fi360 Blog

Fiduciary Links: Managing fees a big concern for service providers

>>>>In his October Fiduciary Corner column, Blaine looked at how upcoming 408(b)(2) disclosure requirements combined with the increased enforcement efforts related to the DOL Consultant/Adviser Project are creating increased urgency for service providers to consider the potential consequences of decisions related to the structure, amount and distribution of fees associated with their products and services.

There is >evidence that DOL is stepping up their enforcement under this program and the 408(b)(2) disclosures will only make examinations more efficient. Being found in violation of the law carries with it more than just the consequences of DOL punishment, but of litigation, negative PR, and disruption to the organization, not only for the service providers themselves, but potentially for ERISA plan clients as well.

You can read Blaine’s full article at InvestmentNews.com. In addition, here are links to sources mentioned in the article, as well as some additional resources for further reading:

• The Drinker Biddle newsletter
• DOL description of the Consultant/Adviser Project (located about halfway down the page)
• About upcoming 408(b)(2) disclosure regulations
• A recent webinar on 408(b)(2) we hosted with Drinker Biddle ERISA attorney Fred Reish>>>

>>>>We would also like to remind everyone that the deadline to submit a speaker proposal form for the fi360 2012 Conference is November 15. We are currently in the process of building the 2012 Conference agenda, and a portion of our agenda is gathered using an open proposal process. If you are interested in speaking at the 2012 Conference please fill out our speaker proposal form.

You can visit our 2012 Conference page for additional information about the conference, including registration, hotel information, the agenda, and more. Also, please don't hesitate to send us any additonal questions you might have. Early-bird registration is open now until November 30, so register today to save $100.  

Now on to the rest of the best links from the past week:

Fiduciary Links: A guide to undermining fiduciary duties

>>>In his most recent Fiduciary Corner column for InvestmentNews, Blaine takes a look at the Congressional model of outwardly embracing accountability and ethical behavior, while simultaneously building a system of easily circumvented rules.

The model consists of four parts:

1. Profess to be wholly supportive of having a fiduciary standard apply to your line of work.
2. Secure self-regulation.
3. Rather than avoid conflicts of interest, make rules that rely on disclosure to provide a theoretical means of controlling self-dealing.
4. Provide rule interpretations that prevent real accountability in case anyone discovers that disclosures don’t work.

In the article, Blaine uses an academic study of the trading activities of Senators and Representatives and Congress’ meek attempts to control its members from trading on privileged information as a case study for the model.

What we find is that disclosure is woefully ineffective in monitoring conflicts and virtually worthless in deterring them. It took intensive academic studies to do the monitoring because citizens do not spend the time to delve into disclosures.  The studies demonstrate that members of Congress are undeterred from essentially front-running their stock trades based upon what they learn from their public duties.

Even before the last study of insider trading by House Members came out, there was some recognition of the problem. Various incarnations of the Stop Trading on Congressional Knowledge Act have been introduced since 2006 to address the problem by prohibiting Members and employees of Congress from trading on nonpublic information. However, the bill has never gone very far, with the latest version having been referred to five different House committees where it languishes to this day.

It is hard not to notice the parallels between what Congress has done and what financial industry lobbyists appear to be working hard to copy. And who can blame them? The strategy works. Today we see momentum building towards self-regulation, the long history of an effective principles-based fiduciary standard being threatened by a rules-based standard rife with exceptions and disclosures, and progress torwards real reform generally being bogged down by lobbying and politics.

With that said, it’s not too late to affect effective reform. As regulators consider the extension of the fiduciary standard to all who provide investment advice, we would remind them what that reform would look like:

1. Preserve the undiluted fiduciary standard by adhering to the Dodd-Frank provision to assure a standard “no less stringent than that established under the Investment Advisers Act of 1940.”
2. Provide SEC with full-funding for independent regulatory oversight.
3. Require conflicts of interest to be avoided when possible and mitigated in the client’s best interest when unavoidable.
4. Protect against “disintegrating erosion” inflicted upon the fiduciary standard through exceptions rules that condone conflicts of interests.

>>>While on the subject circumventing fiduciary accountability, we recommend you read Scott Simon’s most recent column for Morningstar Advisor, in which he looks at how the “promise” of ERISA that all retirement plan participants “should be able to trust their advisors and rely on the impartiality of their investment advice” has similarly been left unfulfilled by exemptions and ineffective disclosure requirements.

Now on to the rest of the best links from the past week:

Congress, regulators strike out on fiduciary titles

After the financial crisis of 2008, in addition to their primary focus on fixing gaps in systemic risk, Congress also saw the opportunity to address other hotly debated issues that had been festering for years. The fiduciary standard for brokers is an obvious one. The closely related issue of titles associated with fiduciary standards is another that unfortunately remains almost hidden to the public.

When we look at the history of regulation of financial advice, the 111th Congress that passed Dodd-Frank is only the most recent failure in this regard.

Back in 1940, the 76th Congress was perhaps the first to address advisor titles. At the time, the Investment Advisers Act was under consideration, largely in response to a study of stock "tipsters" who charged fees while ripping off the public. Because they fell below the radar and couldn't be studied, the only organized group of advisors called to testify were investment counselors. While they weren't thrilled about regulation, they testified to fully supporting a fiduciary standard and complained that numerous stockbrokers or "customer’s men," as they were called then, often misrepresented themselves by using the same title.

In response, Congress wrote into the new law a provision under Section 208 restricting the use of the title “investment counsel” to those registered under the new Advisers Act. Unless his principal business was acting as an investment adviser and rendering investment supervisory services, a person could not use the title.

Unfortunately, as we know, Congress does not have a long-term memory. Indeed, even with the housecleaning undertaken by the 111th in Dodd-Frank, it did little except study the matter.  Had it moved aggressively to mandate registration as investment advisers or a fiduciary standard of conduct, there would have been a chorus of howls and protests the like of which would probably have killed the bill.

Fiduciary Links: In support of DOL's fiduciary rule

>>>>The DOL has been getting hammered from all sides this week, as the feedback has been almost universal that they should be going back to the drawing board on their definition of fiduciary rule proposal.  To recap, the DOL is trying to replace their five part test for what constitutes fiduciary advice to a broader definition under which more financial services practitioners would fall. Our Director of Legal and Regulatory Affairs, Kristina Fausti, recently wrote a comprehensive recap for the American Bar Association of the DOL activities.

Just in the past week, we’ve seen a deeply divided Congress come together in a bipartisan call for a re-do, SIFMA and the Financial Services Institute speak out against the rule and even the Consumer Federation of America and ASPPA have expressed reservations. You can check out our Twitter feed for even more links to DOL-bashing articles from the past week.

We’d refer you back to Blaine’s most recent Fiduciary Corner column for InvestmentNews though, for why we support the new rule proposal. It is aimed at trying to restore the fiduciary definition to how it was originally intended, to cover all service providers who are dispensing advice.

DOL assistant secretary Phyllis Borzi is also standing up for the proposed rule by noting that 40 years on the enforcement beat make them pretty adept at spotting the problems.

>>>>We’d also like to direct you to an article by AIF designee Andy Rice, who is a former winner of fi360’s Article Competition. In his most recent column, Andy describes how and why Congress should be held accountable to the same fiduciary principles advocated by the Committee for the Fiduciary Standard. If only, Andy, if only.

Stay tuned for our next InvestmentNews column, in which we’ll also be taking a look at the fiduciary conduct of our elected officials.

Now on to the rest of the best links from the past week:

Fiduciary Links: A shift in culture trumps reform

In his latest Fiduciary Corner column for InvestmentNews, Blaine uses his recent trip to New Zealand and Australia to contrast the role legislators and regulators can have in affecting change as part of a broader cultural shift. But while his observations are that the counterparts in reform on the other side of the world are doing a better job of embracing and furthering the fiduciary cause than our own at home, he reaches the conclusion that rules in this context are only a part of a broader fiduciary movement that isn’t waiting for reform.

On a side note, Blaine's extended profile as part of his IA 25 recognition was also published this past week. Read it here.

Now on to the best links from the past week:

The Wall Street films and the fiduciary ethic

In our first ever video blog, our CEO, Blaine Aikin, discusses the impression the original Wall Street movie had on him early in his career, what has changed in the time between the original film and the recently released sequel, and what the movies can tell us about the need for a broader fiduciary ethic in financial services.

What impression did Wall Street have on you? Have you seen the sequel? Do you think the culture in financial services has changed in the 20+ years between the two films? Would new fiduciary requirements on investment advice affect the problems portrayed in these films?

Let us know your answers to the questions or other thoughts you might have by leaving them in the comments area below.

Reflections on "Wall Street"

Last week, Dow Jones contacted our CEO, Blaine Aikin, to answer some questions about the original "Wall Street" movie and what influence it might have had on his professional career. Part of his answers were used in this piece that appeared in Financial Advisor magazine. We thought we'd share his complete thoughts here on the blog:

Q. What do you remember most about the first movie – good or bad?

A. I was a broker when the movie was released in 1987. I remember most vividly the moment when Bud Fox (played by Charlie Sheen) leaped across the boundaries of law and ethics as he blurted out inside information to Gordon Gekko in order to open the door to what he expected to be wealth and recognition. Leading up to that point, I remember being uncomfortable with the all too accurate portrayal of the pressure to generate sales that I and my associates experienced as brokers. Everything from how the office manager’s relationships with the brokers depended almost entirely on production numbers, to the “big trade” celebrations of brokers, to the constant shape-shifting of office space that showcased sales success in the form of the size and location of brokers offices.

The movie made me think more deeply about the culture and incentive structure of the brokerage business. My experience is that most brokers are ethical people who work hard to serve their clients interests; however, they must deal with pervasive conflicts of interest that constantly test their resolve.

Q. Did the first movie play any part in your decision to go into financial industry?

A. The movie played a small part in my making the decision to leave the brokerage area of financial services. In early 1988 I decided to move my young family from the Washington DC area back to my home town (Pittsburgh) and start or join an independent advisory firm where I could use my financial experience and expertise to serve clients in a fiduciary capacity. The market crash of 1987 that occurred just months before Wall Street was released also contributed to my decision to leave the trading and sales oriented brokerage business in favor of a professional advisory approach.

Q. Are you planning to see the new one – and why or why not?

A. Yes. I continue to work in financial services and am intensely interested in seeing how my line of work is depicted. Unfortunately, the depiction is seldom favorable. Perhaps the facts of what we are experiencing in the economy and financial markets, combined with the influence of movies like Wall Street that reflect public perceptions will help lead to much needed reforms.

Q. Is greed still good? And why or why not?

A. Greed without conscience is a personality disorder and acceptance of narcissistic behavior as an accepted manner of business conduct represents a flaw that must not be tolerated by practitioners or by those who oversee that business.

I believe Francis Bacon was right when he said “Money is a good servant but a bad master.”  To live life fully and ethically, to love deeply, to pursue knowledge rather than accept ignorance are easy to acknowledge as worthwhile purposes. Money may help people pursue worthwhile purposes but must not be confused as being an end unto itself.

Fiduciary concepts are as old as law itself

In his most recent Fiduciary Corner column, Blaine suggests that the SEC would do well to remember during their six month study on the fiduciary issue that fiduciary obligations have been based for millenia on the idea that society cannot function effectively in the absence of a code of conduct that requires trustworthy behavior by those who are entrusted with responsibility for looking after the property of others. The core principles of this code, the fiduciary standard, have been recognized, honored, and demanded by professionals and government authorities through the ages for both moral and practical reasons.

Blaine concludes his look at the timelessness of a fiduciary standard by highlighting three key considerations applied by Judge Benjamin Cardozo in the Meinhard v. Salmon case:

1. Fiduciary matters, including the provision of investment advice, demand a higher standard than normal marketplace transactions.
2. Exceptions to the fiduciary standard are a source of "disintegrating erosion" that undermine the duty of loyalty.
3. Whether it is by the courts or legislators or regulators, those who are charged with interpreting, enforcing or modifying the fiduciary standard should not conciously weaken it.

These considerations are not adequately addressed in the current regulatory regimes governing those who provide investment products along with advice. The current crisis of trust being faced by the financial services industry provides evidence of that fact. The SEC has the opportunity to better align regulatory requirements with society’s long-standing expectation for all professionals who render advice to adhere to the un-diluted fiduciary standard.

Three reasons to be pessimistic about the fiduciary standard

Generally, we at fi360 have been pleased with what we've seen happen with the fiduciary debate over the past year and a half. The final bill passed by Congress wasn't all that we hoped for, but we are still closer to fiduciary reform than we imagined at the outset. And the awareness among advisors and investors throughout the debate has forced a broader adoption of a fiduciary culture than existed before the recent financial collapse. However, in his latest Fiduciary Corner column for InvestmentNews, Blaine advises fiduciary backers to contain any enthusiasm they may have about the Dodd-Frank Act for financial regulatory reform. He cited three reasons that the bill may fall short of establishing a strong fiduciary standard for all investment advice.

1. Congress did not mandate that the SEC establish a fiduciary standard.
2. Congress included language suggesting that business model issues be considered in rulemaking.
3. A Senate provision for SEC self-funding didn't make it to the final bill.

Just one week later and a mere days after the bill was finally passed by both houses of Congress, we're already seeing early signs validating Blaine's tempered optimism. While it is true that many in Congress, Barney Frank in particular, and the majority of the SEC Commissioners have been vocal in their insistance that the intent is for the SEC to make fiduciary rules for advice, the fact of the matter is that Congress passed the buck on the issue when they had the chance to have it stop with them, leaving a happy ending for fiduciary backers anything but certain. With the SEC on the verge of kicking off their six month study of the issue, we've already seen one columnist wondering why SEC Chairman Schapiro would use the word "harmonization" when speaking on the fiduciary standard.

"Harmonization" has been a buzz word for the dilution of the fiduciary standard to a level that brokers can live with, so it is curious that she would choose that word now. Also, the combination of the business-model language in the bill and the lack of self-funding for the SEC could equate for a fiduciary future that isn't quite as rosie as we would have hoped for. Without the funds to step up their enforcement programs, some are saying the SEC may be forced to rely on FINRA as the fiduciary regulator, and, without being freed from the appropriations process, the SEC is still beholden to Congress, which just demonstrated their inability to take a firm stand for investors.

All in all, we still feel that the SEC wants to do what is in the best interests of investors. But if, in the end, we see them make rules that dilute the standard to appease Wall Street, we'll look back and see that the writing has been on the wall for a long time.

Dodd proposal a fiduciary disappointment

Though not a surprise, the absence of the extension of the fiduciary standard in Senator Christopher Dodd's new proposal for financial regulatory reform is still a disappointment.  On Monday, Dodd spoke of plugging gaps and creating greater regulator accountability, but failed to back up these promises on the fiduciary front. And while groups like FSI and NAIFA pushed for and now applaud the proposed study of investment adviser and broker-dealer regulation, it's investors that would remain out there unprotected while the SEC studies issues of which it already has expert knowledge.  

The looming question is what's next?  Well, the truth is financial reform legislation is far from being a foregone conclusion.  Dodd must still gain bipartisan support for his proposal in order to successfully push it through an aggressive Senate Banking Committee mark-up schedule and then guide it through the Senate floor.  And let's not forget that a final Senate bill will still need to be reconciled with the bill passed by the House last December. As a lawyer, it's often my job to be the Debbie Downer in the room, and while this run down of the legislative process may sound dismal for investor protections, there may be hope just yet.