Executive Summary
Many readers of this blog contact me directly with questions and comments. While often the responses are very specific to a particular circumstance, occasionally the subject matter is general enough that it might be of interest to others as well. Accordingly, I will occasionally post a new "MailBag" article, presenting the question or comment (on a strictly anonymous basis!) and my response, in the hopes that the discussion may be useful food for thought.
In this week's MailBag, we look at a recent inquiry regarding the proposed changes to the fiduciary standard, and whether the implementation of a uniform fiduciary standard that applies equally to all types of advisors could help or hurt investment advisers and the public.
Implications Of A Uniform Fiduciary Standard For Investment Advisers And Brokers
Question/Comment: I'm trying to better understand the implications for IA's if they were to be held to "a" fiduciary standard. Is the primary issue that they would be burdened by additional costs to comply? If all advisors are held to the same standard, does that somehow hurt the IA? When do we anticipate that all of this will be resolved?
The distinction of having all financial advisors subject to a fiduciary standard is that many of the current sales practices that occur would no longer be permissible. It wouldn’t be enough to sell someone a product just because it was suitable – or really, because it was NOT UNsuitable. Instead, the products implemented by financial advisors of all types would have to pass muster as genuinely being in the client’s best interests.
One of the primary criticisms of this change is that a higher standard would introduce a greater risk of liability, and that this indirect cost would be passed on to consumers, resulting in higher prices for financial services products and less access to financial advisors (as large segments of the public may no longer be able to afford the fiduciary-liability-laden costs).
On the other hand, there is a counter argument to be made that a uniform fiduciary standard could actually result in lower costs to consumers as well. After all, the reality is that right now, lawsuits and legal incidents for RIAs (currently subject to a fiduciary standard) are rather few and far between, and when they do occur most commonly involve outright fraud (which is entirely illegal regardless of the standard for advice). The volume of lawsuits already appears to be much higher for brokers subject to the suitability standard, in part because a lower standard invites more blatant abuse to push the line; a great deal of “questionable” transactions that result in lawsuits (or at least arbitration panels) and potential liability (or at least settlements) all occur in a wide swath of grey area that simply would not be an issue with a fiduciary standard (because it all clearly fails to meet the higher standard).
Another criticism of the standard is that many business models of current “advisors” simply would not be viable in the environment of a fiduciary standard, which means the ranks of advisors could also be cut down significantly, which may further reduce access for consumers. On the other hand, it’s notable that the kind of uniform fiduciary standard being discussed now, pursuant to Section 913 of Dodd-Frank, must be one that allows both fees and commissions, which means this is less about business models and more about unscrupulous sales. Which means the loss in the number of advisors might just end out being the ones who really weren’t that interested in providing real advice, anyway, but just wanted to push the limits as far as possible to sell questionable products and try to legitimize a less-than-optimal product sale under the suitability’s “caveat emptor”-like standard. And if there is a shortage of advisors after the worst ones are driven out, there’s plenty of opportunity for them to be replaced by people subject to a higher standard who will do a far better job.
In point of fact, we may have some clarity soon on these questions of whether a broader fiduciary standard reduces consumer access to advisors, reduces the number of advisors, and raises or lowers the cost of advice given a higher standard for liability. Similar transitions to a fiduciary standard are currently being implemented in the UK (effective at the start of 2013), and later this year in Australia, which as discussed previously on this blog may become a template for US reform. While each country’s rules and dynamics are somewhat different, there is nonetheless an opportunity to watch how these kinds of fiduciary standard transitions play out in a real world marketplace.
Regarding whether a uniform fiduciary standard could hurt investment advisers, I do think it’s worth noting that yes, as I’ve written in the past, current investment advisers do stand to be “hurt” to some extent with a uniform fiduciary standard, for the simple reason that it would eliminate their fiduciary status as being a differentiator from many of their current competitors. On the other hand, the reality is that as consumer education on these issues rise, fiduciary advisors are increasingly in competition with other fiduciary advisors already (because consumers seek them out), so it’s not entirely clear how direct the impact would be. On the other hand, if all advisors are subject to a fiduciary standard and really act in the interest of their clients, the potential to lift trust in financial advisors in the aggregate means there may be a whole lot more business available to everyone when consumers aren’t given quite so many reasons to be distrustful in the first place!
As for the last part of your question... implementation of a fiduciary rule, or not, is on the table now, with separate rulemaking processes underway from both the Department of Labor and the SEC. As I wrote a few weeks ago, I actually expect the ongoing fiduciary debate to be one of the primary issues of 2013!
Michael,
thanks for the commentary. Business models aside, what would be the implications of fiduciary care for captive/semi-captive BD’s (often part of an insurance organization) that mostly or exclusively push their proprietary products?