Recently, my brother-in-law, Brian, went shopping for a new car. As he is in the midst of his first “mid-life crisis,” he had his heart set on a vehicle that was sporty and fun-to-drive. Brian, however, has two elementary-school-aged children and a limited budget to match. Nonetheless, each salesperson he encountered enthusiastically described the merits of whatever luxury sports car Brian was ogling on the showroom floor. They would extol the car’s safety features and rave about how Brian’s overall outlook-on-life-itself would be made immeasurably better if he purchased the hot number. That newly-acquired sunny disposition (fueled by a burst of testosterone) certainly would benefit both him and his family! With the safety features, including air-bags and rear-view cameras, now required or standard in most new vehicles, it would be difficult to argue that any current model automobile is not “suitable” for Brian and his family. Imagine, for a moment however, if car dealers were subject to a fiduciary standard and needed to act in the exclusive best interests of their customers. The salesperson might be required to say, “I’m sorry, sir, we cannot sell you this red Ferrari. It is not appropriate for a family of four with two kids under 8-years old and you can’t really afford it anyway; please see the dealer next door and tell them that I sent you over to buy a minivan” if he believes that that is best for you!
This scenario is, of course, ridiculous. We intuitively understand that the salesperson is selling a product. He or she needs to earn a commission and will make every reasonable (and, often, unreasonable) argument necessary to sell cars. We don’t, even for a second, have any notion that the salesperson is, or should be, looking out for our best interests.
Speaking at the annual Securities Industry and Financial Markets Association conference in Phoenix earlier this week, U.S. Securities and Exchange Commission Chair Mary Jo White said that her agency should adopt uniform fiduciary standards for broker-dealers and investment advisers. Her statement followed the U.S. Department of Labor’s similar proposal to force financial advisers to put client interests ahead of their own when recommending retirement investments.
Some industry observers have suggested that the imposition of a fiduciary standard on brokers could dramatically “reshape the industry.” Under current regulations, brokers must make “suitable” recommendations, meaning that the investments generally have to fit the customer’s needs and tolerance for risk. A number of investor groups say the current rules don’t go far enough to limit conflicts of interests for brokers, who are paid commissions by mutual funds and other companies for selling their products.
Unlike brokers, investment advisers, also supervised by the SEC, already are required to put their clients’ interest first. Although brokers have been receptive to discussing the issue, they still want to be able to charge commissions instead of collecting fees based on asset size, as is the norm for investment advisers.
How could a fiduciary standard possibly be a bad thing? Many Republican congressmen and the SEC’s two Republican commissioners believe that a fiduciary standard will be costly for brokers and could cause them to drop less wealthy clients. Although White’s support for the measures aligns her with the Obama administration, congressional Democrats and the two Democratic SEC commissioners, she acknowledged that it is essential to get the balance right. She said, “At the end of the day, if all we succeed in doing is depriving investors of reliable, reasonably-priced advice, we will have failed in that effort.”
Labor Secretary Tom Perez said in a speech last week that current rules enable biased financial advice by brokers which jeopardizes workers’ nest eggs. He vowed to complete the fiduciary rule before President Barack Obama leaves office.
There’s no assurance, however, that the SEC could complete a final fiduciary rule during that same timeframe. The staff first would need to draft a proposed rule and then open it to several months of public comment. The agency then probably would need to revise the regulation before the Commission would vote on its final form.
For many consumers, a purchase of a large-ticket item, like a car, will be a far more common occurrence, and involve substantially greater amounts spent, relative to the amounts invested in securities recommended by brokers. Is there really that much difference between a car salesperson and a broker representative? I think that most people know when they are being “sold.”