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Wall Street’s Whipping Boy and a World Without a Fiduciary Standard

January 14
00:48 2014

As those of you who keep up with already know, last week we ran the obligatory 2014 crystal ball story. Among those I asked to comment was none other than Ron Rhoades, Curriculum Director for the Financial Planning Program and Hat glove whipAssistant Professor in the Business Department at Alfred State College in Alfred, New York, as well as author of the extremely erudite Scholarly Financial Planner blog. Being the prolific (not that there’s anything wrong with that) writer he is, Ron sent back nine really great paragraphs. Unfortunately, given the already extraordinary length of the article, I was only able to fit in a couple of sentences. The response was so cogent and so compelling that I asked Ron if I could print it in its entirety and he agreed. Furthermore, I asked him if I could poll several of the folks who I’ve had the pleasure to do Exclusive Interviews with to see if they might want to add additional thoughts to his treatise. He agreed to that, too.

To make the article less bulky, I’ve eliminated cited links and instead placed the related links within the particular body of text with which they are most relevant. Also, for each person quoted, clicking their name will bring you to their own specific Exclusive Interview.

Without further fanfare, here’s Ron’s original uncut answer to me, along with some color commentary by other industry thought-leaders:

The SEC has, for several decades, refused to challenge Wall Street’s ongoing initiative to keep its standards of conduct at the low level of ‘suitability’ as brokers have moved more and more into the delivery of financial and investment advice. In recent years it has permitted the fiduciary standard to be eroded. The SEC’s Request for Data in March 2013 is a further indication of this trend, in which the SEC is poised to accept Wall Street’s redefinition of the federal fiduciary standard as ‘casual disclosure’ only of conflicts of interest, rather than their avoidance and/or proper management in order that clients never be harmed.

After speaking with SEC insiders over the past year, and observing the huge influence of Wall Street and the insurance companies both in Congress and at the SEC, I am more and more convinced that the SEC will continue to act as Wall Street’s whipping boy. Congress and the government agencies are visited by anti-fiduciary advocates more than 20 times the visits seen by pro-fiduciary advocates. Wall Street’s investment banks have committed to each other to spend hundreds of millions of dollars, if that is what it takes, to defeat the application of the fiduciary standard to the investment advisory activities of broker-dealers.

If the SEC ever acts on the authority granted it under Section 913 of Dodd Frank (which is unlikely before 2015, in my view), the fiduciary standard for all who deliver investment advice will be lowered to ‘suitability plus a bit more disclosure.’ The late Benjamin Cardoza, who so famously warned against permitting exceptions which denigrate the fiduciary standard, will go from rolling over in his grave (underway now) to doing somersaults.

[ed. note: Rhoades speaks of disclosure as if it’s a bad thing. Guess what, research reveals it is.]

While the DOL/EBSA (i.e., the tenacious Phyllis Borzi and her staff) continue to courageously pursue the application of the fiduciary standard to all defined contribution qualified retirement accounts and IRAs, they too face an uphill battle. Wall Street and the insurance companies have been putting the Administration (White House, Treasury Dept., and OMB) under tremendous pressure to stop EBSA rule-making on the new ‘Definition of Fiduciary.’ To date they have achieved delay. Who knows what more influence they might bring to bear? Despite all of this, Phyllis Borzi has a fighting chance of getting a rule proposed and finalized before the Presidential elections in 2016. While this rule will be significant, it is not a universal application of a true fiduciary standard to the delivery of investment advice, which only the SEC has the power to effect.

How will true fiduciary advisors respond? By educating consumers, aided by the media. True fiduciaries will sign a fiduciary oath, such as the one suggested by The Committee for the Fiduciary Standard (or a more detailed one I’ve suggested, which guards against ‘creative’ misinterpretations). The RIA community, and in particular fee-only financial advisors (such as those who belong to the Alliance of Cambridge Advisors, the Garrett Planning Network, and the National Association of Personal Financial Advisors), have been taking market share from the wirehouse broker-dealers for years. This trend will continue, as the large broker-dealer firms have no interest in changing their business model.

In my own experience, I loved it when a client of a wirehouse broker-dealer walked in the door for a second opinion. I knew our conversion rate for securing this type of prospect as a new client to our firm was over 90%. Why? We could provide truly expert and comprehensive advice, for total fees and costs which were usually 30% to 70% lower than the fees and costs the client possessed (but did not comprehend) at the wirehouse broker-dealer firm. Moreover, we could lower the client’s taxes through proper portfolio design and management.

In essence, the broker-dealers will continue to feast on their pie, but their slice of the pie will become less and less over time. Yet, surprisingly, the broker-dealers refuse to change, out of fear of alienating their shareholders. It appears to me like shorting warehouse firms’ stocks over the long term is a good bet. The broker-dealers love feasting on their slice of pie, but their slice will become ever-smaller.

As I mentioned before, the media will assist true fiduciary advisors in this effort. There are many journalists, such as you, who now understand the distinction between the ‘product sales’ hat and the ‘advice’ hat. These members of the media also are gaining an understanding of the dangers of switching hats, or wearing two hats at the same time. Nearly seventy years ago, Supreme Court Justice Harlan Stone memorably observed at the dedication of the University of Michigan Law School Quadrangle: ‘I venture to assert that when the history of the financial era which has just drawn to a close comes to be written, most of its mistakes and its major faults will be ascribed to the failure to observe the fiduciary principle, the precept as old as holy writ, that ‘a man cannot serve two masters’.’

In conclusion, clients want, need and deserve pure fiduciaries, which I call ‘bona fide fiduciary financial advisors.’ I don’t believe the SEC is up to the task of delivering anything close to a true fiduciary standard. That would take courage and tenacity, as well as an understanding of the harm which occurs from the application of the low suitability standard to the selection of investment managers and the delivery of advice. These attributes are sorely lacking within the SEC.

Roger Wohlner of Asset Strategy Consultants in Arlington Heights, Illinois and author of The Chicago Financial Planner blog, recently cited by AARP’s Jean Chatzky as her pick as the top investing blog, agrees with Rhoades central premise. Wohlner says, “Sadly the process of creating a tough, uniform Fiduciary Standard that will allow all investors large and small to be assured that their financial advisor is required to act in their best interests continues to drag on. At this point I fear that no Fiduciary Standard will be enacted and if one is enacted that it will be so watered down that any protections afforded will prove useless to the investing public.”

ERISA/ retirement plan attorney Ary Rosenbaum of the The Rosenbaum Law Firm in Garden City, New York, and who authors his firm’s prolific blog, says, “Much of life is centered around politics and the fiduciary rule is centered around politics because you have the Department of Labor who has been intent for years to expand the fiduciary definition and you have members of Congress who are financially supported by Wall Street who is trying to fight any change, it’s the old irresistible force vs. the immovable object. Phyllis Borzi has been intent on the new fiduciary definition, just like she was determined to get fee disclosure implemented. The latest delay indicates that the DOL wants to make some sort of compromise that will be palatable to Wall Street and members of Congress. So I can expect to see a fiduciary definition that will be expanded to include brokers, but will be watered that both RIAs and brokers will end up not being happy.”

Kathleen M. McBride is the founder of FiduciaryPath, LLC in New York City and also one of the founders of The Committee for the Fiduciary Standard and The Institute for the Fiduciary Standard, a nonprofit, nonpartisan think tank dedicated to providing research, education and advocacy on the fiduciary standard’s impact on investors, the capital markets and society. She says, “If the SEC puts forth (as SIFMA calls for) its ‘universal fiduciary standard,’ it would be nothing more than a suitability sales device bearing no resemblance to the bona fide, existing fiduciary standard as articulated in the Investment Advisers Act of 1940. Anything less than the ‘40 Act fiduciary duty (which Dodd-Frank called for) would be devastating to investors. It would add to investor confusion – confusion that is created by brokerage firms with misleading titles that imply a fiduciary duty toward clients. This is nothing less than misleading and, as some have said, fraud. So unless the SEC is ready to require the bona fide fiduciary standard, they should not act. However, as you said right here in these columns, Chris, every month of delay costs investors $1 billion. That may be an understated number. That means, in the years since Treasury called for the fiduciary standard for advice, investors have bled $56 BILLION in SEC-permitted extra costs of non-fiduciary “pseudo advice.” Let me be clear: SEC bears responsibility for investor confusion and these extra costs, by enabling the pseudo-advice farce to continue.”

On the other hand, McBride credits the Labor Department’s efforts to move forward on their new Fiduciary Rule. She says, “If the DOL’s courageous Phyllis Borzi does what she is capable of – and she’s been steadfast in her pro-investor stand against a tsunami of broker lobbying of Congress, OMB, et al, – she will extend the reach of real fiduciary duty so that retirement investors in captive retirement vehicles have a fairer shot at an adequate retirement. Extending the fiduciary reach to cover advice at the plan and participant level and on money rolling over or out of retirement plans and IRAs is crucial. And, according to the 2013 Fiduciary Survey, the majority of advisors support fiduciary duty on this issue. The DOL’s economic research on the cost of non-fiduciary advice to investors will undoubtedly be eye-popping and should be revealed ASAP.”

Greg Carpenter, founder of Employee Fiduciary, LLC in Mobile Alabama, and author the popular blog The Frugal Fiduciary, believes “the Broker-Dealers aren’t necessarily against the standards per se.  Their primary issue is that their personnel do not have the talent or training to comply – thus, the B-Ds will need to launch massive systems projects to allow their brokers to have a “plug and play” solution to the standard, producing technical and compliance migraines.

Further supporting Ron’s basic tenet that the marketplace might be the arena where the fiduciary debate might ultimately be resolved is research from the Employee Benefit Research Institute that shows only 27% that get paid advice follow all of it. Furthermore, the top reason cited for not following the advice is lack of trust.

Finally, and you can file this specific dispatch under the category “This Just In,” comes word on the SEC’s 2014 examination priorities. A recent news story states the SEC will be giving dual registered brokers, brokers offering wrap accounts and (along with FINRA on this specific item) brokers advising employees to roll out of 401k plans and into IRAs. The reason for this set of priorities: conflicts-of-interest inherent in non-fiduciary engagements.

If this SEC examination prioritization is to be believed, maybe the SEC has already taken Ron’s advice. It’s as if they’re simply bypassing the formality of deciding on a uniform fiduciary standard and merely enforcing what’s already in the books. Maybe this is the approach they should have taken all along. Maybe the SEC isn’t Wall Street’s whipping boy after all.

This was one of our longest articles. If you’ve made it this far, you must really be interesting in learning how to build a better 401k plan. If this is the case, you may want to purchase Mr. Carosa’s book 401(k) Fiduciary Solutions and discover how to solve those hidden traps that often pop up in 401k plans. The book also contains a series of chapters on benchmarking, including how to create a plan “report card” to better evaluate its effectiveness.

About Author

Christopher Carosa, CTFA

Christopher Carosa, CTFA

1 Comment

  1. Jack Waymire
    Jack Waymire January 16, 14:48

    Why is this a surprise. Wall Street would make less money if it had to act in the best interests of investors. A vague standard like suitability allows Wall Street to make more money. Wall Street will spend whatever it takes to protect the franchise. Suitability plus a little more disclosure provides plenty of wiggle room for Wall Street firms to increase disclosure in 50 page documents printed in four point type knowing investors will never read the document. Wall Street will claim it is not accountable for what investors do not read. There are no mandatory disclosure requirements for advisors because Wall Street employs thousands of advisors (stockbrokers) who should be selling used cars.

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