Soft Dollars Defined

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One of the hottest topics in equity research today is the issue of “soft dollars”.  The views on soft dollars range from the general press perception that soft dollars are inherently evil and somehow criminal, to the independent research communities’ view that soft dollars are the “life blood” of research and therefore of paramount value.  We hope to promote a professional discussion about “soft dollars” in an effort to develop an intelligent and well considered view on this topic.

The first step in discussing “soft dollars” is to understand exactly what “soft dollars” are.  According to the SEC, “soft dollars” are seen as the following:

“…arrangements under which products or services other than execution of securities transactions are obtained by an adviser from or through a broker-dealer in exchange for the direction by the adviser of client brokerage transactions to the broker-dealer.”

In other words, soft dollars are any commissions in excess of the cost associated with executing an equity trade.  For example, if it costs $.02 per share to execute a trade, and the overall brokerage commission is $.05 per share, then $.03 per share is defined as the amount of “soft dollar” commissions generated by this trade.

Under the “safe harbor” provision Section 28(e) of the Securities Acts Amendments of 1975, Congress approved the use of these soft dollar commissions to pay for “research services” (a term that includes a wide range of actual products and services), including research from BOTH broker-dealers AND independent third-party research providers.

Comment by Ricardo Bekin:

Hi Mike, thanks for putting together this blog, great idea! Regarding soft dollars, Howard Schilit testified 2 weeks ago before the Senate Banking Committee, it’s great stuff: http://banking.senate.gov/_files/schilit.pdf. There’s also testimony from Joseph Velli from the Bank of New York: http://www.senate.gov/~banking/_files/velli.pdf.

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