2017: Brave New World

2016 will be remembered by most financial advisers as the year of the fiduciary standard, the year everything changed forever. Some would challenge this statement, claiming that the Trump administration will make sure the DOL’s new fiduciary rule is reversed.

Only time will tell if that change comes to pass. However, even if the DOL’s new rule and accompanying “best interest contract” exemption, or BICE, are reversed, the publicity that the debate received and the issues involved received such publicity that a significant portion of investors, especially the high net worth investors, are better educated on the issues involved and more willing and able to demand that their advisers adhere to such fiduciary standards as the duties of prudence and loyalty.

Going forward, successful financial advisers will have to pay more attention to key fiduciary issues, trust and transparency. As a former securities compliance director, both in terms of RIA compliance and general securities compliance, I can fully appreciate the special challenges that dually registered representatives will face, with their broker-dealer potentially denying them the flexibility that independent RIAs have to properly address these two issues. For that reason, we may continue to see an increase in the number of registered representatives deciding to drop their securities licenses and go totally independent in order to be more marketable and competitive with other investment advisers.

There is a well-known saying that may come to define the evolution of the investment advisory industry – “people don’t care how much you know until they know how much you care.” This dovetails perfectly with the concepts of greater transparency and trust, as greater transparency will demonstrate a greater amount of openness and fairness in treatment, promoting a higher level of trust between a client and an adviser.

I have read a number of articles speculating on what the Trump administration will do with the new fiduciary rule and any idea that the SEC will follow the DOL’s lead. I have also read a number of articles suggesting that advisers and brokers should go ahead and adopt the standards set out in the new fiduciary rule in order to be competitive with the newly informed/educated investing public and to remain competitive with RIAs, who already legally required to comply with fiduciary laws.

Another reason for financial advisers to go ahead and adopt the fiduciary standards is that the courts have shown that they are willing to impose such duties on brokers and other financial advisers after-the-fact if necessary to protect inexperienced investors and ensure that they are treated fairly, the mission statement of both the SEC and federal securities laws. Furthermore, some states already impose a fiduciary standard on stockbrokers and other financial advisers, whether or not they are RIAs or investment advisory representatives.

Being proactive in adopting such standards simply allows brokers to better protect their practices and to be more competitive in the market. There are various online sites that allow financial advisers to perform a higher level of analysis on their investment recommendations. My free metric, the Active Management Value Ratio 2.0 (AMVR) is being used my more advisers and attorneys to analyze the suitability and prudence of investment recommendations. As a  result, the courts and the regulators are demanding a new, higher level of due diligence from those offering investment advice to the public.

Along those lines, I think an area that may receive greater attention in 2017 is the inconsistency between recommendation in financial plans and/or asset allocation modulcs and the actual products sold to customers in implementing such recommendations. While the industry likes to argue the “two hats” theory as a defense to any potential liability, decisions like the Arlene Hughes case seem to nullify such arguments. 

Rule 10b-5 prohibits any practice or scheme that operates as a fraud or otherwise misleads investors with regard to investments or investment advice. Since advisers often use risk and return data from generic asset categories in preparing financial plans and/or asset allocation modules, knowing that the actual products that they will eventually recommend and use in implementing such recommendation have significantly different risk and return characteristics, their failure to disclose such differences to their customers arguably violates the conduct addressed by Rule 10b-5. The failure of most financial advisers to go back and prepare revised financial plans and/or asset allocation modules based on their actual recommendations, despite the ready availability of tools to do so, only serves to strengthen the Rule 10b-5 argument.

In short, the debate that surrounded, and continues to surround, the DOL’s fiduciary rule only served to open the proverbial Pandora’s Box, both in terms creating new liability standards and educating the public on the various conflicts that often exist between themselves and their financial advisers. Financial advisers need to be ready to properly respond to such issues and the resulting demands and expectations of the public, especially in terms of trust and transparency.

About jwatkins

I am a securities and ERISA attorney. I am a CFP Board Emeritus™ and an Accredited Wealth Management Advisor™. I am a 1977 graduate of Georgia State University and a 1981 graduate of the University of Notre Dame Law School. I am the author of "CommonSense InvestSense: The Power of the Informed Investor" and " The 401(k)/403(b) Investment Manual: What Plan Sponsors and Plan Participants REALLY Need To Know. " As a former compliance director, I have extensive experience in evaluating the legal prudence of various types of investments, including mutual funds and annuities. My goal is to combine my legal and compliance experience in order to help educate investors and investment fiduciaries on sound, proven investment strategies that will help them protect their financial security and/or avoid unnecessary fiduciary liability exposure.
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