Richard Dawkins, famed Oxford zoologist and atheist, has often said it is impossible to legislate morality. However, more than two years after the beginning of a market meltdown, a Congressional conference committee unveiled a 2,000-page bill trying to do just that.
This pending legislation represents the most significant changes to financial regulations since the Securities Act of 1933 and related Securities Exchange Act of 1934. Financial institutions will see new limits on their investing and lending activities and pay new fees to cover the cost of enforcement.
Unfortunately, Mr. Dawkins may be right because the legislation doesn’t resolve a fundamental question about how to protect individual investors. For several years, commission brokers and fee advisors have debated alternative standards of client care. Brokerage houses have argued for their continued adherence to the “suitability” standard. Suitability means a product is appropriate for a client’s investment needs and timeline.
Fee advisors have argued the suitability standard is too lax and that all recommendations should meet a “fiduciary” standard. Fiduciary means advisors must always act in the client’s best interest. If this seems a tad confusing, think of it as good and better – just like the popcorn sign at the movies. Suitability is good. However, fiduciary is better because many investment products could be suitable but maybe only one is in your best interest. Phrased differently, the suitability standard allows the broker’s interests to sneak into the equation.
It seems so basic that a bill to protect investors would require all investment professionals to act in their clients’ best interests – always. However, the pending financial legislation doesn’t. Instead, the bill directs the SEC to do a six-month study of the differences between the suitability and fiduciary standards. Then, the SEC can decide whether brokers have to be fiduciaries.
We can hope that the SEC will select the fiduciary standard for all investors. However, one word should give pause to that hope – politics. For years, Bernie Madoff managed to game regulators to prevent detection. How much more vigorously might brokerage houses besiege the SEC and Congress to prevent the fiduciary standard’s passage when hundreds rather than merely tens of billions of dollars are at stake?
You might wonder how this discussion of fiduciary versus suitability standards found its way onto a blog about paying for college. Are you getting answers about one of life’s biggest purchases, your kid’s college, from someone who provides suitable products or fiduciary advice?
