The National Securities Markets Improvement Act (NSMIA) was introduced in 1996 to more efficiently allocate capital in financial markets. NSMIA amended the previously passed Investment Company Act of 1940 to promote the more efficient management of mutual funds, protect investors, and provide more effective regulation.
NSMIA was passed to improve decades of inefficient federal and state regulation. Before NSMIA, the Federal Securities Act allowed for concurrent state regulation under blue sky laws.
The original intention of blue sky laws was to protect investors from fraud. Distribution of securities required disclosure and qualification under the state securities acts.
Investment advisors can be exempt from SEC registration due to size, and they are supervised by state regulators. On the contrary, broker-dealers were subject to state and federal regulations concurrently.
NSMIA caused a material impact on the responsibilities of federal and state regulators. Ultimately, it reduced the overlap between federal and state power. State security laws no longer oversaw the following topics:
4. Custody requirements
In mutual funds, banks pool together investor money to invest in financial instruments. In 1970, the U.S. Congress first addressed the growing prominence of mutual funds when they first amended the Investment Company Act of 1940.
Between 1970 and 1996, the total mutual funds’ asset value rose from $48 billion to $3.2 trillion. The remarkable growth led to mutual funds being offered by traditional asset managers, commercial banks, life insurance companies, investment banks, etc. During the period, mutual funds evolved in terms of differentiated offerings and instruments included.
Specific changes in the law needed to be made to improve the regulations surrounding mutual funds and investment advisors. The U.S. Congress decided that state governments should not have concurrent jurisdiction with the federal government to regulate investment advisors and companies. It resulted in the Securities and Exchange Commission (SEC) regulating mutual funds and investment advisors.
The four categories of securities that are exempt from state regulation include:
Nationally traded securities are traded on the NYSE, AMEX, and the NASDAQ. The federal government can control the supply and demand of the market through fiscal policy to improve the competition. Case law dictates it as the market-place-exemption.
Investment companies are primarily involved in investing, reinvesting, or trading securities. The three types of investment companies are closed-end funds, mutual funds, and unit investment trusts.
Mutual funds became federally regulated to increase competitive behavior. Increasing competitive behavior was accomplished by reducing the barriers of entry to the market for buyers and sellers of equity and debt.
Qualified purchasers are sophisticated investors who can protect themselves in a manner that renders state regulation unnecessary. The qualified purchasers must be consistent with the public interest and the protection of investors.
NSMIA allowed for more qualified purchasers, leading to an influx of hedge funds, pension funds, and university endowments.
Securities can be exempt in special offerings. When securities are offered by an entity that is not an issuer, underwriter, or dealer, they can be exempt. When securities are offered pursuant to the brokers’ exemption, brokers cannot solicit, or arrange to solicit, the customers’ orders.
However, the broker may inquire of other brokers or dealers who previously indicated an interest in the previous 60 days. The broker may also inquire of their customers who have had an unsolicited interest in the last ten days, and the broker may post a bid price and ask quotations.
CFI is the official provider of the Capital Markets & Securities Analyst (CMSA®) certification program, designed to transform anyone into a world-class financial analyst.
To keep learning and developing your knowledge of financial analysis, we highly recommend the additional resources below:
From equities, fixed income to derivatives, the CMSA certification bridges the gap from where you are now to where you want to be — a world-class capital markets analyst.
