Best-Interest Regulatory Standard Is Flawed

The financial service industry is moving towards higher regulatory standards.  Best interest, and fiduciary (the higher) among the probabilities. The problem is of course, that no one knows what those mean.

The dictionary definitions are clear but meaningless.  This one is from the law dictionary.

fiduciary

1) n. from the Latin fiducia, meaning “trust,” a person (or a business like a bank or stock brokerage) who has the power and obligation to act for another (often called the beneficiary) under circumstances which require total trust, good faith and honesty. The most common is a trustee of a trust, but fiduciaries can include business advisers, attorneys, guardians,administrators of estates, real estate agents, bankers, stock brokers, title companies, or anyone who undertakes to assist someone who places complete confidence and trust in that person or company. Characteristically, the fiduciary has greater knowledge and expertise about the matters being handled. A fiduciary is held to a standard of conduct and trust above that of a stranger or of a casual business person. He/she/it must avoid “self-dealing” or “conflicts of interests” in which the potential benefit to the fiduciary is in conflict with what is best for the person who trusts him/her/it. For example,stockbroker must consider the best investment for the client, and not buy or sell on the basis of what brings him/her the highest commission. While a fiduciary and the beneficiary may join together in a business venture or a purchase of property,the best interest of the beneficiary must be primary, and absolute candor is required of the fiduciary.

Openness is fine until it provokes unknowing envy.  The current condition.  Envy of high commissions does not adjust for all the cases that involved time, money and skill and returned nothing.  Context.

The definition is not helpful because there is an automatic conflict between the person providing the service and the one receiving it. The one providing is trying to optimize their own interest in context of the client needs and the recipient is trying to minimize that cost in the context of having the advisor survive to provide advice in the future.  It costs to switch.

That conflict is true in all professional relationships. Lawyers, accountants, doctors, dentists, engineers and architects agree with clients on a basis for their eventual bill, they seldom agree beforehand on the bill itself.  The client accepts the formula, hours times billing rate plus out of pocket expenses for example, or goes elsewhere.  If a professional charges for hours they did not spend, they are subject to sanctions.

With those paid by commission, the problem is harder.  Commissions for some services are quite large and that seems to imply there is a de facto conflict. If every case ended up in a sale and each was acquired with no effort, there could be a reason to believe that.  For every hour spent on a case that closes, there is at least another hour spent on ones that don’t, or in finding someone to talk to in the first place. I doubt one case in five provides an hourly rate of pay commensurate with the level of skill and knowledge required.  After overhead, most insurance and investment advisors make less than similarly trained people in other professions.

Another problem is no one knows what best interest means until after.  Which standard? The one in play at the time of sale or the one in play when the client becomes upset?  No one can know the future, so some products that were best interest at the time will fail. You can see how it plays out if you pay attention to the case surrounding Oklahoma University running back Joe Moxin who is being treated differently now than he was at the time of his infraction for assault in 2014.  The Ray Rice case in the interim, and the recent publication of video has raised a public cry that the original sanctions, a year’s suspension from the team and court ordered community service and counselling are too lenient.

Evolving standards are part of society.  Even providing best advice today is no guarantee that it will be seen as good advice in 2030. There is no defense to that problem.

Regulators, if they are acting in the client’s best interest, need to better observe the nature of the various advisors.  A weak approach will mean that clients will find a problem getting advice.

Don Shaughnessy arranges life insurance for people who understand the value of a life the value of a life insured estate. He can be reached at The Protectors Group, a large insurance, employee benefits, and investment agency in Peterborough, Ontario.  In previous careers, he has been a partner in a large international public accounting firm, CEO of a software start-up, a partner in an energy management system importer, and briefly in the restaurant business.

Please be in touch if I can help you.  don@moneyfyi.com  866-285-7772

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