Advice for Sale

Posted by on 09/14/09 in Behavior, Ethics, Stewardship

What a fascinating week. Roughly one year ago, Lehman Brothers collapsed, Merrill was forced to join Bank of America and AIG’s fragility was first revealed. Of course, if you read any publication with an eye toward business or you were touched directly by the events of last fall, then you already know this and you know that the finger pointing has only just begun. Twenty years from now, economists and historians will still look to September 2008 and wonder what could have been done differently, who should have done it and how life would have been different if only…

Curiously, our little corner of the world—the buying and selling of investment advice—remains relatively unchanged. We find that fascinating given that the creation and distribution of investment products lay at the heart of many of the economic problems from which we are still recovering.

Some key items that remain unchanged:

  • There is no requirement for most investment professionals and financial institutions to put the interest of their clients first and foremost.
  • Most investors—and quite a few investment professionals—remain confused about the difference between a broker and an Adviser.
  • There is no requirement for most investment professionals to clearly disclose how they are compensated.
  • There is no restriction prohibiting investment professionals from being paid in multiple ways to distribute a single product. Thus, a financial institution can be paid to create a product, manage the product, administer the product, and then to distribute it to the end investor. They can be paid yet again to buy it back from the investor assuming they are willing to do so.
  • The titles of investment products and investment professionals do not need to reflect what they really do or their legal responsibility.
  • Most disclosures related to risk and expenses are still buried in offering documents, prospectus and other documents that are not easily read or understood by even relatively sophisticated investors.
  • Many supervisors of investment professionals are paid in large part based on the revenue generated by the professionals they supervise.
  • Most investors—and we fear many regulators—do not understand the risk inherent in “guaranteed” products such as annuities and structured notes.
  • Many investment professionals have difficulty complying with the basic ethical standards of the Investment Management Consultants Association and the CFA Institute simply because of how the industry is structured.
  • Too many investors do not have access to sophisticated, unbiased, ethically aligned investment advice.

Some of you may be thinking, “Hey, wait a second, it sounds like you are talking about health care!” And in a sense you might be correct. Both industries suffer from similar challenges. The cost to society and to individuals is incalculable yet we could agree that it must be immensely high. And both industries need to decide how to serve society going forward regardless of what is decided by regulators and congress. Whether one is a health care professional or an investment professional, merely following the law represents a fairly low standard for ethical conduct.

Last year at this time, we were asked by the radio show Marketplace what we thought would change in the investment industry. We said that there would be profound shifts in how investment advice was bought and sold. There have been shifts certainly, but they are far from profound. There are many who have a significant stake in the status quo in the investment industry; it is curious how little they have had to do to defend it.

When it comes to empowering investors, there remains much to be done.