Okay. They are finally getting close to passing this law, but it includes a study that may delay its implementation for a few years. It seems that the government wants disclosure for retail customers, but they do not know what a retail customer is, so they have to have a study. In addition, they want disclosure for retail customers, but they have to have a study to determine what to put in that disclosure to retail customers.
Right now, their definition of a retail customer is:
(A) receives personalized investment advice about securities from a broker or dealer; and
(B) uses such advice primarily for personal, family, or household purposes.
Of course they are not sure about this, so there will be a study to determine the proper definition of a retail customer.
A couple of things jump out at me in this definition. Registered Investment Advisers must be exempt, because they are not listed in Section (A) above. (See page 1278 of 1705 lines 7, 8 & 9)
http://frwebgate.access.gpo.gov/cgi-bin/getdoc.cgi?dbname=111_cong_bills&docid=f:h4173rfs.txt.pdf
I guess that a retail customer is something that only brokers or dealers work with, not investment advisers according to this bill.
The second thing that I noticed is that in Section (B) above, there is no provision for "businesses, charitable organizations, pension plans, or trusts." I guess the House Financial Services Committee does not think that these need the same protections as their definition of retail customers.
Another curious thing that I find in this bill is that the term "customer" does not include an investor in a private fund managed by an investment adviser, where such private fund has entered into an advisory contract with such adviser. Excuse me, but would not the scandulous Mr. Bernard Madoff be considered a manager of a private fund? Or, would not the feeder funds that feed Mr. Bernard Madoff money, be allowed to continue business as usual as a result of this exemption?
Of course, the more I read into this Section 7103, the more errors that I find. Now, I see later in the bill that they added investment advisers to the definition of a retail customer. See page 1280 line 10. This must be a staffing mistake. Why is it not on page 1278, but it is on page 1280? Looks like the makings of a Technical Corrections Bill that will follow. Unless of course, someone reads this blog and fixes it beforehand.
Later in the bill, brokers or dealers are going to be subject to not only FINRA rules, but also the same rules that investment advisers are subject to upholding. Wall Street firms must have slipped on this one. I am surprised that they did not lobby out of this one. After all, there are a ton of brokers out there and dealers too, who have blemishes on their record. Routinely, these brokers and dealers have not had to tell their customers about their backgrounds. Apparently, now, if they are subject to the same rules as investment advisers, then they will not only have to tell their customers about their backgrounds, they will have to do so in writing. This goes for insurance agents and insurance company broker/dealers. This will be a interesting development. I know several advisors who have fines, suspensions and the like on the records, but they never tell their customers about them. What do you want to bet that these type of unscrupulous advisers fail in their efforts of full disclosures?
This rule ends with the granting of the SEC to obtain a study to determine what a retail customer is, what potential conflicts of interest are presented, the differences between investment advice from various providers like brokers, dealers or investment adivsers. Then, after the completion of the study, the law gives the right to the SEC to implement the rules.
The major points of this study that they need to clarifiy are the following:
1) what is a retail customer? (I'm not kidding.)
2) what is the range of products and services sold or provided to retail customers and are the sellers under the watchful eye of the SEC?
3) how are these products or services sold to retail customers, what are the fees and conflicts of interests that may arise as a result?
4) what should customers receive prior to purchasing these products or services and who is the appropriate person or entity to provide such information?
5) they want to ensure that reasonably similar products and services are subject to similar treatment and disclsoure requirements.
Did you notice that I did not mention anything about a fiduciary duty? Well, the Wall Street firms may believe that they have dodged a bullet, but guess what? The fact that this bill, like I mentioned above, subjects brokers or dealers to the same rules as investment advisers, this means that they will be subject to the fiduciary duty requirements. Whoops! Wall Street needs some new lobbyists. They failed to catch this one.
Boy. I do not know about you, but I feel a lot safer now for "retail customers," don't you? I sure am glad we have the government to take care of us. Yes, I am being facetious.
Showing posts with label investment adviser. Show all posts
Showing posts with label investment adviser. Show all posts
Thursday, March 4, 2010
Friday, June 19, 2009
A Fiduciary Standard Watered Down
There is no doubt that the fiduciary standard for anyone who renders investment advice would be a good thing. However, in the Obama Administration's White Paper, on page 72 to be exact, there is a statement that concerns me greatly. It reads:
prohibiting certain conflicts of interests and sales practices that are contrary to the interests of investors.
You can read it here: http://www.financialstability.gov/docs/regs/FinalReport_web.pdf
What bothers me is the word "certain" in that statement. My interpretation, based on my experience, would mean that selling from broker/dealer inventory would be one of the conflicts of interest that they are referring to. Broker dealers currently are allowed to buy stocks of various companies and keep them in inventory. They typically buy companies that are widely held. When their customers want to buy that same stock, then the broker/dealers sell them the stock from their inventory. The broker/dealer may have bought the stock at a lower price and sold it from inventory to the client at a higher price. If they do not have the stock at a lower price, then they let the customer buy it outside of their inventory. The do not normally sell their inventory positions at a loss. It is easier for them to let the client buy it from the exchanges. Obviously, they stand to make more money by selling from inventory.
I believe that broker/dealers would gladly give up selling from inventory for the ability to be a fiduciary under the forthcoming watered down rules. What we will see, in regard to the fiduciary standard, is that broker/dealers and their FINRA registered representatives will be able to continue doing business as usual. They will only have to disclose their conflicts of interest, then they can continue selling commission based products instead of fee only investment advice in a client's best interest.
The tactic being pushed to the media from Mary Shapiro, SEC Chairman is that broker/dealers and investment adviser's services are "substantially identical" as far as the public is concerned.
See this article from Financial Planning's web site for comments from Mary Shapiro:
http://www.financial-planning.com/news/schapiro-fiduciary-standard-sec-2662329-1.html?ET=financialplanning:e447:1882177a:&st=email
This could not be further from the truth. Besides, the fact that the consumer is not able to distinguish between a FINRA registered representative and an investment adviser is because of the "solely incidential" rule. The solely incidental rule, sometimes called the "Merrill Lynch" rule is the rule that opened the flood gates allowing FINRA registered representatives the ability to wear two hats. When they want to sell products, they slide the brokerage agreement in front of the client, all the while neglecting to mention any conflicts of interest. By wearing the FINRA hat, they do not have to disclose conflicts of interest. They can also wear the hat of an investment adviser. This is why they are known as dually registered (wearing the more profitable FINRA hat at the time of the transaction, of course.)
You rarely see a dually registered FINRA sales person as a 100% fee only investment adviser. They have to hit their sales quotas to keep their offices. Most FINRA broker/dealers have as their sales quotas upwards of $250,000 in revenue per year and higher. If you do the math, then you will see that in order to produce $250,000 in revenue as a 100% fee only advisor for the FINRA broker/dealer, then this means that this FINRA registered representative would have to bring in net new assets each and every year of $16,666,666.67. This is using 1.5% as the annual fee for the calculation. ($16,666,666.67 x 1.5% = $250,000.) Let me assure you, very few FINRA registered representatives can do this each and every year. I can promise you that FINRA broker/dealers are not going to lower their yearly sales quotas.
As a result, my educated guess is that we will see a watered down fiduciary standard that allows FINRA registered representatives to still wear two hats and still "pretend" to do things in a client's best interest. It will be even worse if FINRA itself is allowed to be the regulator of registered investment advisers. That would be the nail in the coffin for consumers of financial services. Wasn't the goal here to protect consumers?
You can read more about it in my book, Keep Your Assets. Take My Advice.
prohibiting certain conflicts of interests and sales practices that are contrary to the interests of investors.
You can read it here: http://www.financialstability.gov/docs/regs/FinalReport_web.pdf
What bothers me is the word "certain" in that statement. My interpretation, based on my experience, would mean that selling from broker/dealer inventory would be one of the conflicts of interest that they are referring to. Broker dealers currently are allowed to buy stocks of various companies and keep them in inventory. They typically buy companies that are widely held. When their customers want to buy that same stock, then the broker/dealers sell them the stock from their inventory. The broker/dealer may have bought the stock at a lower price and sold it from inventory to the client at a higher price. If they do not have the stock at a lower price, then they let the customer buy it outside of their inventory. The do not normally sell their inventory positions at a loss. It is easier for them to let the client buy it from the exchanges. Obviously, they stand to make more money by selling from inventory.
I believe that broker/dealers would gladly give up selling from inventory for the ability to be a fiduciary under the forthcoming watered down rules. What we will see, in regard to the fiduciary standard, is that broker/dealers and their FINRA registered representatives will be able to continue doing business as usual. They will only have to disclose their conflicts of interest, then they can continue selling commission based products instead of fee only investment advice in a client's best interest.
The tactic being pushed to the media from Mary Shapiro, SEC Chairman is that broker/dealers and investment adviser's services are "substantially identical" as far as the public is concerned.
See this article from Financial Planning's web site for comments from Mary Shapiro:
http://www.financial-planning.com/news/schapiro-fiduciary-standard-sec-2662329-1.html?ET=financialplanning:e447:1882177a:&st=email
This could not be further from the truth. Besides, the fact that the consumer is not able to distinguish between a FINRA registered representative and an investment adviser is because of the "solely incidential" rule. The solely incidental rule, sometimes called the "Merrill Lynch" rule is the rule that opened the flood gates allowing FINRA registered representatives the ability to wear two hats. When they want to sell products, they slide the brokerage agreement in front of the client, all the while neglecting to mention any conflicts of interest. By wearing the FINRA hat, they do not have to disclose conflicts of interest. They can also wear the hat of an investment adviser. This is why they are known as dually registered (wearing the more profitable FINRA hat at the time of the transaction, of course.)
You rarely see a dually registered FINRA sales person as a 100% fee only investment adviser. They have to hit their sales quotas to keep their offices. Most FINRA broker/dealers have as their sales quotas upwards of $250,000 in revenue per year and higher. If you do the math, then you will see that in order to produce $250,000 in revenue as a 100% fee only advisor for the FINRA broker/dealer, then this means that this FINRA registered representative would have to bring in net new assets each and every year of $16,666,666.67. This is using 1.5% as the annual fee for the calculation. ($16,666,666.67 x 1.5% = $250,000.) Let me assure you, very few FINRA registered representatives can do this each and every year. I can promise you that FINRA broker/dealers are not going to lower their yearly sales quotas.
As a result, my educated guess is that we will see a watered down fiduciary standard that allows FINRA registered representatives to still wear two hats and still "pretend" to do things in a client's best interest. It will be even worse if FINRA itself is allowed to be the regulator of registered investment advisers. That would be the nail in the coffin for consumers of financial services. Wasn't the goal here to protect consumers?
You can read more about it in my book, Keep Your Assets. Take My Advice.
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