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Tomorrow’s Debate

If my crystal ball is working properly, 2019 will see another storm of media attention around the fiduciary standard, similar to the coverage of the DOL fiduciary rule.  Back then, the brokerage firms were in the awkward position of commenting that they thought it was a poor idea, and totally unworkable, for brokers to provide the same standard of care to their customers that they would to their own mother.  This was a boon for fiduciary advisors, who have no trouble living up to that standard and wondered, aloud and quotably in the press, why the brokerage firms voluntarily embraced so many conflicts.

The new media storm will center around the SEC’s Reg BI proposal, proposed on April 18, 2018, which attempted to write a disclosure brochure (called a Relationship Summary) for independent RIAs and also for reps of broker-dealers.    The controversy will be around the fact that the SEC (obviously at the direction of brokerage firm attorneys) redefined the “suitability” standard as a “best interest” standard—without making any proposed changes in how they treat customers.  The SEC would not only allow brokers to say they act in the best interests of their customers; it would REQUIRE them to, with boilerplate language written by the SEC staff itself.

Fortunately for all of us, the SEC asked the Rand Corporation to do a “study” of the new proposals.  You will notice the quotes around “study,” because this may be the sloppiest “study” you are likely to encounter in your career—and even so, the results were disastrous for the SEC.  If you become passingly familiar with the Rand results, you will be better prepared to address the SEC’s fiduciary issue with the press.  (The full report is available here:

There are two parts to the “study.”  In the first, the esteemed think tank asked consumers to read through each of the six sections of the proposed disclosure, and asked whether they were comfortable with it. 

Here are some of the questions:

Is the Relationship Summary too long, too short, or about right?

Would you add more detail, keep as is, shorten or delete?

Please assess the ease or difficulty in understanding each of the sections of the relationship summary.

How comfortable would you be asking your financial professional the “Key Questions to Ask” provided in the Relationship Summary.

There are many more, but the point here is that the first and most comprehensive part of the “study” did nothing whatsoever to assess how effective the disclosures would be in helping people distinguish between brokers regulated under suitability standards (renamed “best interest” under the supervision of brokerage attorneys) and fiduciary advisors under a fiduciary standard (which actually IS a “best interest” standard).

Put another way, the report tells us that 28.7% of the people surveyed strongly agreed, and 47.7% agreed that “the relationship summary would help me understand the key terms and conflicts of interest that apply to the relationship with the investment professional.”

But does that mean they now understand that brokers will at all time act in their best interests, while advisors are potential dirtbags who will sometimes take advantage of them by charging excessive fees?  (Yes, this is the impression you would get from reading the proposed disclosures.  Again, you can admire the securities industry attorneys for their creativity and power over the SEC staff.)  There was no attempt to assess the effectiveness of the disclosure document.

There were phone interviews with consumers, and here the “study” gets interesting.  The interview questions DO attempt to determine what the consumers would learn from the SEC’s proposed disclosures. 

Results?  In the interviews, people said that they would like further definitions of such basic terms as “transaction-based fee.” “Asset-based fee.” And “discretionary account.” 

Here was an actual response to the “best interest” language:

“they’re wanting to treat their customers or whoever they’re working with, um, fairly and just making sure that they’re not putting their own interest above, um, for your own. Not acting, you know, in a malicious way . . . it’s good that they’re talking about conflicts of interest…and that they’re being cognizant of, of that happening. And…the kind of actions that they want to take in those situations.”

And you know the brokerage firms achieved their goal in rewriting the SEC disclosure language when people looked at the contrasting language for different account types, and said that there was really no difference between brokers and advisors:

“I don’t know, it’s basically the same language, but um, the same but they just kind of word it differently. . . . Yeah, so it’s pretty much the same. But it’s just worded differently and they try to, to make the right side sound a little fancier.”

Another test on how effective using the word “fiduciary” out of context was in the disclosure: 

“So, on the right, uh, um, my understanding of the word fiduciary is that the company would have to act in my best interest, which makes me question the second bullet point, which says that their interest and my interest could conflict.”

Another participant said that he:

“thought that IAs [investment advisers] had fiduciary: I thought that there was a law that said that, uh, the, uh, advisor, uh, must have your best interest, uh, and then I thought that may have been, um, that law may have been removed recently . . . . Um, so I’m a, I’m a little bit confused on that. And, uh, you know, it’s the same with this second bullet point on the investment adviser.”

The fee disclosure actually seemed to be leading people toward the “cheaper” brokerage account.  Here’s what people said about the advisory (fiduciary) disclosure:   

“Yeah, no it’s just a lot I think, you know, somebody reading through this it’d be like, oh my gosh. So, basically the way it lands if you just read it and don’t know what you’re doing is, there’s just a lot of fees. You know, no matter what you do.”

The same participant later elaborated,

“Well, I think for the, um, your typical layperson who doesn’t know, I think they’re gonna obviously want some explanation, further explanation.” Another participant said, “I’m going to be fee’ed to death . . . that’s what I’m getting from this. I’m going to be fee’ed to death regardless of whether I’m asking you to do anything for me or not, there’s going to be some sort of a fee associated. I kind of am glad that there aren’t actual numbers in front of me cause that might confuse me even more. But then I kind of wish, okay, is this fee going to be this percentage or is this fee going to be that. But it might really overwhelm me, so . . . .”

Proposed SEC wording stating unequivocally that advisory fees are negotiable (are they at your firm?) could put the advisor in a tough spot: 

“And then I have an [online brokerage] account, and I know that . . . well, unless I’m missing out on something, but I don’t think any of their fees are negotiable, so . . . Makes me kinda feel like . . . um . . . I don’t know. I might not always be getting . . . as good of a deal as other people that might work with you guys more.”

Another participant said:

“I think the word negotiable is interesting . . . .  Because like as I’ve been reading all of this, it seemed like everything would be very much like, if I make this percent of this sale, like very—like not really negotiable. Like that makes me feel like I could be like, well, you should get two percent of this. You know, like something where I could argue it—rather than that’s just how it is.”

And another participant said:

“I’m also curious why they’re negotiable and how . . . what . . . if you’re telling me they’re negotiable, why? I wouldn’t try to negotiate them down . . . and what type of skill it would require for me to negotiate them down . . . or how low you would go.”

Interestingly, people were MORE likely to work with a broker based on the conflict of interest disclosure, because it made the firm look more candid and up-front (and therefore honest):

“I think it’s saying . . . We’re gonna be upfront and honest with you that, uh . . . we can . . . we are earning money by 46 . . . you know, convincing you to . . . buy and sell more, or especially to, um, buy certain products that might be managed by our firm, or, um, through accounts that are owned by our firm, so that we can make more money off of you.’”

In addition, there was a lot of confusion about reading about “best interest” in the brokerage “Obligations” disclosure, and fiduciary in the advisor “Obligations” disclosure, and what was revealed in the conflicts of interest disclosure:

“Cause I think in the beginning it says something about . . . ‘So, we must act in your best interest and not place our interest ahead of yours when we recommend an investment.’”

She then said that this section then sounds as if the firm would not act in the client’s best interest:

“[The firm is] going to recommend, um, certain investments, mutual funds, that’s being managed by someone, you know, related to the firm, or offered by companies that pay them money. So, they’re not really, um, looking out for your best interest they’re looking out for theirs.”

As another example, a different participant also noted that he felt the sections were contradictory:

“I don’t know, it seems . . . It seems to go against, uh . . . ‘Our Obligations to You,’ statement . . . where they’re saying, you know, ‘We have your best interests at heart,’ and then you start reading this, and . . . they’re saying, ‘Well, we don’t actually have your best interests at heart. We’re kinda . . . doing things so that we get paid.’”

The participants were also confused about what it meant to “monitor” their investments.

The short reading of these quotes is that Rand’s “study” clearly indicates that the Reg BI proposal is an absolute disaster in terms of educating consumers about who is regulated by whom, and what standards brokers and advisors are held to. 

The bigger picture here, though, is how well Rand’s “study” demonstrates (yet again) that the whole idea of “disclosure” is greatly inferior to simply requiring those who give advice to live up to certain standards.  This is why brokerage firms lobby for enhancing disclosures, while advisors lobby for tougher standards for professionals to adhere to.  Under a regime that relies on disclosures (are you listening, SEC?) the sales culture wins.

My crystal ball is telling me that the SEC is going to be stubborn about its proposal, even in the light of the Rand “study,” because the brokerage industry will tell it to.  The press, however, seems to be on the side of fiduciaries, and will question the real world impact of an initiative which, in the SEC’s own commissioned study, seemed to produce rampant confusion. 

If the SEC decides to get into a big argument defending its disastrous proposal, and the press looks for comments from people on both sides of the debate, I don’t think the brokerage industry is going to come off very well.  Prepare your own quotes accordingly: YOU are willing to live under a REAL “best interest” standard.  Why are THEY lobbying so hard for a fake one?