Though the death of Senator Robert Byrd and continuing debate over new bank taxes have prevented final approval of the broad financial reform bill, House and Senate negotiation regarding the regulation of financial advisors was completed last week.
As outlined in our September 2009 commentary, the financial reform bill presented an opportunity for Congress to universally apply the fiduciary standard to anyone who offers investment advice. As you may recall, only Registered Investment Advisors (such as Truepoint) are currently required to act as fiduciaries, which means always placing the client’s interests first. In contrast, stockbrokers and sales representatives of banks and insurance companies are held to the much less stringent “suitability” standard.
Unfortunately for investors, the fierce lobbying efforts of the brokerage and insurance industries ultimately deterred Congress from mandating the fiduciary standard in the financial reform bill. Instead the bill instructs the Securities and Exchange Commission (SEC) to conduct a six-month study analyzing the differences between the fiduciary duty and the suitability standard.
The prospects of such a study led Barbara Roper, director of investor protection at the Consumer Federation of America, to state: “If we wait to study again an issue that the SEC has been studying for years, unsophisticated investors will continue to be duped into believing they are in a relationship of trust by brokers who masquerade as financial advisors but refuse to acknowledge any obligation to act in their customers’ best interests.”
Understandably, investors find this issue confusing and few recognize the stark difference between the investment advisors’ fiduciary standard and the brokers’ suitability standard. In practice, this distinction often separates the professionals who serve their clients from those who sell to their clients. In a telling study, analysts estimated that if brokers were held to a fiduciary standard, brokerage firms could face a 4% to 10% decline in profitability per broker. Opponents of the fiduciary standard argue that it would undermine the broker-dealer business model and limit the products brokers would be willing to sell to clients (good for clients, bad for business!).
Despite the failure to include the fiduciary standard in the financial reform bill, a major step is included: upon completion of the prescribed study, the SEC is empowered to write regulation requiring brokers to act in the best interests of their clients and to reveal any conflicts of interest when providing investment advice. Now the consumer and industry groups that have battled for the ear of Congress on this issue will turn their attention to the SEC. While the stage has been set for real reform, it remains uncertain whether investor protection will prevail.