The duty to protect investors is inherently in tension with the desire to maintain a competitive, free marketplace for investment services. Case in point: a well-intentioned effort by the U.S. Department of Labor (DOL) to impose a higher level of responsibility on providers of investment advice was struck down in court for having exceeded the agency's authority. But the need to address the problem of conflicted advice to investors remains.
After years of inaction, the Securities and Exchange Commission is finally taking up the challenge. But rather than a complex and heavy-handed regime of transactional regulation, the SEC appears to be considering a more sensible approach. The commission is assessing a proposal from the CFA Institute aimed at reducing confusion over titles in the financial services industry, providing more transparency to investors, and stipulating more clearly the degree of fidelity owed to clients.
Christopher A. HopkinsThe CFA Institute is the premier organization dedicated to professionalism and ethics in the financial services industry. In addition to running a gauntlet of rigorous examinations over three years, CFA charterholders must adhere to a strict code of ethics that requires that the interest of investors be placed ahead of their own financial benefit. This is in keeping with the requirements of the Investment Advisers Act of 1940, which specifically imposes a fiduciary duty upon registered advisers to put their clients' interest first.
Other financial providers, including brokers and agents, are held to a less-stringent standard of "suitability." So long as a financial product or transaction is broadly suitable, the seller is allowed to recommend the option generating the greatest profit or commission. One commonly cited example is the sale of variable or indexed annuities, particularly in retirement accounts. Those products are complex, expensive, highly profitable to the seller, and in IRAs, seldom in the client's best interest.
The DOL rule essentially banned sales of those products in retirement accounts unless the client signed a complicated release form. The CFA proposal under consideration at the SEC takes a more market-based approach. Let clients choose from the array of financial advice and products, but provide them with complete and accurate information about the degree of fidelity owed.
The starting place is in the titles adopted by various financial providers.
The Advisers Act of 1940 created a definition of "investment advisers" and imposed upon them a legal obligation to always place their clients' interest ahead of their own. However, brokers and sales agents have adopted variants of the "adviser" title, often calling themselves "financial advisors" (with an "o"), wealth advisors, financial consultants and the like. In general, these titles obscure the fact that they are not held to a fiduciary standard, but to the looser suitability rules. This Balkanization of the adviser title has produced confusion among investors and weakened the protections afforded by the 1940 act.
Enter the SEC. Under newly-confirmed chairman Michael Clayton, the agency has placed the issue of fiduciary duty near the top of the to-do list. Evidence suggests the commission is considering the CFA Institute proposal to realign titles with level of care owed to clients. Registered Investment Advisers (or advisors) could only use the adviser title if they adhered to a strict fiduciary duty. Meanwhile, non-fiduciaries like broker dealers and agents would be required to clearly disclose their lesser obligation to their clients. Then, let investors decide how they wish to procure advice and investment products with full knowledge of who is on which side of the table.
It has been a long time coming, but 2018 looks like the year in which this long-standing issue is sensibly addressed.
Christopher A. Hopkins, CFA, is a vice president and portfolio manager for Barnett & Co. in Chattanooga.