Merrill Lynch and Morgan Stanley: A tale of two fiduciary 401(k) business models

The wealth management units at Merrill Lynch and Morgan Stanley within the past few weeks announced substantive changes to their respective 401(k) businesses, and while each approach shares common ground they also differ in notable ways.

Where the wirehouse brokerages primarily diverge is in the level of discretion they offer their retirement plan advisers, especially in the small-plan market, industry observers say.

While Merrill Lynch is offering advisers servicing 401(k) plans a fairly high level of discretion, Morgan Stanley is substituting some adviser discretion for more risk at the firm level, said Fred Barstein, founder and CEO of The Retirement Advisor University.

“If you look at the dial, the discretion isn’t 100% with the [Merrill] adviser, but it’s a lot [of discretion] with the adviser,” Mr. Barstein said. “The discretion of the [Morgan Stanley] adviser becomes much, much less, almost zero.”

The firms, each with adviser forces of greater than 14,000, are the first among their wirehouse peers, to outline changes to how their representatives can conduct fiduciary 401(k) business as the Department of Labor’s fiduciary rule looms.

As written, the regulation, which raises investment-advice standards in retirement accounts, would fundamentally change the way many advisers, especially those servicing smaller 401(k) plans, can conduct business, because it would turn interactions currently considered non-fiduciary in nature into fiduciary interactions carrying a higher level of risk.

To address this, broker-dealers have had to consider guidelines within which their generalist 401(k) advisers, or those who don’t specialize in 401(k) plans, can continue servicing retirement plans while controlling the firms’ risk exposure.

One of Morgan Stanley’s answers is a product called ClearFit, which advisers would need to use for 401(k) plans with less than $10 million. Morgan Stanley, rather than the adviser, assumes the fiduciary investment responsibility, monitoring and selecting the investments for the product’s fund lineup.

As an alternative, Morgan Stanley is also working with “several” approved third-party 401(k) providers for the small market to provide investment fiduciary services, a spokeswoman said. She didn’t identify any specific providers.

Merrill Lynch, on the other hand, is broadening the pool of advisers eligible to receive the training to become a designated retirement plan specialist. For example, to receive a Retirement Benefit Consultant designation, an adviser will need to advise on $30 million in plan assets, as opposed to $100 million at present.

Merrill Lynch and Morgan Stanley each have roughly 300 internally designated specialists who can service plans in a fiduciary capacity. Designated Merrill advisers are the ones who can offer fiduciary investment advice to retirement plan clients.

“You can’t say one [approach] is right or wrong,” Mr. Barstein said. “What they’re doing, and where I think all broker-dealers need to go and should go, is making that decision: Where do I want to put that discretion?”

Where the two firms are similar: the promotion of partnerships between generalist and specialist advisers.

Morgan, for example, will require non-specialists to partner with their specialized counterparts when servicing a plan with more than $10 million in assets. Merrill will require it for a plan of any size being serviced by a non-specialist.

The aforementioned changes, according to the Morgan spokeswoman, began to be rolled out at the beginning of the year and will be complete over the next few weeks. A Merrill spokeswoman wouldn’t provide detail on the exact time frame for the firm’s implementation.

The Trump administration is seeking to delay the rule’s start date, currently April 10, by 60 days, and observers see the potential for further delays and changes to the rule.

Even if this occurs, though, those observers expect many of these policies to remain in place.

“I think both models are entirely legitimate ways to go,” Marcia Wagner, principal at The Wagner Law Group, said. “You can’t have a straitjacket for the retirement industry. We’re trying to get to the same goals, and two institutions are getting there in two different ways.”

However, Chad Larsen, president and chief executive of MRP, a registered investment adviser based in Denver with more than $3 billion in retirement plan assets, says he views their respective approaches as a “fiduciary Band-Aid” that serves more as “window-dressing” rather than a solution to potential problems posed by generalist advisers.

“In some respects it’s perpetuating the problem, if you’re trying to build a structure around allowing non-specialists to stay in and drive a client relationship,” Mr. Larsen said. “It may solve the investment fiduciary issue, but still leaves a big part of the plan success potentially in the hands of people who aren’t really equipped to drive positive outcomes.”

Some observers, however, believe the market needs generalist advisers, without whom many small 401(k) plans wouldn’t receive advice.

Further, Kevin Mahoney, senior institutional consultant at The Mahoney Group of Raymond James, an advisory shop overseeing roughly $1.4 billion in defined-contribution-plan assets, said mandating partnerships between specialists and generalists may be challenging in practice, due to advisers’ general penchant for independence, the reputational risk for specialists that’s posed by generalists, and difficulty in splitting adviser fees.

“I think it depends on your service model,” Mr. Mahoney said. “If you have a very high-touch, labor-intensive service model, it’s tough to see, and it depends on how the splits are set up.”

Mr. Mahoney also pointed out a potential downside to home-office-driven, top-down fiduciary investment services such as Morgan Stanley’s, saying they’re not able to consider the specific circumstances and demographics of a client.

Ms. Wagner, though, called Morgan’s model “very creative,” alluding to the institutional pricing it affords small plans, which often sees higher fees than their large-market counterparts, and the high level of fiduciary coverage.

Through its product, Morgan Stanley serves as a 3(38) investment fiduciary under the Employee Retirement Income Security Act of 1974, meaning the firm takes discretion to add or remove funds and subadvisers. Merrill advisers, on the other hand, provide 3(21) fiduciary investment advice, a lower-risk, co-fiduciary role in which advisers recommend a course of action and the client decides whether to implement the recommendation.

However, given this fairly high level of fiduciary service, Ms. Wagner cautions advisers serving plans with more than $10 million in assets to ensure whatever service they provide “compares favorably” to ClearFit.