As the Department of Labor (DOL) and the Securities and Exchange Commission (SEC) prepare to address the issue of who is bound to act in the best interests of an investor, the federation hosted a discussion with four personal finance advocates and experts about retirement security. Individual investors are at risk when they don’t understand the specific fiduciary obligations of financial professionals.
The rulemakings of the SEC and the DOL have several themes in common, says Barbara Roper, director of investor protection for the Consumer Federation of America. Both agencies are attempting to close regulatory loopholes that allow individuals or entities to offer advice without adhering to the standards for giving advice, she says. The discussion concerns whether sharp distinctions will be made between advice and a sales pitch dressed as advice. “Advice isn’t a sales pitch,” Roper says.
Evidence suggests investors do not understand the difference, Roper says. They cannot distinguish between the individuals who provide advice and those who sell products. Investment advisers are regarded as advisers and broker/dealers as salespeople, points out David Certner, the legislative counsel and director of legislative policy for government affairs at AARP.
“But the line is quite blurred,” Certner says. And as broker/dealers compete for consumers, they have encouraged this blurring of lines and present themselves as trusted advisers. “They might call their services investment planning, financial planning. But they’re regulated as sales people.” Investors and consumers do not really distinguish between these two types of professional, and they don’t understand the regulatory differences, he says. Consumers generally take for granted that advice is given in their best interest.
The discussion about fiduciary definitions is increasingly important because it affects retirement security. “It has gotten more difficult for most people to save for retirement,” says Lisa Donner, executive director of Americans for Financial Reform (AFR), a coalition of more than 200 national, state and local groups that work together to reform the financial industry.
Individuals have a growing burden to make more financial decisions about their savings, Donner says. Americans need specialized knowledge and are ever more dependent on advice from professionals. The problem for investors is that not all professionals are obligated to give advice that is in the investor’s best interests, but it can be hard for them to tell the difference. The cost of getting bad advice can be extraordinarily high, she says. “Fees can add up to hundreds of thousands of dollars over a lifetime.”
In answer to the argument that middle income investors cannot be served under a fiduciary standard, Sheryl Garrett, founder of Garrett Planning Network, says the status quo limits the industry’s motivation to innovate. “These investors pay a disproportionate share of fees and commissions under current regulations,” she says. “But we’re seeing business models coming out and evolving to meet the demand of individual investors and pre-retirees, even with relatively few assets.”
Firms such as LearnVest, Cambridge Advisors and Rebalance IRA have sprung up offering fee-based, conflict-free advice. “We do evolve, and we need to,” Garrett says, pointing out that hundreds of providers now exist in this industry.
“The regulation to require a fiduciary standard if you’re given advice doesn’t even exist yet and the marketplace stepped up to meet demand,” Garrett says. Garrett’s own firm has more than 300 advisers across the country who work on hourly basis and adhere to a fiduciary standard. They sell only advice and time, and the movement is growing, she says.
Most investors and plan sponsors prefer that the financial professional dispensing advice be guided by a fiduciary standard that means he is working in the best interests of the investor. Certner cites a recent AARP survey that revealed widespread support for advice being in the best interest of the plan participant. (See “Sponsors Support Stricter Fiduciary Standards.”)
Some in the industry have raised objections to a fiduciary standard that would include broker/dealers. One argument is that imposition of the fiduciary standard means consumers will lose access to valuable products and services, and providers will not be allowed to charge a commission based on transactions. A third argument is that people should just let the market work and allow people to decide on the approach they prefer.
“No one who has read the SEC’s financial literacy study would take these arguments seriously,” Roper says. (See “SEC Issues Financial Literacy Study.”) “Disclosures alone won’t help to effectively convey a topic that is so complex.”
Any category of investments has a huge array of products in it, whether it is variable annuities or large-cap stock funds, Roper says. A professional can have available dozens or hundreds of options, with vastly different costs, guarantees, risks, levels of volatility to get the same return. There are always characteristics that make one or the other product much better for the investor.
“When investors are steered into investments with higher costs or with higher risks but are highly lucrative for the people making the recommendation, they can suffer real harm,” Roper says. These investment products and choices have material impact on people’s ability to save for a decently adequate retirement.
Garrett says investors could in fact lose access if broker/dealers are subject to a fiduciary standard—but the access they will lose is to substandard products and services. There may be fewer products, she admits, but the available choices will be better. Also, she notes, more choice is in fact undesirable. An investment menu with fewer choices brings more participants into the plan and allows them to feel more comfortable. “Add more investment options and you see meltdowns,” she says. “Fewer choices and better choices is what we need. Commissions are not being banned. If we don’t put in rules to force good behavior we know what happens. ”