With the DOL fiduciary rule now defunct and the SEC considering a ‘best interests’ standard for brokers, the blurring of the lines between sales and advice in financial services has worsened.
There was a time that investors knew the function of a broker-dealer was solely to facilitate transactions of financial products. The broker was a salesperson and was in the business of earning a commission, which might or might not be in their best interest.
Today, however, brokers aren’t called brokers. Most have trust-building titles such as “wealth manager”, “financial advisor” or “private banker.” If they have been very successful, they might even be called a “Managing Director.”
Inside the firm, though, they are called something different: Producers.
The job of a producer is to maximize the sales revenue they generate for their firm. And, remember the impressive “Managing Director” title? This means that they are really good at it and are focused on “maximizing the revenue per unit of time they spend on each client” (an exact quote from a top producing ex-MD of a large firm).
Their compensation is an ever-changing matrix designed to incentivize them to generate more revenue each year.
In every broker-dealer branch in the country, each sales rep knows how he stacks up against his peers. I worked in a branch where prized corner offices were given and taken away based on the producer’s relative ranking. Each month, the new list was posted outside the manager’s office for all to see.
That’s the stick. Here’s the carrot.
There are usually three of them. All of the brokers across the firm are ranked by their production. The top circle of brokers wins an annual trip to Europe or somewhere luxurious abroad. The second level win a trip to the Broadmoor or the Greenbrier. The third level get a less exciting domestic getaway. These are rewards for the biggest producers. Once you make it in to one of these circles, you don’t want to slide down in the ranking.
The lines blur more every year.
A decline in employer-funded pension plans precipitated the need for millions of Americans to save and plan for their own retirement. Brokers no longer function as order takers for stocks and bonds. Customers are looking for different products and services. Brokers now create financial plans and place client money in to “fee-based” accounts. It all feels like advice.
But it’s not. At least, it’s not supposed to be.
In a summary on his public comment letter on the SEC’s proposed advice rule last week, Michael Kitces wrote:
Yet, while the SEC’s efforts to lift the standards of advice being delivered by brokers is laudable, arguably its effort to do so by applying Regulation Best Interest to the “pay as you go” episodic or transaction advice of brokers inappropriately redefines the Investment Advisers Act of 1940 itself… which knowingly subjected broker-dealers to a lower standard than that of investment advisers specifically because brokers are not supposed to be in the business of advice (ongoing or episodic) in the first place, and were only permitted to provide advice to the extent that advice was/is “solely incidental” to the sale of brokerage products and services.
Here’s the rub, there are a lot of good people working in these brokerage firms who are giving their clients advice. Despite the incentive system designed to nudge them to treat their customers like profit centers, these sales reps earned their CFP® and view their role as trusted advisor. They act as advisor even though they are housed in a business model designed to be an exception to financial advice. The problem is that a fiduciary relationship cannot exist inside of or adjacent to a broker-dealer business model. The two are mutually exclusive.
Last week, whistleblowers from Wells Fargo Wealth Management described the perils that sales incentives created between their brokers and the firm’s high net worth clients. Here are a few highlights from an article in the Wall Street Journal:
Wells Fargo often mandated client quotas for riskier alternative investments, such as private equity and hedge funds, regardless of whether they were appropriate
Advisers had goals of $64,000 in annual product sales for private-bank clients, or those with assets above $2.5 million on the Investment Fiduciary Services platform. If they didn’t hit the target, they were removed from top branches
Among employees, 2015 became known as “the year of the annuity” because advisers would push clients into these higher-fee products to meet their revenue targets. Some advisers would redeem clients from annuities that had large surrender charges and place them into another product with annual fees of 1% to 1.5%
This is happening in every brokerage firm in America with different products, different services, and different sales incentives.
Is this why after interviewing more than 200 investment management leaders and surveying approximately 3,300 investment professionals, researchers at the CFA Institute found the following?
- Only 28% of respondents report staying in the investment industry to help clients.
- Another 36% believe that acting in their clients’ best interests implies taking on career risk.
How this continues in 2018 in the wealthiest country on earth is a mystery to me.
Good advisors should be breaking away from these firms in droves and setting up independent advisory firms or joining existing ones. This is happening, but it’s a trickle not a waterfall.
Shouldn’t investors have easy to understand plain language descriptions of incentive structures and be able to easily distinguish between a salesperson and a true fiduciary adviser?
I think so.
Brokers and fiduciaries just don’t mix.
My mother always told me that if you have nothing nice to say, say nothing at all. I’m sorry to disappoint her but some truths need to be spoken.