Ohio Division of Securities VS Pontera?
The future is unclear for “held-away” assets and Ohio Advisers
I am writing this blog under my ERISA Nerd “pen name”.
However, in full disclosure, it should be noted that I am also the owner and co-founder of PlanConfidence Corporation. Plan Confidence is an SEC Registered “Internet-Only” RIA that has co-advisory agreements with many RIA firms to provide the research, advice, delivery and documentation on “held-away” accounts. And for the ERISA covered accounts, we guarantee ERISA compliance when working with these “special” assets. We currently use, and many of our co-advisers use Pontera and Future Capital to place trades on “held-away” accounts using our proprietary “Trade Files”.
I state all this as I am going to try and write this as fair and balanced as I can, but I think you should know my bias as I write this so you can make your own informed conclusions.
Earlier last week, I had a few advisers registered in the state of Ohio forward me an “Investment Adviser Alert” put out by the Ohio Division of Securities (which I will refer to in the rest of this article as the “Division”).
You can read the complete alert by CLICKING HERE.
It appears that Ohio is joining states like Washington and Missouri (and possibly soon Oregon) to classify use of Pontera to trade “held-away” accounts as an “unethical” business practice.
I am going to go through a few of the sections in the notice line by line and give my “two cents worth” from an adviser’s perspective.
IMPORTANT DISCLOSURE: I am not a lawyer. (I was going to be one, studied all of college to become one, took the LSATs, got accepted to 2 out of the 3 law schools I applied to, and at the last minute decided to go into the financial world after college and not the legal world). So, nothing in this blog should be construed as “legal advice” or a “legal interpretation. It’s just the interpretation of someone who has been licensed since 1997 and has been an ERISA Nerd since 2008.
That being said, here is my overall interpretation before I go into specifics:
· The Division never mentions Pontera by name. So, I am only assuming when they reference “one of the unregistered third-party platforms” they are talking about Pontera (as Future Capital is registered with the SEC).
· The Division never explicitly states that it is prohibiting any adviser from using the platform, but it is definitely implied!
· The last paragraph is encouraging as it states the Division is open to learning more about Pontera and is currently engaged in doing so.
One of the biggest concerns I see is that the Division does not like that Pontera is “unregistered”.
After going through the talking points that Fidelity laid out last September (SEE September 2024 blog Fidelity V Pontera) the Division then states:
“As an unregistered entity, there is no financial regulator reviewing the platform’s policies, procedures, or practices for compliance with federal and state data privacy, cybersecurity, or safeguarding laws.”
This is true.
Pontera is not registered, so they do not have (to my knowledge) any “financial regulator” that is overseeing them.
However, Pontera does have a “Commitment to Client Protection” on their website where they spell out all of the rigorous steps they are doing to ensure data protection. So, it’s not that their data protection measures are not under scrutiny, they are just not under any “financial regulator’s” scrutiny. Which means we are relying on Pontera to “self-correct” any issues that may be found versus being mandated by a regulator.
The easy solution to this would be if Pontera registered with the SEC.
However, the increased regulation and fees would probably drive up the costs as Pontera gets bigger. That is the opposite effect of what you would want a “tech” company to do. Costs should become lower with more adoption and not more expensive. So, I would not hold my breath in waiting for Pontera to register unless they are compelled to do so.
And even if they did register with SEC, I don’t think that would solve the issue for Ohio advisers, as the Division states in their notice:
“In Ohio, it is a breach of the investment adviser’s fiduciary duty to access a client's account by using the client's own unique identifying information, such as username and password . See Ohio Administrative Code 1301:6-3-44(E)(1)(f)(vii).”
One could argue here that an OH adviser would not be violating this provision with Pontera as “technically” the adviser only has access to Pontera’s dashboard. They do not have access to the client’s account. However, it’s the next sentence that is problematic for OH advisers.
The code also prohibits an investment adviser from “indirectly, or through or by any other person do[ing] any act or thing which it would be unlawful for such person to do directly under the provisions of Chapter 1707.”
It’s the “by any other person” in this sentence that is problematic. Technically, Pontera does have access through their technology to the client’s account. So, as I read this, even if Pontera was registered with the SEC, it wouldn’t matter, as the law would need to change the language about accessing a user’s account via their User Name and Password.
This would also call into question the use of Data Aggregating software, as that uses the clients User Name and Password for performance reporting. My guess is that the Division is going to turn a “blind eye” to that technology, since the adviser does not have access to affect any changes to a client’s account, even though (technically) the aggregator does. That appears to be what Washington and Missouri are doing as well.
The section on “Inadvertent Custody” is a little confusing to me.
It spends a lot of time discussing the adviser having custody if they can deduct their fees from the customer’s account. Through Pontera, the adviser only has access to the Pontera dashboard. This allows them to view the client’s current holdings, all available investment options and change the Future Contributions and Rebalance accounts. There is no section for an adviser to deduct any fees from the client’s account (although advisers would love it if they could)!
So, the Division seems a little off base as using this reasoning for denying their advisers use. Unless they a referring to another “unregistered third party platform” that I have never heard of that has the ability to deduct fees. Again, I am going on the assumption that phrase refers to Pontera, but I could be wrong!
“In addition, it appears that at least one third-party platform might add the investment adviser or investment adviser representative as a supplemental or authorized user on the customer’s custodial account to navigate account authentication procedures during log-in.”
I am not sure which platform they are referring to here?
It appears to me that they are specifically not talking about Pontera, as the Division doesn’t use the term “unregistered third party”. In this case, I would love to know which platform they are referring to as I would love to review it. The only other platform that I know that has similar functionality to Pontera is Future Capital. They are an SEC registered investment adviser (RIA), but I don’t think they add the adviser as a “supplemental user”.
However, I could be wrong about that.
So, if anyone has any ideas on which firm they are referring to, please let me know in the comments section.
“The Division questions whether it is reasonable for an investment adviser to charge an AUM fee for “managing” an account that is held away where the adviser has no authority or control over the securities that are available in the plan and where the account is automatically rebalanced by the custodian based on the customer’s stated risk tolerance and investment strategy. Advisers should consider the adverse impact that an annual AUM fee has in eroding returns on held away assets to ensure the advisers, as fiduciaries, are acting in the best interests of their customers.”
This is the most concerning statement that I read from the Division!
One that would really upset me if I was an OH adviser!
Here it makes it seem like all an adviser is capable of is automatically rebalancing the account which could be easily handled by the custodian. And if that is true, the physical act of rebalancing the account could be easily handled by the custodian. This assumes the Division believes that a 401(k) investor should choose an asset allocation and then never, ever deviate from it for the rest of their life.
If the Division really believes that an adviser managing an account is not worth the fees paid, then shouldn’t they apply that same logic to all qualified and non-qualified accounts alike? Shouldn’t the division only allow the OH registered advisers the ability to set an asset allocation one-time and then have the custodian periodically rebalance the account?
If I were an Ohio registered adviser, I would be steaming mad that the Division doesn’t value an adviser can provide to a retail client. I would be flooding their office with the various studies showing from Russell Investments, Smart-Asset, Vanguard, Kitces.com, etc showing how much extra alpha an adviser can provide their clients.
The Division does not account for advisers that run tactical allocations or ones that may shift from Growth to Value or vice versa. It does not account for the actual “advice” that an adviser is providing their clients, which can easily be overlaid the “held-away” accounts as well (in fact, that is exactly what our software does)!
And, in my professional opinion, the Division completely miss the point with the last sentence about an annual fee eroding the return on held-away accounts.
The fees advisers bill clients when using Pontera are taken out of a different account or paid via credit/debit card. Technically, there would not be any erosion of returns, since the fee is not taken from the account like a brokerage account or IRA. So, their “held-away” accounts could perform better than the accounts managed by the adviser since the fees are not being taken from the account.
And the Division is correct that, “the adviser has no authority or control over the securities that are available in the plan”. Because of this, it is actually harder for an adviser to compliantly work with “held-away” accounts.
Every single plan is different as the employer chooses the investment options for their employees to use.
Many of those employees have financial advisers who they rely on for help in providing holistic advice. This means that an adviser needs to get the complete fund lineup for each one of their clients. They then need to review all the options, overlay their asset allocation models as closely as they can given the investment options the employer chose, put that advice in writing (store it for six years), and then either:
a) Deliver it to their client so their client can login and place the trades
b) Trade the account for their client
And the adviser needs to repeat this process over and over again for each client they have!
There is no “block trading and rebalancing” tools or mass execution of trades for “held away” accounts. (At least not yet, we are working on this very problem at PlanConfidence right now).
So, I strongly and respectfully disagree with the Division on their point that an adviser may not be in compliance by charging an AUM fee on held-away accounts because it is much harder and time consuming to work with held-away accounts.
“The Division is engaging with one unregistered third-party digital platform to learn more about its services and ascertain its compliance with Ohio securities licensing laws and other regulations.”
This to me, this is one of the most encouraging statements of the notice.
To me, it says that the Division is actively engaged with Pontera to learn more about their services and how they help advisers. Whether the Division ever comes around to the viewpoint that clients do need help with their “held away” assets and Pontera allows OH advisers to do this compliantly is another issue.
As Ohio Administrative Code 1301:6-3-44(E)(1)(f)(vii) would need to be re-written as it currently prohibits use of a User Name/Password.
I am not sure if the code can be amended by the Division itself or if that would take an act from the OH legislature?
Maybe someone who does know can inform me in the comments.
Until then, SEC Registered advisers are going to have an unfair advantage over state registered advisers in Ohio, as SEC advisers are able to use Pontera for their “held-away” accounts.