by Craig Watanabe

 

No one knows the future; however, anticipating possible change is advantageous. The definition of “proactive” is acting in anticipation of future events, so anticipating future changes is critical in being proactive. However, being proactive is not always best, and there are times when being reactive is better. Against this backdrop, this is an editorial on possible changes in regulation and compliance that will be coming in 2025.

 

Securities Regulation is Political

The second Trump administration will bring sweeping changes to the SEC. Gary Gensler will be replaced as Chair, and Trump has nominated former SEC Commissioner Paul Atkins. Atkins was appointed by George W. Bush and served as Commissioner from July 09, 2002 until August 2008. He is currently the CEO and founder of financial services consultancy Patomak Global Partners, and he is the co-chair of the Digital Chamber’s Token Alliance. In nominating Atkins, Trump wrote in Truth Social,

“Paul is a proven leader for common sense regulations. He believes in the promise of robust, innovative capital markets that are responsive to the needs of investors and that provide to make our economy the best in the World. He also recognizes that digital assets and other innovations are crucial to making America greater than ever before.”

It is noteworthy that if confirmed, Atkins would be the first independent to serve as SEC Chairman. Atkins is a Libertarian, and the Libertarian Party website states,

“Libertarians strongly oppose any government interference in your personal, family, and business decisions. Essentially, we believe all Americans should be free to live their lives and pursue their interests as they see fit as long as they do no harm to another.”

It is also noteworthy that Commissioner Jaime Lizarraga announced he will be stepping down on January 17, 2025. This means Trump will appoint his replacement. Unlike the U.S. Supreme Court, the SEC has rules to prevent stacking the Commission:

“To ensure that the Commission remains non-partisan, no more than three Commissioners may belong to the same political party.”

Could Trump nominate another Republican to join Commissioners Hester Pierce and Mark Uyeda? Presumably, Pierce and Uyeda will be more philosophically aligned with Atkins, which would leave Commissioner Caroline Crenshaw in the minority 1 to 4. It will be interesting to see how this plays out.

Expect the regulatory pendulum to swing in the direction of less regulation, probably in a big way. When President Trump first took office on January 20, 2017, one of his first Executive Orders was to pause pending federal regulations and require that for every new regulation, two existing regulations must be rescinded. Although Trump disavowed involvement with the highly controversial Project 2025, the deregulatory elements in Project 2025 are extreme.

Trump said he would invite Elon Musk into his administration to eliminate government waste. Musk has referred to this effort as the “Department of Government Efficiency,” or “DOGE” the name of a meme and cryptocurrency Musk popularized. Musk has had highly publicized dealings with SEC enforcement and has gone as far as stating he would eliminate the SEC. While elimination is not realistic, expect Musk to make good on some of his rhetoric.

The Department of Labor is under the Executive Branch, and when Marty Walsh resigned as Secretary of Labor in March 2023, President Biden appointed Julie Su, whose appointment was never confirmed by the Senate, so she is still acting Labor Secretary. Trump has appointed Rep. Lori Chavez-DeRemer, a Republican from the state of Oregon. Chavez-DeRemer is pro-labor (as opposed to pro-business) and her nomination came as a surprise to many. The outlook for future fiduciary rulemaking from the DOL is uncertain with Chavez-DeRemer as Secretary of Labor.

 

SEC Staff

Trump stated an intention to reclassify federal workers, including SEC staff, as being outside civil service protections. This would make it easier to fire federal workers which would weaken the SEC’s ability to enforce regulations.

Trump also claims that Presidents have exclusive power to control federal spending even after Congress has appropriated money. Trump argues that lawmakers’ budget actions “set a ceiling” on spending but not a floor — meaning the President’s constitutional duty to “faithfully execute the laws” includes discretion on whether to spend the money. Expect cuts to the SEC budget, which will affect the Division of Examinations, so expect fewer audits and regulatory inquiries.

 

FINRA

Project 2025 is a policy initiative formed by the Heritage Foundation. Although Trump disavowed knowledge of Project 2025, over 200 former Trump administration officials worked on the project. Despite Trump’s claims of ignorance, the group’s senior advisor, John McEntee, stated that Trump plans to integrate many policies. One such policy is abolishing FINRA, which would be incorporated into the SEC. Project 2025 also advocated sweeping changes in dispute resolution. Even if FINRA is not abolished, it could be subject to significant deregulatory reform.

 

Pending Regulations

The SEC has been modernizing the regulatory framework, and this should continue. It will be interesting to see if the SEC continues to be more prescriptive rather than principles-based under a new SEC Chair. The best guess favors the latter, with the SEC going back to more principles-based regulation. The pace of SEC rulemaking in 2022-2023 was orders of magnitude faster than we have ever seen before. When Trump entered the presidential race in 2024, that pace slowed dramatically, and in 2025, it may reverse with deregulation.

It is important to note that executive authority does not extend to regulations that have been finalized; however, the SEC could rescind finalized rules under the Administrative Procedures Act.

A reverse chronological summary of some significant pending rule proposals over the past three years follows. To add some objectivity, it will be noted if either or both Republican Commissioners wrote dissenting statements. It is reasonable to assume any proposal passed along party lines is unlikely to be finalized.

• May 13, 2024: Customer Identification Programs for Registered Investment Advisers and Exempt Reporting Advisers. Commissioner Pierce supported the proposal but did not comment. Commissioner Uyeda wrote a dissenting statement. Given the AML rule for Investment Advisers was finalized on September 4, 2024, it is reasonable to assume this rule will also be finalized. Note: the Corporate Transparency Act of 2021 overrode the FinCEN Customer Due Diligence (“CDD”) Rule and mandated the CDD rule be amended by December 31, 2024. Expect a proposed CDD Rule for broker-dealers and likely advisers as well.
• July 26, 2023: Conflicts of Interest Associated with the Use of Predictive Data Analytics by Broker-Dealers and Investment Advisers. Both Commissioners Pierce and Uyeda wrote dissenting statements. Given the Trump administration’s disposition in favor of technology and deregulation, this proposal is unlikely to be finalized.
• March 15, 2023: Cybersecurity Risk Management Rule for Broker-Dealers, Clearing Agencies, Major Security-Based Swap Participants, the Municipal Securities Rulemaking Board, National Securities Associations, National Securities Exchanges, Security-Based Swap Data Repositories, Security-Based Swap Dealers, and Transfer Agents. Both Commissioners Pierce and Uyeda wrote dissenting statements; however, both acknowledged the importance of cybersecurity but opposed the proposal’s particulars. Most people would agree that a rule governing cybersecurity is needed, but this iteration will likely be reworked and reproposed.
• February 15, 2023: Safeguarding Advisory Client Assets. Both Commissioners Pierce and Uyeda wrote dissenting statements. It seems unlikely this proposal will be finalized.
• December 14, 2022: Regulation Best Execution. Both Commissioners Pierce and Uyeda wrote dissenting statements. It seems unlikely that this proposal will be finalized.
• December 14, 2022: Order Competition Rule. Both Commissioners Pierce and Uyeda wrote dissenting statements. It seems unlikely that this proposal will be finalized.
• December 14, 2022: Regulation NMS: Minimum Pricing Increments, Access Fees, and Transparency of Better Priced Orders. Interestingly, there was a split, with Commissioner Pierce dissenting, but Commissioner Uyeda supported the proposal. Toss up.
• December 14, 2022: Disclosure of Order Execution Information. Same as above, Pierce dissented, but Uyeda supported—another toss-up.
• October 26, 2022: Outsourcing by Investment Advisers. Both Commissioners Pierce and Uyeda wrote dissenting statements. It seems unlikely that this proposal will be finalized especially since there are requirements in the amended Reg S-P for oversight of service providers.
• May 25, 2022: Enhanced Disclosures by Certain Investment Advisers and Investment Companies About Environmental, Social, and Governance Investment Practices. Commissioner Pierce wrote a dissenting statement, and at the time, she was the only Republican Commissioner. Mark Uyeda was sworn in on June 30, 2022, replacing Elad Roisman, who resigned on January 31, 2022. Of all the proposed rules, this one is the most likely not to be finalized.
• May 25, 2022: Investment Company Names. Commissioner Pierce wrote a dissenting statement and was the only Republican Commissioner then. This proposal seems unlikely to be finalized.
• February 9, 2022: Cybersecurity Risk Management for Investment Advisers, Registered Investment Companies, and Business Development Companies. Commissioner Pierce wrote a dissenting statement, and was the only Republican Commissioner then. She acknowledged the importance of cybersecurity but disagreed with the substance of the proposal. It is likely this will be reworked and reproposed.

 

Future Rulemaking

Under the first Trump administration, the SEC enacted the 204(6)-1 Marketing Rule for advisers and Reg B-I for broker-dealers, so no one should expect rulemaking under a second Trump administration to halt.

 

Crypto Assets

Trump has openly stated that he wants the U.S. to be the “crypto capital of the world.” Expect rapid expansion in crypto assets; however, issues such as fraud will likely exist without a comprehensive regulatory framework.

In May 2024, the U.S. House of Representatives, passed the “Financial Innovation and Technology for the 21^st Century Act” with bipartisan support. The bill lays out a regulatory framework for crypto assets and mandates joint responsibility to the CFTC and SEC to develop rules. Gensler was an outspoken critic of crypto assets and put up as many regulatory hurdles as possible. Atkins is clearly pro-crypto so this will change; we should see many more crypto-related ETFs in 2025 and possibly a regulatory framework.

 

SEC Enforcement

Expect major changes. On October 2, 2024, Gurbir Grewal announced he will leave the SEC as the Director of the Division of Enforcement after 21 years with the SEC. This means the new SEC Chair will appoint a new Director of Enforcement.

Commissioners Pierce and Uyeda wrote many dissenting statements on SEC enforcement actions, including off-channel communications. Although off-channel communications is the biggest enforcement issue for the past year, it is noteworthy that off-channel communications was not mentioned in the recent Division of Examinations 2025 Examinations Priorities Letter, issued on October 21, 2024. The author’s firm recently underwent an SEC examination and off-channel communications was not an examination issue. One could surmise off-channel communications is a Division of Enforcement priority but not a Division of Examinations priority.

Two U.S. Supereme Court rulings will also shape the contours of future enforcement. In Loper Bright Enterprises et al v. Raimondo, Secretary of Commerce, et al. the long-standing Chevron Doctrine was overturned. In 1984 the Chevron case gave government agencies deference in interpreting laws. Now that government agencies such as the SEC will no longer be afforded deference it will be more challenging to enforce novel theories under the law.

The second significant case is Securities and Exchange Commission v. Jarkesy et al. In the Jarkesy case the Supreme Court ruled that enforcement cases must be brought in federal court and can no longer be adjudicated by the SEC’s Administrative Law Judges. The courts have clearly ushered in a more stringent environment for SEC enforcement and combined with a Republican majority on the Commission it is reasonable to expect less aggressive enforcement by the SEC.

 

Compliance Implications

1. Delay planning and implementing policies and procedures to comply with pending regulations.
2. Take advantage of the respite in proposed regulations to focus on your current compliance program.
   1. Get back to basics such as supervision, testing, and surveillance.
   2. Do a risk analysis to define and address your compliance priorities.

 

(Craig Watanabe is the Director of IA Compliance at Diversify Advisory Services, LLC. He may be reached at cwatanabe@diversify.com)