fi360 Blog

Talking fiduciary with Mercer Bullard

If you follow the latest developments in financial regulatory issues, you've no doubt become accustomed to seeing Mercer Bullard's name. Whether testifying before legislative committees and regulators, providing comments on regulatory reform proposals, or providing analysis to the media, he is one of the primary go-to sources for legal and regulatory insights and a champion of investor advocacy.

Mr. Bullard is an Associate Professor of Law at the University of Mississippi School of Law, where he teaches courses on securities, banking, corporations, corporate finance and law and economics. He is the Founder and President of Fund Democracy, an advocacy group for mutual fund shareholders. He is also an Accredited Investment Fiduciary designee and a general session speaker at the 2010 fi360 Conference.

Mr. Bullard was kind of enough to answer a few questions for us on the progress of the advancement of the fiduciary standard by Congress, regulators, the media and professional organizations.

Fi360: Once a financial regulatory reform bill gains both Senate and House approval and is finally passed into law, do you believe that it will include a provision to extend the fiduciary standard to brokers and other financial representatives who provide advice?

Mercer Bullard: It’s currently a toss-up.  As I write, the Senate bill approved by the Banking Committee would require only that SEC conduct a study on issues related to the fiduciary duty.  The bill orders the SEC to enact rules to the extent its study finds that there are gaps in the regulation of brokers (such as the absence of a fiduciary duty for investment advice), but the authority of the SEC under the bill to impose a fiduciary duty on brokers is unclear at best.  In contrast, the bill passed by the House last year would require the SEC to enact rules establishing a fiduciary duty for brokers when providing personalized investment advice to retail customers.  The question is which bill will survive the Senate-House reconciliation process.  That will depend primarily on how committed the House leadership is to its fiduciary provision.  Chairman Barney Frank has indicated his strong support for the House bill, so there is definitely a good chance that the fiduciary duty provision will become law.

Fi360: Given what has transpired to this point on Capitol Hill with financial regulatory reform, would the advancement of the fiduciary standard be better served if it were not addressed through legislation at this time rather than including less than ideal provisions?  

Mercer Bullard: To the extent that Congress actually tackles the fiduciary issue head-on, the outcome is likely to be an improvement.  The House bill is a good example of legislation that would clearly advance the fiduciary standard.  There is a risk, however, that proposals that start as an approach to the fiduciary issue will be steered to unrelated, anti-investor ends.  For example, the original version of the Senate bill would have eliminated the exclusion for brokers from the Investment Advisers Act.  This would have been a significant step forward, but it tried to do too much.  Its opponents replaced it with the study mentioned above, which may delay SEC action and yield bad results.  For example, there are aspects of the study that seem to pre-judge certain issues, such as the role of FINRA as the self-regulatory organization for advisers.

Fi360: There does seem to be some fiduciary momentum building from the regulators: SEC Commissioners have indicated a strong interest in advancing fiduciary measures and the DOL has advanced fiduciary principles in recent rulemaking. Absent Congressional action, do you foresee regulators continuing to have increased willingness and ability to institute strong fiduciary provisions through rulemaking?

Mercer Bullard: Regardless of what Congress does, the SEC will likely move to impose some kind of fiduciary standard for brokers.  If Congress does not expand the SEC’s authority, then SEC reforms will comprise rules governing broker disclosures and other specific areas of conduct where the SEC’s jurisdiction is clear.  These rules will have the effect of enforcing aspects of a fiduciary standard but without being expressly characterized as such. 

If Congress gives the SEC express authority to impose a fiduciary duty on brokers, then the SEC probably would do so, but not without asking for comment on how the fiduciary standard as historically applied to investment advisers may be “incompatible” with brokers’ business practices.  While this process might result in something less than the application of a full fiduciary standard on brokers, it is still likely to be an improvement over current law.  My most significant concern is the SEC’s ability to get its work done.  Its point-of-sale disclosure rule, for example, was proposed over six years ago and has yet to be finalized.  It has promised 12b-1 reform for a decade without any result.  It has never issued guidance on brokers’ disclosure of revenue sharing payments.

Regarding DOL’s rulemaking on conflicted investment advice, there has been a significant improvement over the previous rule.  The new rule effectively narrows the conflicted advice by limiting the financial incentives that advisers have to provide self-interested recommendations.  It still allows conflicted advice, however, because Congress required, in the Pension Protection Act, that conflicted advice be permitted.  DOL could do a better job neutralizing or limiting a series of court decisions that apply an overly narrow view of the fiduciary standard under ERISA (e.g., Hecker v. Deere).

Fi360: To what extent can the influence of the media and professional organizations help create competitive pressures that will force a shift to fiduciary conduct from those who provide investment advice? Would such competitive pressures be enough to counteract investor confusion over who is and who is not a fiduciary?

Mercer Bullard: The media has been very effective at communicating the importance of the fiduciary duty in the context of personalized investment advice.  Its support of that standard has been virtually universal and had a significant effect on legislators.  The media can’t speak in a vacuum, however, and it is professional organizations that have been one of the most effective spokespersons for the fiduciary standard.  This is a particularly important role because professional organizations have not been as effective in their direct lobbying efforts as the brokerage and insurance industries.  Professional financial planning organizations have been able to achieve some direct success in Washington, however, and need to continue to strengthen the coordination of their efforts on the Hill.

Competitive pressure can make investors aware that they should only rely on personalized advice from someone who is subject to a fiduciary standard.  This message has already established a good foothold.  I am less optimistic that competitive pressure will enable investors to distinguish fiduciaries from non-fiduciaries.  When a broker offers a full range of financial planning services, investors generally will expect those services to be subject to a fiduciary duty as are other types of professional services.  I am skeptical that many investors will ever go beyond that general expectation to determine that it is well-founded.  The best way to counter investor confusion would be to ensure that the standard that investors naturally expect is the one that actually applies: the fiduciary standard.

Fi360: You are currently serving as the chair of the Investor as Purchaser Subcommittee of the SEC Investor Advisory Committee.  Can you give us some insight into the mission and priorities of the committee? What additional work and recommendations can we expect to see from your subcommittee with regard to the fiduciary issue? 

Mercer Bullard: The Subcommittee has taken up the fiduciary duty and mandatory arbitration as the first two issues that it will address.  Both issues were discussed at length at the Feb. 22 meeting of the full Committee.  Two background memoranda were circulated prior to that meeting that can be accessed at: http://www.sec.gov/spotlight/investoradvisorycommittee.shtml. I expect that the Committee will host a panel of outside experts on mandatory arbitration at its next meeting on May 17, which will be broadcast live on the SEC’s website.  The arbitration memo sets forth the key issues that the panel and the Committee will be tackling.  The Subcommittee is currently discussing its next step on the fiduciary duty issue, which I hope will be to approve for recommendation to the SEC some of the less controversial positions discussed in the last section of the fiduciary duty memorandum.

An interview with Fiduciary Benchmarks' Tom Kmak

The Department of Labor has informed ERISA requirements on fee expenses by stating, "In choosing among potential service providers, as well as in monitoring and deciding whether to retain a service provider, the trustees must objectively assess the qualifications of the service provider, the quality of the work product, and the reasonableness of the fees charged in light of the services provided."

The difficulty of this fundamental fiduciary requirement has always been availability of information and a fiduciary's ability to disseminate information provided. This is where Fiduciary Benchmarks comes in. Fiduciary Benchmarks considers fees, services, support and success measures compiled from real plan data to assess a plan's fees reasonableness in comparison to comparable benchmark groups.

Fiduciary Benchmarks' CEO and co-founder Tom Kmak was kind enough to answer some questions for us regarding his company's approach and the state of fee disclosure and evaluation in general.

Fi360: Thank you for taking the time to answer our questions, Tom
Tom Kmak: Thank you for having me.  We respect and admire fi360 and the fiduciary and investment standards they are bringing to the marketplace.

Fi360: What kind of difference can fiduciaries make for the plans they manage by taking advantage of benchmarked data?
Tom Kmak: Well, there are really three benefits of our service.  The first is compliance with the law as you outline at the beginning of this interview.  Given the recent Caterpillar settlement for $16 million dollars, I cannot imagine any plan sponsor not having in place an annual process for reviewing their fees and services.  Secondly, it can save the plan money by making sure that the fees for all service providers are no more than reasonable.  Thirdly, benchmarking the fees AND services for a plan will make sure employees are getting the best plan possible thereby helping them achieve the best retirement outcomes possible.  Too often people associate benchmarking with just fees, but the value side of the equation is mathematically even more important.

Fi360: How or why has an environment existed for so long that made meaningful benchmarks so difficult to obtain?
Tom Kmak: It comes back to the fact that any proper benchmarking exercise considers both fees and value.  So, the reason benchmarking was difficult basically boils down to two reasons:

1. The fee schedules were so incredibly inconsistent from service provider to service provider.
2. There was no consensus on service standards.

This is why it took Fiduciary Benchmarks 9 months to finalize our first report. We had to make sure we could handle and normalize any fee schedule. Then, we had to define 8 critical value standards that could be compared against those fees to make sure the benchmarking exercise was comprehensive and informative.

Fi360: How cooperative have the service providers and record keepers been in providing data for your benchmarking?
Tom Kmak: At this time we have working protocols with 36 recordkeepers.  Some of them like Mass Mutual have been “very helpful.”  They are responsive to the requests of their advisors and they react quickly to make sure they enter the data we need via the FBi portal for our benchmarking reports. 

Then, there are firms like Fidelity that are “helpful.”  These firms may require a sponsor signature but they are happy to provide the documents to us or their clients.  We then enter that data into the FBi portal. 

Thirdly, we have service providers that are simply not offering any support whatsoever.  At this time, there are only 3 firms in this category and I would rather not name any names since I think they truly want to do the right thing for their clients.  And, while they all have a variety of reasons for not helping a client use our service, I do believe their stance will be short lived once the 408(b)(2) regulations are released.  Having said that, advisors are refusing to accept their reasons for not participating and we are working with these advisors to find the proper documents that have the data we need so their clients can get the benefits of our service.

Fi360: What challenges have you faced in developing meaningful benchmark peer groups for plan comparison?
Tom Kmak: At this time, we can benchmark any plan under $100 million dollars.  Our benchmark groups typically include 25-30 companies from approximately 10 different service providers.  Above $100 million dollars, it is taking us a little longer to get companies to participate for a variety of reasons.  We do have, however, a number of initiatives that are designed to solve this problem and we are confident we will issue reports in this segment in no more than 90 days.

Fi360: What practical issues have you encountered in sorting through the innumerable fee and expense names?
Tom Kmak: Well, the first thing we had to do was make sure we got the investment fees right since they account for 90% of the fees in our industry.  We had to be able to handle annuities, mutual funds, commingled funds, separate accounts and all of the revenue sharing mechanisms that may exist in those investments – things like 12b-1 fees, shareholder servicing fees and sub-transfer agency fees.  But, as we all know, there are also fees for services like participant recordkeeping or loans.  So, we looked at all of the major services a plan could be billed for and we provided a mechanism for those fees to be submitted to us as well.

Fi360: How would you define a successful plan? High participation? Low fees? Adequate choices?

An interview with Carl Richards of Behavior Gap

Carl Richards has a mission to create better investors. For years in the brokerage industry and as a financial planner, he saw average investors earning returns dramatically less than the average mutual funds they were investing in. The problem is investor behavior.  Investors continually make the classic mistakes that result in their leaving money on the table that smarter investment behavior could have earned them.

He named the phenomenon the Behavior Gap, and he continues to explore and share how our relationship with money, and what we choose to value, can impact our lives.  

Carl was kind enough to answer some questions for us related to his mission and to fiduciary issues.

fi360: One of Behavior Gap’s signature themes is that the process is far more important than the product and planning is more important than the plan. What does this mean in terms of the real value added by an advisor?

Carl Richards: We’re really talking about two related issues. The first is the product vs. process problem. For the longest time the traditional financial services had it backwards. They started with a product and tried to sell it to anyone that would listen without taking the time to understand if it was appropriate. I think that those of us who take the craft of advice seriously understand that the value is clearly in the ongoing process that we guide people through. The products we use at the end are just a byproduct. It seems to me that this attitude is becoming more and more accepted; now it’s just a matter of getting everyone to act that way.

The second issue deals with the idea that people really need a planner and not just a plan. Financial plans are worthless without the ongoing involvement of the planner. The more plan work I do, the less I think of it. Consider the massive amount of “assuming” that goes into a plan. Not only do we know that we are going to be wrong, it’s also out of date the moment we hit print. What clients want is a planner, someone that will help them navigate the financial landscape. They recognize we can’t know what will happen to them over the next 20 years. Clients just want to know we will be there to help them make smart decisions when things come up. The space shuttle is off course something like 95% of the time. When they formulate the flight plan, they know that. The value is not in the flight plan, but in the course corrections.

fi360: If investment decisions shouldn’t be made on investment performance alone, what signs should advisors be looking for when deciding to replace funds or make changes to an investment plan?

An interview with independent fiduciary, Matthew D. Hutcheson

The friendship between Matthew Hutcheson and Fi360 goes way back.  He was one of the first AIFA® designees (2003) and we’ve maintained that friendship ever since.  Hutcheson has been very busy with his participant advocacy work in Washington D.C. and with his independent fiduciary practice.  We caught up with each other at the most recent Fi360 conference and had an opportunity to find out what he was up to and learn more about his practice.  Matt specializes in acting as an independent fiduciary, and we wanted him to share information on his unique practice, and how fellow designees might benefit from learning about a new potential source of professional fee revenue. 

* * * * *

Fi360:  You have a unique practice. Could you clarify for us exactly what you do as an independent fiduciary?

Hutcheson:  Of course.  ERISA identifies four primary types of “named” fiduciaries.  The first one is described under ERISA section 3(16).  A 3(16) fiduciary (click on ERISA 3) is the “Plan Administrator.”  The Plan Administrator is different than a third party administrator, the latter not being a fiduciary, but rather a professional service provider.  ERISA section 3(21) describes a named fiduciary with discretion over the disposition of plan assets, plan operations, appointment of other fiduciaries, and hiring/firing of service providers.  A 3(21) fiduciary (click on ERISA 3) with full discretionary authority is the principal – or “chief” – fiduciary over a plan.  That is the position I am appointed to serve on many plans.

Fi360:  As a 3(21) fiduciary, how do you interact with the plan sponsor’s management (CEO, CFO, Investment Committee Chairperson).

Hutcheson:  In my case, company executives have arrived at the conclusion that they don’t want to be the chief fiduciary over their plan, so they ask their legal counsel to find a qualified independent replacement.  That’s how I receive most of my appointments.  I also receive independent fiduciary appointments by Federal Courts from time-to-time.

Fi360:  Federal Courts?  Why do they appoint you?