Some regulators boost performance

The biggest stride in IE’s third annual survey of chief compliance officers in the financial services industry has been made by the Toronto-based Mutual Fund Dealers Association of Canada. The MFDA had lagged the other major self-regulatory organization, the Investment Industry Regulatory Organization of Canada, and the provincial authorities in our two previous surveys. But, although the MFDA is still rated lower than the others, it has taken a large step forward.

CCOs were asked to rate their regulators in 17 categories on a scale of zero to 10, with zero meaning “poor” and 10 meaning “excellent.” The MFDA generated higher scores this year in all but one of the 16 categories previously rated. (There was one new category this year.) In several areas, the jump in the MFDA’s ratings were so substantial that they led to a significant increase in its overall average rating — the “overall IE rating” — to 6.0 in 2011 vs 5.5 in 2010.

The overall IE ratings for IIROC and the provincial regulators were unchanged, at 6.3 and 6.4, respectively. So, although the MFDA is still trailing the other major regulators in the eyes of the dealers, the MFDA has narrowed the gap.

The fact that the MFDA has typically received lower ratings in IE‘s annual Regulators’ Report Card is not entirely surprising. After all, the MFDA has a uniquely charged history. Although it is an SRO, much like IIROC, it was imposed on its members 13 years ago rather than being founded by them. Its contentious history is recent enough that this fact hasn’t been forgotten. Indeed, the lingering discontent between the MFDA and some of its members was played out in the past year with a hearing before the B.C. Securities Commission after a mutual fund dealer complained about the way the MFDA sought to change its governance bylaws.

So, the fact that the MFDA’s ratings have risen so much this year is probably not simply due to the erosion of old animosities. Instead, the higher scores for the MFDA in this year’s survey probably reflect a more favourable view among the dealers of the MFDA’s recent work, putting the SRO more or less on par with the other regulators.

And although those other regulators — IIROC and the various provincial securities commissions — have not seen any changes in their overall average scores this year, there is still plenty going on beneath the surface.

For instance, dealers gave all regulators much higher scores in “the firmness of the regulator’s policy decisions” category. The MFDA saw the biggest jump, 2.2 points. But this was also the category that registered the biggest increase for both IIROC (0.9 of a point) and the provincial regulators (0.7 of a point).@page_break@Of course, higher ratings in IE‘s Regulators’ Report Card aren’t clearly better in the same way they would be in the other industry report cards IE produces. In fact, a higher rating doesn’t necessarily mean a regulator is doing a good job — and the higher scores in the previously mentioned category are an example of that. For instance, some dealer firms still complain that regulators are too rigid.

More important, regulators shouldn’t necessarily want sky-high scores from the firms they supervise. If firms are too pleased with the job the regulators are doing, it could be that regulators aren’t being strict enough to protect investors. The financial services industry is only one constituency that the regulators serve — and the interests of investors, issuers, governments and the public may be diametrically opposed to those of the industry.

That said, higher ratings in other categories may be more reliable indicators of regulators’ improvement. For example, the MFDA also saw much higher scores in the “fairness of the regulator’s hearing process,” “the fairness of the regulator’s investigation process” and “the effectiveness of the formal process by which the regulator solicits industry comment on new rules and policies” categories.

IIROC received significantly higher scores in “the representation of the dealer community on the regulator’s board of directors” and “the extent to which members and approved persons are involved in a regulator’s review” categories.

Dealer firms would seem to be in a prime position to assess whether their supervisors are doing a good job by these measures. So, these higher ratings serve as a proxy for perceived quality from a dealer firm’s perspective. There is also something to be said for regulators that have a good understanding of the industry they oversee and can also protect investors without impeding business or sacrificing fairness.

This year’s survey saw IIROC and the provincial regulators receive lower marks in several categories. Both saw full-point declines in “the regulator’s sensitivity to the concerns and issues of small firms” category. IIROC also saw a slide in its rating for the “timeliness of the regulator’s response to questions and concerns expressed by its members” category, while IIROC and the provincial regulators received lower ratings in “the regulator’s effectiveness in keeping its policies in step with evolving global markets” category.

Again, higher scores aren’t necessarily better, but these are categories in which reduced marks could signal a reason for concern.

The same caveats apply when we look at the relative performance of individual provincial regulators — although doing so merits an additional caution in that breaking down the response by province affects the quality of the data by reducing the sample size. Only the larger provinces — Alberta, British Columbia, Ontario and Quebec — can really be examined this way; even then, the samples are relatively small.

That said, the data reveal that on an overall average basis, ratings went up in the West and down in the East. The Alberta Securities Commission‘s overall IE rating rose to 6.4 from 5.7 year-over-year; the BCSC’s average score rose to 6.9 from 6.4. In contrast, the Ontario Securities Commission‘s rating dropped to 6.2 from 6.4, while the Autorité des marchés financiers‘ rating slipped to 5.9 from 6.1. IE