In April 2016, the U.S. Department of Labor (DOL) issued final rules on conflicts of interest among investment advisors of retirement accounts.  Under the new rules, investment advisors must adhere to a stricter standard (i.e., the “fiduciary standard”) of performance with respect to assets held in qualified retirement plans.  The “fiduciary standard” requires advisors who are registered with the SEC to act in a client’s best interest (even in instances where the action is directly averse to the advisor’s best interest).  The rule replaces the “suitability standard” whereby investment advisors were allowed to make recommendations that were suitable (but not necessarily ideal) for a client, based on the client’s circumstances.

Background Information within Context of Financial Services Industry

The Federal Fiduciary Rule was championed by the steadfast lobbying activities of consumer protection groups, with additional support coming from investment advisors currently bound by the fiduciary standard.  Not surprisingly, the institutional brokerage firms on Wall Street (i.e., Goldman Sachs, JPMorgan Chase, etc.) adamantly opposed the stricter standards, claiming that new rules will result in increased investment costs to be passed on to consumers.  In addition, the Wall Street firms opposed the costly compliance burden they will face as a result of the Fiduciary Rule.

An interesting aside to last month’s ruling, the DOL clearly expressed the following views on investment costs and advisor pricing:

• The interests of investors are best served by investment products and advice with low costs,
• The “hidden fees” and “backdoor payments” charged within the financial services industry are harmful to American workers and their families, and
• Investment products and services without predatory pricing would reduce investment cost, increase transparency, and boost overall returns.

Underlying Message of Department of Labor.  The DOL’s new rules contain an underlying message for investors relying upon an investment advisor, as follows:

Insights and Suggestions

Based on my understanding of the DOL’s new rule and the current climate of the financial services industry, I suggest investors be aware of the following:

• The fiduciary rules’ application to retirement accounts only,
• The government’s track record for regulating the financial services/securities industries.  Despite the “good intentions” of this rule, government oversight of the financial sector has historically been unsuccessful (think Enron, the near collapse of real estate/mortgage industry, the ensuing credit crisis, etc.),
• Selecting an investment advisor of reputable character, adequate professional credentials, and ethical/moral standards consistent with your own.  As previously stated, relying on government regulations is not a sufficient method for mitigating unethical/illegal actions.  If possible, I advocate investors take a proactive approach to selecting their investment advisor.  For example, I suggest soliciting referrals from a number of trusted contacts, performing due diligence on candidate’s backgrounds (including online queries/searches), interviewing the advisor at least once prior to selection, and requesting referrals from advisors existing clients, and
• Ambiguous compensation terms for advisors as a result of complicated financial investments.  In general, investment costs, terms, conditions, and restrictions should be understandable and logical.  It is common for individuals to be intimidated by investments in financial securities (i.e., stocks/bonds/mutual funds, etc.) and timid when it comes to asking questions.  However, it is vitally important for investors to read all contracts, engagement letters, and other documents to ascertain the true cost of an investment advisor.  At least, investors should refer these items to someone that can perform these tasks on their behalf.
• Increase in investment fees related to assets of retirement accounts and, potentially, discontinued advisory services for retirement accounts of consumers

Final Thoughts

It is troubling to learn that the financial services industry is requiring government regulations to mandate investment advisors act in the best interest of their clients.  This is a particularly disturbing discovery within the context of investor retirement accounts.

Based on this environment and the massive frauds of recent years (i.e., Madoff, Stanford, etc.), it is evident that investors are facing added risks from investing in national exchanges.  As such, it is imperative that investors exercise extreme caution in selecting advisors that meet the criteria identified previously.

In my opinion, investment advisors undoubtedly have a fiduciary responsibility to their investors.  From a legal and ethical standpoint, however, investors may end up as the one assuming the risk and possibly holding the bag.