benefit from more disclosures.
“If private equity had lower fees,” Gensler said, “the pension funds would get more. Now, maybe the private-equity general partners would get a little less.”