CEI Comments on SEC Proposed Rules to Restrict Investor Access to Certain Funds

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Dear Ms. Countryman:

On behalf of the Competitive Enterprise Institute (CEI), we respectfully submit these comments in response to the Securities and Exchange Commission’s (SEC) notice of proposed rulemaking concerning the use of derivatives by registered investment companies and business development companies.1 CEI is a nonprofit public interest organization dedicated to the principles of limited constitutional government and free enterprise. One of CEI’s major projects is reducing regulatory barriers that affect access to capital and investor choice.2 CEI has pursued this objective through policy analysis, Congressional testimony, and litigation.3

CEI had previously filed comments on the first proposal of rule 18f-4–under the Investment Company Act of 1940—in 2016, expressing our belief that it reduced investor choice and exceeded the SEC’s Congressional grant of authority to oversee the securities market.4 After reviewing critical comments from CEI and many others, the SEC wisely shelved that proposed rule. Unfortunately, this renewed proposal of rule 18f-4 suffers from the same defects, as do the new proposals of rule 15l-2—under the Securities Exchange Act of 1934—and rule 211(h)-1—under the Investment Advisers Act of 1940.

Together, these proposals—without any new grant of authority from Congress— would transform the SEC from a disclosure-based regulatory agency to one that conducts paternalistic merit reviews for a large section of the securities market. We urge the SEC to withdraw these proposed rules.

1.The proposed rules exceed the SEC’s authority from Congress and veer into merit-based regulation

Since Congress wrote the first federal securities laws more than 80 years ago, federal regulation of securities has been disclosure-based, rather than the merit-based approach that is the practice of some state securities regulators. In 1980, for instance, Massachusetts banned its residents from investing in the initial public offering of Apple Computer, because state regulators deemed it “too risky” for individual investors. The state deemed it a “highflyer” that lacked “solid earnings foundations” because of its relatively high price-earnings ratio. Needless to say, this misguided attempt at “investor protection” prevented Massachusetts residents from participating in what literally became the investment opportunity of a lifetime.5

Debacles like the Apple ban prompted Congress to preempt states from banning stocks traded on U.S. exchanges via the National Securities Markets Improvement Act of 1996. This and other laws display Congress’ intent for the SEC to adhere to its historic role of policing disclosures of investment risks while letting investors decide the merits of the securities they purchase.

Indeed, the SEC’s own website states this as its mission. A section of the site entitled “The Laws that Govern the Securities Industry” states that the SEC strives to ensure accurate disclosure of information to enable “investors, not the government, to make informed judgments about whether to purchase a company’s securities.” Specifically, in its description of the Investment Company Act of 1940, the law on which proposed rule 18f-4 is based, the SEC states that “it is important to remember that the Act does not permit the SEC to directly supervise the investment decisions or activities of these companies or judge the merits of their investments.”6

Read the full comments here.