On Advice

Trump may kill DOL rule, but financial advice industry still needs fiduciary regulation

The current version may be cumbersome, but there are enough examples of bad behavior to justify tightening regulatory standards

Nov 21, 2016 @ 5:37 pm

By Bruce Kelly

Many in the financial advice industry reacted with jubilation after Donald Trump's upset victory in the presidential election. As a pro-business Republican, there was little doubt to many investment advisers and brokerage executives who voted for Mr. Trump that he will move to slash regulations across a number of industries, including financial services.

Clear steps in the process have yet to emerge, but Mr. Trump could very well gut the Department of Labor's fiduciary rule, a 1,000 page backbreaker of a law that has added millions of dollars of new costs for large broker-dealers such as Ameriprise Financial Inc. and Raymond James Financial Inc. and pushed smaller firms to the brink of shutting their doors for good.

As it now stands, the DOL fiduciary rule is cumbersome, confusing and expensive for businesses to put into place. (How on earth are firms to set guidelines for “reasonable compensation,” a key element of the rule, anyway?)

Yes, the DOL rule has shortcomings, but that doesn't mean that some kind of move away from the suitability standard isn't necessary. Quite the opposite. Recent regulatory actions, as well as conversations with advisers, clearly demonstrate that some sort of low cost, common sense fiduciary standard requiring sales people to put a client's interest first is sorely needed in the financial advice industry.

First, the suitability standard for brokers is out of date and too wishy washy for our data and technology driven era. Next, the financial advice industry needs a simple fiduciary rule for all advisers that would force broker-dealers and registered investment advisers to look more closely at the pricing of products sold to clients.

A glance at two recent regulatory actions from the Financial Industry Regulatory Authority Inc. shows there is little doubt but that firms have their work cut out for them when giving appropriate discounts to clients. Finra this month banged two independent broker-dealers, H.D. Vest Investment Services and MML Investors Services, for not waiving front-end fees on mutual fund A shares purchased by retirement plans and charitable organization customers.

The two broker-dealers “disadvantaged” their clients by selling them “Class A shares with a front-end sales charge or Class B or C shares with back-end sales charges and higher ongoing fees and expenses,” according to the two Finra actions, which had identical wording.

In other words, the two firms failed to give customers who bought A shares appropriate discounts. The firms also set themselves up for a “double dip” by selling B and C shares, which had delayed sales charges plus higher fees, to other clients.

Both firms received a censure from Finra over the matters, meaning notices of formal and public disapproval. Neither was fined but they were ordered to provide remediation to eligible clients who bought the funds from July 2009 through this year.

“After analyzing the data during an internal review, [MML] self-reported this matter to Finra,” said MML spokesman Michael McNamara. “We are currently in the process of reimbursing those clients who were affected, and are pleased to now put this issue behind us.”

A spokesman for H.D. Vest, Joseph Kuo, declined to comment.

Meanwhile, other discrepancies in pricing that ultimately benefit the adviser instead of the client recently came to my attention when a retirement plan adviser, Emery Levick, called me to discuss a type of flagrant double dip he ran across recently when taking a look under the hood of the portfolio of a prospective client.

Mr. Levick, a manager for small pension plans, said that he was speaking with a board member of a pension fund that was not his client but was interested in getting Mr. Levick's opinion about the pension plan's portfolio. It turns out that the adviser for the pension plan bought A shares when the client was abundantly qualified for cheaper, low cost institutional, or I shares, of the same fund, according to Mr. Levick. By not buying mutual fund I shares for one bond fund, the adviser added an extra 24 basis points in costs per year to the prospective pension plan client.

“When I see a plan holding of $500,000 to $1 million in a fund with A shares, there is absolutely no reason for that,” said Mr. Levick, whose firm US Asset Management has $176.6 million in client assets.

“All versions of institutional funds charge a lower fee back to the fund," he said. "Charging the full front end load results in a massive difference in performance. And if the manager is charging them a management fee on top of the load or the 12b-1 fee, that's double billing.”

If firms can't figure out pricing properly and stop double dipping clients, it's clear the financial advice industry needs a fiduciary standard.

After the Trump administration blows the current DOL fiduciary rule to smithereens, officials from the DOL, Finra and the Securities and Exchange Commission will be tempted to sulk. They shouldn't.

Instead, they should book a couple of rooms in the Trump International Hotel down the street from the White House, order a stack of pizzas and emerge after writing a manageable, common-sense fiduciary standard to protect investors. Don't give up on the fiduciary rule but clarify and simplify it.


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