Are We At A Legal Tipping Point?

Are We At A Legal Tipping Point?

The financial crisis exposed just how vulnerable clients can be when there is no fiduciary standard.

It’s hard to make the law interesting, except for those rare landmark cases from the U.S. Supreme Court, like the recent ruling on same-sex marriage.

That’s the case (no pun intended) with the current discussion about the fiduciary standard. It’s a yawner for most everyone, but it could be a tipping point in the wealth management business.



Wake-Up Call

The financial crisis exposed just how vulnerable clients can be when there is no fiduciary standard, which requires advisors to always put the interests of investors ahead of their own.

Two of the ugliest transgressions in this regard came to light when the world was falling apart back in 2008. Politicians and regulators definitely took notice.

The first was structured notes, which were previously thought to be a safe investment, but turned out to be anything but that. With a Lehman Brothers-issued structured note, it took months, if not years, to get your money back.. The second wake-up call was Citigroup’s municipal bond fund fiasco, which produced $2 billion in investor losses and resulted in a $180 million legal settlement.

Both debacles were notable not only for the damage they did to clients, but also to wealth advisors. Citi’s toxic products were shown to its best clients by its best advisors. About 480 brokers convinced 4,000 high net worth investors to make a minimum investment of $500,000.  

Today, those advisors are still living with the blemish on their U5, not to mention the reputational fallout from betraying the trust of their best customers.


Protection For Clients And Advisors

The positive upshot of these twin disasters is that it has moved public opinion in the right direction – in favor of the fiduciary standard.

Just like public support for same-sex marriage didn’t occur overnight, change in the financial services industry is always slow. Reform only happens when there is a public groundswell or outcry around a particular issue. The U.S. Supreme Court ruled in favor of same-sex marriage only after more than 60% of Americans supported it.

The fiduciary standard would clearly benefit investors, but advisors also need protection from the excesses of their own firms.   When an advisor’s firm doesn’t respect the advisor’s role as fiduciary, advisors are pressured into selling products like wonky muni bond funds or opaque structured notes.

Money, Money, Money

The fiduciary standard seems like such a logical solution, the real question is why is it taking so long to be implemented?

The reason: Big money. The lobby for investment banking firms is incredibly strong. Wall Street is fighting the standard because it’s not profit-friendly.

To put it more bluntly, the selling concession earned by offering investments that meet the suitability standard – not the fiduciary standard – is much higher than the fees typically earned by fiduciaries.

For example, a structured note or a proprietary product carries a commission of 2% to 3%, compared to 65 bp to 100 bp for acting as a fiduciary.

In fact, our own research shows that most clients incorrectly believe their advisor is acting as a fiduciary, not a broker. The issue is whether vested interests will prevail over popular support for the fiduciary standard.


The Bottom Line

A law doesn’t change until it hurts more people than it helps. We have reached that tipping point in terms of the fiduciary standard.

Maybe we should all hold ourselves to the highest standard of all: What we tell our kids about the importance of always doing the right thing.


Jeff Spears is Founder and CEO of Sanctuary Wealth Services and author of the blog, Wealth Consigliere. Follow Jeff on Twitter and Facebook.

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