How to Navigate a World of Three Advice Standards

Here we go again: In a development that felt very last decade, yesterday the Biden administration announced its new fiduciary rule for investment professionals working with retirement accounts. This move adds yet another chapter to the government’s long-running effort to make it easier for investors to ensure a professional is putting their needs first. But while we appreciate this latest tale in the Odyssey-like quest, we doubt it really clears the situation up all that much.

For those who haven’t kept score, the Labor Department started pursuing this in 2010, and the Obama administration issued a rule in 2016. But the Trump administration halted it shortly after taking office, and legal challenges killed it in 2018. The latest attempt is narrower and claims to solve the legal problems with 2016’s version, but some industry groups have a different opinion—so fresh challenges are already forthcoming.

The Labor Department’s efforts are part of what increasingly looks like a patchwork quilt of regulatory standards applying to various financial professionals at various times. The new rule would apply only to professionals working with retirement accounts defined under the Employee Retirement Income Security Act (ERISA)—predominantly 401(k)s and IRAs. This seems narrow, but it would reach everyone advising on transactions within retirement accounts, affecting sales of products from mutual funds to fixed annuities, real estate and beyond.

The rule’s 466 pages argue this is necessary because the SEC’s fiduciary-like standard—2019’s Regulation Best Interest—leaves out real estate, fixed annuities, commodities and some CDs. Regulation Best Interest applies to all brokers working with all investment products, but in practice, it mostly amounts to reams of disclosures and some formalized loopholes.

Oh, and looming over all of this is the fact that these rules predominantly target investment sales people. Investment advisers (like Fisher Investments and other Registered Investment Advisers), regulated by 1940’s Investment Advisers Act, have been subject to the SEC’s formal fiduciary standard for nearly a century, ERISA retirement account or no.

So once the new rule takes effect in September, we will have three national fiduciary-type standards requiring various degrees of disclosure of conflicts of interest and steps taken to mitigate said conflicts. We will also retain all the relevant state regulations, so the administration’s observation that “many seemingly similar investments are subject to widely different regulators and protective standards” will probably still hold despite the stated intent to address it.^[i]

There is also a more basic issue at work here, which New York Times personal finance writer Tara Siegel Bernard explored this week:

“No financial adviser is entirely conflict-free, but the ecosystem in which your adviser works matters — and will influence what type of conflicts are embedded in the way they do business. Some brokers, for example, may be paid more to sell one product over another product. Or, the firm itself might have complex revenue sharing agreements, which is when a mutual fund company makes payments to a brokerage firm — and some funds may pay a firm fatter fees than others. Under the new rule, any financial professional making recommendations must have ‘policies and procedures to manage conflicts of interest and ensure providers follow these guidelines,’ department officials said.”^[ii]

Bingo. There are always conflicts. The rules, to varying degrees, mandate the disclosure and mitigation of these conflicts, but they can’t erase them. This keeps the onus on investors to do their due diligence to find the adviser who will do more than just tick boxes and actually values and structures itself to put clients first.

So the need to ask questions you might find uncomfortable isn’t going away. Bernard offers a biggie: “How do you get paid – and will you get paid more for recommending one investment over another?” This is critical, because some products have back-door sales incentives for the broker that the buyer never sees. Incentives matter.

Asking about a firm’s investment philosophy will also help get good information: It should be cogent and easy to understand, not full of jargon and reliant on selling complex investment products.

Firm structure is another area to explore: Does the company separate sales and service? In our view, this goes a long way to aligning incentives. Lastly, ask about the firm’s values. Do they think investor education is important? Are they focused on telling clients what they need to hear at difficult times, not simply what they want to hear?

Friends, we wish this were easier. And once upon a time, when there were clear lines between investment sales and service in the mid-20^th century, it was. Investment advisers offered counsel and portfolio management services for a fee, in accordance with strict standards. Brokers sold for commissions. And that was that. But the sales industry started blurring the lines later in the 20^th century, and some salespeople started marketing themselves as advisors—with an O, rather than the E for those subject to the 1940 rules—which muddied the waters. In our view, it would be a lot cleaner and easier for investors if those old delineations simply returned, clear as day. Instead, we get a potpourri of rules that don’t solve the core issue and could wind up giving investors a faulty sense of security.

So tread carefully and do your due diligence. Don’t rely on rules alone, since even good rules get broken by bad people. Ask questions, get information, and find the right adviser whose values mesh with yours.