Disclosure at the center of fiduciary tug of war

Industry groups still at odds as deadline nears

Jan 9, 2011 @ 12:01 am

By Mark Schoeff Jr.

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With the deadline approaching for the SEC to deliver a much-anticipated report about the regulation of financial advisers, the fight over establishing a universal standard of care is heating up.

At the center of the imbroglio: disclosure requirements for conflicts of interest.

“That's the huge battle,” said Knut Rostad, chairman of The Committee for the Fiduciary Standard. “This is an issue that is still being wrestled with.”

Indeed, efforts to influence the conclusions of the report are said to be continuing non-stop. The Securities and Exchange Commission must submit the report to House and Senate financial committees by Jan. 21.

The report — mandated by the Dodd-Frank Act — gives the SEC the option to promulgate a single standard of care that would apply to investment advisers and broker-dealers in their relationships with retail investors. Currently, two standards exist. Investment advisers adhere to a fiduciary duty, which requires that they act in the best interests of their clients. Broker-dealers are subject to a less stringent suitability standard.

Observers said the SEC most likely will come down on the side of a universal standard of care. But groups on both sides of the fiduciary divide remain nervous about the details — particularly those that deal with disclosure.

In a comment letter sent to the SEC on Dec. 21, Mr. Rostad railed against the claim that disclosure of conflicts would better protect clients.

“Disclosure/consent regimes permit, in law, the adviser or broker to proceed with transactions that serve their best interest, and not necessarily the best interest of the investor,” he wrote. “The fiduciary standard is not just weakened, it is removed.”

This is not the stance of some other industry groups, however. In a comment letter to the SEC, the influential Securities Industry and Financial Markets Association stated: “Retail customers should be provided with disclosure at the very outset of their relationship.”

That way, SIMFA argued, a client “would have an opportunity to make an informed choice after assessing whether any material conflicts of interest are not appropriate in light of his or her investment objectives.”

But Mr. Rostad argues that such an approach could put an investor in the unpleasant position of having to second-guess a professional adviser.

“In a fair-minded fiduciary world, the vast majority of conflicts should be simply avoided,” Mr. Rostad said. “Those that can't be avoided need to be mitigated.”

He may have his hands full convincing the SEC. After the agency's report is released — and throughout any rulemaking — SIFMA will maintain its focus on disclosure.

“SIFMA continues to believe that clear and appropriate disclosure of conflicts of interest is essential to implementing a uniform fiduciary standard of care for brokers and investment advisers,” SIFMA spokesman Andrew DeSouza wrote in an e-mail. “Such a standard must also maintain an individual investor's ability to choose to waive those conflicts for a specific investment product, strategy or practice that they feel is consistent with their best interests.”

The insurance industry is also intently monitoring what the SEC is up to. Terry Headley, president of the National Association of Insurance and Financial Advisors, acknowledged that Congress is inclined toward a fiduciary standard and that most SEC commissioners also favor it.

But he said that it's impractical to require all financial advisers to conduct a fee-based practice — and doing so would price many of NAIFA's middle-income customers out of the advice market. That makes working out the details of the regulation, especially the disclosure issue, crucial.

“What we really want to make sure is how it's shaped, how it's going to be defined and how it's going to be applied in the real marketplace,” Mr. Headley said.

NAIFA represents nearly 200,000 agents and their associates who deal in life insurance and annuities, health insurance and employee benefits, multiline, and financial advising and investments. While supportive of fiduciary duty in principle, the group is wary of the legal liability that is attached to it.

“We would be hard-pressed to find any of our members who do not believe that they operate in the best interests of their clients at all times,” Mr. Headley said. “They just don't want to have a lawsuit on the back end of it if something goes wrong. None of us is perfect.”

Mr. Rostad couldn't agree more.

“We do not serve the investing public, the markets and our economy by allowing disclosure to become a "get out of jail free' card for financial professionals whose recommendations are conflicted,” he wrote.

E-mail Mark Schoeff at mschoeff@investmentnews.com.

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