fi360 Blog

Fiduciary Links: can a principles-based fiduciary standard work?

We posted a few weeks ago that the fiduciary debate had moved beyond if a fiduciary standard would be enacted and on to what the standard would look like.  The Wall Street Journal reported on this very subject over the weekend, giving a very thorough overview, including the debate over a principles or rules based standard, and an excellent graphic on some of the differences between the standards.

The article predictably leads to some intense discussion in the comments section, with adament positions taken from individuals in both camps in regards to how strict the standard should be. One observation I have made from reading various comments sections such as this one is that those opposed to adopting the existing fiduciary standard for Investment Advisers seem to believe their isn't enough law to enforce such a principles-based standard, but that simply isn't true. As Fred Reish discussed for the media at our conference this year, ERISA has a principles-based fiduciary standard that has proven itself in enforcement over the past 35+ years. And of course the biggest advantage of a principles-based standard is that the best interests of the investor are the end-goal, rather than rules compliance.

Our next webinar is taking place this Thursday, from 4-5 p.m. EDT and we'll be touching on this subject again as we discuss the suitability and fiduciary standards, where consensus seems to have been reached in reform, what issues remain, and what brokers and advisors can do now to be prepared, no matter what the outcome looks like.

Now on to the rest of last week's best fiduciary links:

In the news/commentary:

• Focusing on retirement goals rather than portfolio performance increasing in popularity for investment advice [BusinessWeek]
• 404(c) safe harbor protects trustee in breach of fiduciary duty lawsuit [PLANADVISER]
• Is the "DB(k)" the retirement plan of the future? [Kiplinger]
• Fees are a drain on 401(k)s [USA Today]

From the organizations/associations/government/academia:

• Vanguard's annual "How America Saves" report finds that automatic enrollment is up, Target-Date Fund use is up, participation rate is highest in plans with automatic enrollment, and more [Report from Vanguard; coverage from InvestmentNews]
• Audit CAP resolution, DOL disclosure settlement, s. 6707A penalties and more [Reish & Reicher ERISA Audit Report]
• Fidelity sees account balances, participant and employer contributions grow for first time in four quarters [Fidelity]

From the blogs:

• Real financial planning is personal [Behavior Gap]
• Financial-Planning Coalition fails to resonate due to lack of understanding of who is a financial planner [Clark at Large]

Tweet of the week:

• "Most days, I don't look at the stock market . I think this makes me a better financial advisor. What do you think?" -@RussThornton 

For more of the best links during the week, make sure you follow us on Twitter.

Four questions to ask of your retirement plan

The confluence of the arrival of the "Boomer" generation to retirement, the increase in litigation regarding the management of employer retirement plans, and heightened consumer skepticism of the role of advisors has resulted in an environment in which employers need to take greater control of the retirement plans they are making available to their employees.

In the latest fi360 Article Competition entry, AIF designee John Sullivan of World Equity Group presents four major questions plan sponsors need to ask of themselves and the plan they are offering in order to limit their own liability and provide a retirement vehicle that truly works for the participants:

1. Is there a process in place to manage the plan that is written, current, properly executed, and consistent with the “Prudent Man” rule? In other words, is the retirement plan managed as well as your business and with the same care?
2. Are the plan assets used solely for the benefit of the participants and their beneficiaries?
3. Are the investment choices prudent?
4. Does the plan provide retirement income security for our employees?

With what is at stake both for the employer and employee in regards to a company retirement plan, why wouldn't you treat it with the same careful consideration and prudent execution that you do your business?

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The winner of the article competition receives a $1,000 prize at our 2010 National Conference. For more information on the fi360 article competition and to download other entries, visit the article competition home page. 

If you have any feedback on the article, submit it to resources@fi360.com or in the comments section below.

Early Fiduciary Counter-Arguments Miss the Mark

Last week, while taking a shot at New York prosecutors suing his company for allegedly misleading investors on the safety of auction rate securities, Charles Schwab also took the opportunity to criticize proposed regulatory reform.  Schwab argued that regulatory proposals seek to limit individual investor risk through the adoption of consumer protections and fiduciary liability for brokers to the point of virtually eliminating investor choice.  However, Schwab's claim misses the mark completely in terms of fully appreciating the debate on fiduciary issues.  

In fact, the discount brokerage model that Schwab seeks to defend is not even really at issue.  Rather than trying to eliminate traditional and discount brokerage functions, proponents of the fiduciary standard would rather see a clearer demarcation develop once again between advisory and brokerage services.  In seeking this demarcation, fiduciary advocates aim to protect those investors who receive investment advice and assume that their interests are being placed first.  To this end, regulatory reform is not about removing investor choice as Schwab argues, but rather ensuring that investor choices are clearer and that investors are aware of the risks they are assuming, whether they choose to get professional advice or venture out into the market on their own. 

As views like these from the other side of the fiduciary debate emerge, it's important not to lose sight of the ultimate goals of strengthening investor protection and restoring integrity in the financial and investment industry. It's also important not to forget what it means to be a fiduciary and its signficance to the investor.  However, there are many in the industry that would like to draw attention away from this focus. 

In a recent interview, Allan Hancock, a former President of the National Association of Insurance and Financial Advisors, argued that the fiduciary standard being driven by the financial planning community is not needed in the insurance industry and will ultimately harm consumers because it is focused more on paperwork, compliance, and turf wars in Washington.  When asked if any of his customers have asked about the fiduciary standard, Hancock stated, "Not at all. ... They don't buy based on comparison. They buy if they trust you, if you have credibility, if you have a reputation, and you care about them."  Last time I checked, what Hancock describes as his customers' main concerns are the very essence of the fiduciary standard - trust, loyalty, and due care.  So not only does Hancock's fiduciary counter-argument miss the mark, but it appears to further the discussion in favor of fiduciary values.

Hancock also tries to cloud the issue by asserting that clients and customers don't care about the word "fiduciary."  Hancock may be right that clients don't know or understand this word.  Indeed, most individuals I encounter outside of my professional circle don't even know how to pronounce or spell it.  That doesn't mean, however, that they don't care about what it means and how it affects their financial and investment decisions.  Clients who are entrusting financial professionals with their life savings, children's educations, retirement, and overall financial security have a right to expect a high level of care from those professionals.  And, as found in the oft-cited Rand Report, clients already generally assume that their financial advice is in their best interest. Adopting the fiduciary standard would guarantee that high level of care and validate clients’ assumptions.

With August coming to a close, the frenzy of activity in Washington aimed at moving financial regulatory reform forward is poised to pick back up where it left off at the end of July.  However, as the comments of Schwab and Hancock illustrate, the debate over those reforms, and especially the application of a fiduciary standard to all investment advice givers, is far from over and in many respects is just about to begin.  While it might be easy to dismiss the early remarks of Schwab and Hancock, the fiduciary movement and investors alike would be better served if we remind ourselves what is really at stake and use it to prepare for the larger debate about to unfold.  

A new era for the fi360 Blog

We are very pleased to welcome a new audience to the fi360 Blog today, as this is our first post as the From the Fiduciary blog of InvestmentNews.

As CEO of fi360, I am excited by the opportunity to share our fiduciary insights with the readers of InvestmentNews and grateful to IN Editor Jim Pavia for suggesting that we contribute to the online resources of his outstanding publication..

When Jim contacted me about blogging for InvestmentNews he explained that he and his staff had observed a strong trend over the past year. With increasing frequency, those writing letters to the editor or posting comments online about articles published in IN addressed fiduciary matters in their remarks, even when the articles were not focused on fiduciary subjects.  Jim observed that fiduciary issues had apparently become the most talked-about subject among IN readers and he decided a blog would provide an ideal vehicle to productively promote these conversations.

This blog is supported by multiple bloggers from fi360 who address the legal, regulatory, and practical aspects of serving in a fiduciary capacity, as well as providing up-to-the-moment news and analysis of developments in the fiduciary space. This includes updates and commentary on the current push for a fiduciary standard of care to be enacted for all investment advice, as well as guidance on prudent investment practices for professionals seeking to better understand and fulfill the duties and responsibilities that come with being in this unique position of trust.

One of the great benefits of a blog is the ability for authors to interact with its audience and members of the audience to interact with each other. We hope you will contribute to the success of this blog by leaving your thoughts in the comments sections to individual posts or by emailing us at blog@fi360.com to let us know what we can do to improve or what subjects or questions you would like to see addressed in future blog posts.

We thank all of our readers who have made this blog such a success over the past year and a half and look forward to the opportunity to interact with an even larger and more diverse audience via InvestmentNews’ readership.

Thank you,

Blaine Aikin
CEO, fi360

Fiduciary Links

With the momentum building for the enactment of a fiduciary standard of care for investment advice, we saw some prominent figures chime in against the merits of such action. Both Charles Schwab [in a Wall Street Journal editorial] and Allan Hancock [via Wealth Channel] questioned last week the idea that a fiduciary standard will be good for the consumer. The New York Times subsequently took Schwab to task for his comments. Stay tune to the fi360 Blog on Wednesday, when we give our thoughts on the push back movement.

In the news/commentary:

• Apparently, an unintended consequence of a change in tax law may be the end of the "independent" broker [InvestmentNews]
• A look at the fiduciary debate from the b/d viewpoint [Registered Rep]
• Does the dollar offer an opportunity for portfolio construction? [Wealth Manager Web]
• Bob Veres finally sees hope for the adoption of a fiduciary standard [Financial Planning]
• Australian regulators seek to enact fiduciary standard of care [Brisbane Times]
• Dilbert takes on financial advice and mutual funds [Dilbert.com]
• Where do target date funds fit in regulatory reform and what are the fiduciary concerns with TDFs? [Financial Planning]
• A case for transparency [Financial Advisor]

From the organizations/associations/government/academia:

• The FPA urged the SEC to restrict FINRA enforcement authority [FPA] Meanwhile, FINRA isn't backing down [InvestmentNews]
• A Calvert report says advisors have a fiduciary duty to consider ESG concerns [Calvert]

From the blogs:

• A look at the media coverage of the upcoming Jones v. Harris Associates, L.P. Supreme Court case on mutual fund fees [Compliance Building]
• Financial clutter may be hazardous to your health [Chicago Financial Planner]

Tweet of the week:

• "A solid investment strategy should be aligned with your overall financial goals, and not focused on beating the market." from @rwohlner

Remember, registration is now open for the free fi360 webinar, "The converging worlds of brokers and advisors as fiduciaries under regulatory reform". For more of the best links during the week, make sure you follow us on Twitter.

How many investment options are too many?

Last week we received a call from an AIF designee who was working with a plan that had over 75 investment options available for participants to choose from. He knew it was too many, but asked for our help in putting together a compelling case as to why too many options is not a good thing and what a reasonable number might be.

In the Prudent Practices handbooks, most of Step 2 instructs on designing an optimal asset allocation strategy based on the portfolio's goals and objectives. And in our classroom program, we include considerations of the “1/n” phenomenon, where investors divide equally among investment options available, as well as participants who will go to the opposite extreme and select a single investment option. These common behaviors illustrate why careful management of the number and type of investments offered in a participant-directed plan are critical plan design considerations.  A particularly helpful slide suggests an order for adding asset classes to a portfolio based on factors such as the size of the portfolio, the investment expertise of the fiduciary, the ability of the fiduciary to properly monitor the number and variety of options considered, and the sensitivity of the fiduciary to investment expenses.

Other than this guidance that the number of investment options should be based on facts and circumstances, we don’t offer any kind of formula or benchmark as to the specific number of options. To try to find more specific information, I turned to research to find how the number of investment options available can affect either investment behavior or portfolio performance.

First, a study from the Journal of Finance found investors tended to choose a small number of funds to invest in, no matter how many were offered, and that they tend to invest roughly equal amounts in each of the funds they select. So, at least in this one study, a large number of options does not correspond in participants taking advantage of them.

So what's the harm in making a large number of options available? The negative effects are most felt in investor behavior. A study from Columbia University found that when the number of investment options went up, enrollment went down, all the way to just 60% participation when the number of investment options approached 60.  (This study and others are cited in an Executive Summary from Vanguard on the subject).

Not only does the number of options affect participation rates, it can also affect how investors make their choice. One study from AllianceBernstein shows that as the number of investment options go up, so does the conservative nature of the funds chosen. The only factor that should be influencing selection should be which options help the beneficiary achieve their end goal.

Another important factor to consider is the number of options within a certain asset class.  In a review of its own state employee retirement system plan, the state of Missouri found that offering too many similar options was contributing to overlap and therefore improper diversification. It also found that by decreasing the number of options available and introducing target-date funds, it would be able to save on management fees and, potentially, administrative costs to the plan.

But perhaps the best case study I found demonstrating an effective and thorough process for selecting asset classes and investment options came from an investment option review by the Federal Thrift Savings Plan. The review found the plan to be comparable to peer plans with 10 available options.  The TSP review also includes great insight into their evaluation of investment options and why the individual asset classes either were or were not included among available options, and why some asset classes had only one option versus multiple options. You may find the 80+ page report excessive to reproduce for your own needs, but it demonstrates the type of thought process and documentation that a plan should be considering when building a prudently built portfolio of fund options that suits the goals and objectives of the end beneficiaries.

Other Resources:

• Plan design is just one of the metrics measured by Fiduciary Benchmarks, Inc., see this sample report.
• TIAA-CREF put together a research summary on plan investment options and investor behavior.
• Fi360 Tools offers an asset allocation optimizer for building diversified portfolios.

Have you had similar experiences where a plan has excessive investment options, seemingly just for the sake of having a lot of options? How did this affect the plan? Were you able to get the plan to revise their offerings to a more reasonable number? Let us know in the comments section below.

If you have a fiduciary question you need answered or would like to see addressed in a future blog post, let us know in the comments section or send an email to blog@fi360.com. 

Upcoming webinar: The converging worlds of brokers and advisors as fiduciaries under regulatory reform

As a practical matter, the worlds of brokers and advisors have intersected for decades. Many brokers provide some level of advice and many advisors incorporate sales concepts from the brokerage arena to improve business results. Moreover, dual registration is commonplace and allows brokers and advisors to be both as circumstances dictate, even if clients don’t understand when the hats change. But, given the high level of investor confusion and dramatically different regulatory structures and business models, the convergence of brokers and advisors in the marketplace has looked more like a collision than a harmonic union.

Join us for a free webinar on Thursday, September 3, 2009, 4-5 p.m. EDT and learn what "harmonization" really means to those on all sides of the debate and why reform does not have to mean homogenization, but a better alignment between the broker/suitability segment of the industry and the advisor/fiduciary segment.
The webinar will feature Blaine Aikin and Kristina Fausti addressing the confusion that has been caused by the interconnection of the worlds of advisors and brokers and how regulatory reform will clear that confusion and result in a greater range and quality of products available to all advisors, "safe harbor" type exemptions to ease the transition for advice-giving brokers, and the introduction of more fiduciary principles to the suitability standard.

To register for the event, click here. Space is limited, but a recording of the event will be made available on our Webinars page after the event.

You can download the presentation slides here. If you would like to submit any questions or topics you want to see addressed in the webinar, let us know in the comments below or send an email to resources@fi360.com.

The process of picking a co-fiduciary

In his August Fiduciary Corner column, Blaine writes about a fiduciary's duty to delegate responsibility to "prudent experts" when their level of training, experience and expertise is not adequate. Fiduciary duty requires that all aspects of managing investments for others are done so to a professional standard of care. When a fiduciary cannot do that his or herself, he or she must delegate that responsibility to a professional who can. And, the fiduciary must also demonstrate a prudent delegation process that resulted in the best professional for the job being selected. Blaine's article explains these duties and the key components for a proper search for investment professionals.

Practices 1.3, 3.1 and 3.4 in our Prudent Practices for Investment Advisors handbook also are about delegation, with 1.3 describing the "prudent expert" rule, 3.1 addressing the selection of investment managers (the handbook also includes suggested due diligence fields) and 3.4 addressing the selection of the custodian and other service providers. The three Practices together give a pretty full picture of the delegation duty. Reading the Legal Memoranda on those Practices gives the full substantiation to those Practices from ERISA, UPIA, UPMIFA, MPERS and other legal sources.

Make sure you read Blaine's full article at InvestmentNews.com and click the "Recommend" button at the top of the page if you like it.  We've already received some feedback via email from those who disagree with and support this idea, and we'd like to hear more and respond to it in hope of advancing the conversation on how to provide an environment more conducive to success for retirement.  Please leave those thoughts in the comments section below. 

Fiduciary Links for the week of 8/10-8/14

Fi360 is at the LPL Focus 09 Conference in San Diego this week. We always learn a lot attending these events and interacting with our members, potential clients, speakers and other exhibitors.  You can see a list of events that fi360 will be participating in on our Events Calendar. We'll also be conducting an AIF Training program for LPL advisors at the event. The AIF designation is required for advisors in LPL's Retirement Plan Consulting Program. So, if you are in San Diego, stop by our booth and say hello and talk to Steve or Mike.  Mike would be glad to give you a demo of our online toolkits and Steve would be glad to talk about how fi360 might help you and your firm implement fiduciary solutions.

Now on to the best links of last week:

In the news:

• Harold Evensky says that Modern Portfolio Theory may not be dead afterall and that the real problem may be the confusion between theory and implementation [Financial Advisor]
• Among other things, a UK study says fiduciary outsourcing will continue to grow [Pensions & Investments], and here is that study [Penrose Financial].
• fi360's own Kristina Fausti looks at how the adoption of the fiduciary standard would affect operations for registered reps [RegisteredRep]
• Fiduciary duties are expanded when directing insolvent companies [Local Tech Wire]
• A practical look at how novice fiduciaries can manage their responsibilities [Employee Benefit News]
• Should the SEC be self-funded? Kate McBride tackles the question [Wealth Manager Web]

From the organizations/associations/government/academia:

• A Boston University law paper argues for the regulation of b/ds according to the existing fiduciary standard [Boston University School of Law]
• A look at Justice Sotomayor's history in ERISA decisions [Reish & Reicher Bulletin]

From the blogs:

• A recent court decision illustrates the need to involve ERISA counsel at critical junctures of the fiduciary process [ERISA Fiduciary Guidebook]
• Knut Rostad's Regulatory Reason blog argued against the idea that the suitability and fiduciary standard aren't so different afterall [Wealth Manager Web]
• New evidence that the DOL is actually enforcing investment-related fiduciary oversight [The (k)larity Group Blog]
• To do list: 10 Things You’re (Probably) Doing Wrong—or Not Doing Right—as a Plan Fiduciary [PLANSPONSOR Perspectives]

For more of the best links during the week, make sure you follow us on Twitter.

New Article Competition entry: 401(k) Plans: the Lake Wobegon effect

Our first entry into the 2010 article competition has been posted. AIFA designee Roger Levy of Cambridge Financial Services Group in Greenwich, CT, authored the article "401(k) Plans: the Lake Wobegon effect."  The article argues that participant-direction has proven itself not to work. No matter how much more information and participant education is made available, the situation hasn't changed.  The solution, argues Roger, is in professionally managed plans, citing evidence that they have proven more successful in the market turmoil of the last year.  Roger also provides advice in converting to trustee-direction, such as the proper appointment of fiduciaries and changes to the investment policy statement. 

If you have any feedback on the article, submit it to resources@fi360.com or in the comments section below.

The winner of the article competition receives a $1,000 prize at our 2010 National Conference. For more information on the fi360 article competition, visit the article competition home page.