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Who’s Your Fiduciary? Who’s Your Daddy?

Does your stockbroker have a hidden fee interest in what he’s peddling? Does he have to tell you? It depends on what the SEC decides about holding brokers up to higher, fiduciary standards.

From left: Federal Deposit Insurance Corporation (FDIC) Chair Sheila Bair, Securities and Exchange Commission (SEC) Chair Mary Schapiro, and Commodity Futures Trading Commission (CFTC) Chairman Gary Gensler, wave to senators on Capitol Hill in Washington, Thursday, Sept. 30, 2010, as they arrive to testify before the Senate Banking Committee hearing on implementing the Dodd-Frank Wall Street Reform and Consumer Protection Act.

From left: Federal Deposit Insurance Corporation (FDIC) Chair Sheila Bair, Securities and Exchange Commission (SEC) Chair Mary Schapiro, and Commodity Futures Trading Commission (CFTC) Chairman Gary Gensler, wave to senators on Capitol Hill in Washington, Thursday, Sept. 30, 2010, as they arrive to testify before the Senate Banking Committee hearing on implementing the Dodd-Frank Wall Street Reform and Consumer Protection Act.

AP Photo/Manuel Balce Ceneta

When it comes to our hard-earned cash, we’re more on the ball and have a tighter grip on our financial future since the Great Recession began in 2008, according to the recent release of Fidelity Investment’s “Five Years Later” study. Yet many “retail customers,” those of us using investment guidance mainly for family and household purposes, are unaware that there are two standards — fiduciary and suitability — governing those who sell investment advice, services and products.

Broker-dealers are currently held to the suitability standard of care, which requires only that brokers recommend a product consistent with the investor’s objectives and risk tolerance. Registered investment advisors (RIAs) are bound to the more restrictive fiduciary standard, requiring them to act in their client’s best interest and disclose any conflict of interest. A provision in the Dodd-Frank Wall Street Reform and Consumer Protection Act (which became law in 2010), calls for a uniform fiduciary standard for anyone providing retail investment advice. Lawmakers are leaving it up to the Securities and Exchange Commission to decide whether dealer-brokers should follow the same standard of care as RIAs.

But the nation’s top regulator is behind schedule in making a decision on a uniform fiduciary standard. The SEC is taking time to get input from industry groups and is wrestling with other decisions attached to the behemoth Dodd-Frank Act — the broadest financial reform since the Great Depression. Yet, as brokers await a decision, many say they already act in a fiduciary capacity, including those at Birmingham-based Sterne Agee Group Inc., one of the largest privately owned brokerage firms in the United States.

Sterne Agee Chairman and CEO Jim Holbrook doubts his company’s advisory clients will experience any changes, because their relationships are already fiduciary. Holbrook believes investors will not necessarily receive better advice because of the rule but will gain more transparency in their relationships because of the mandate that each type of relationship be clearly understood by both the client and the investor. He also believes that many investors lack a clear understanding of the type of relationship they have with their investor. And he’s optimistic that the SEC can implement the new rules in a cost-effective manner for firms that will not result in higher transaction costs for investors.

“It is our understanding that the Dodd-Frank Act requires the SEC to investigate the need to create such a (uniform) standard and do so if it deems it necessary,” Holbrook observes. “However, it does not require the SEC to mandate such a rule. Sterne Agee hopes the SEC will proceed with the creation of this standard in the near future. We have always believed that we had a fiduciary relationship with our advisory customers, and we feel that all investors should expect a consistent standard of conduct from all investment advisors.”

Holbrook notes that the SEC must keep in mind that broker-dealers are involved in many other businesses in addition to providing investment advice, and these businesses should not be adversely affected by the creation of a consistent fiduciary standard.

Alabama Securities Commission Director Joseph Borg says that the SEC conducted studies a few years ago and determined that Main Street investors do not know the difference between a stockbroker and an advisor, or that two different standards apply. Borg says the SEC’s delay in ruling is due primarily to initial opposition from brokers and the need for additional SEC funding from Congress.

Borg is uncertain what the change will mean, because it is still uncertain as to what the new standard will be. Will it be the fiduciary standard as it exists in law today or something else? “If the new standard has exemptions that undermine all of the fiduciary protections or so many nuances for the brokers, then it may not really resolve the issues. Remember that retail investors think that brokers are required to watch out for their best interests, which is incorrect. If the new standard is just the current standard with a new name, then confusion continues. So we really don’t know what the effect will be.”

In July, SIFMA (Securities Industry and Financial Markets Association), a leading Wall Street trade group, released its response to an SEC request to help inform the agency’s cost-benefit analysis of a uniform fiduciary standard for broker-dealers and investment advisors. While SIFMA says it’s “strongly supportive” of a uniform fiduciary standard, it found that compliance will cost member firms millions of dollars; costs the industry is, for the most part, willing to bear in order to meet the new standard.

Kevin Carroll, SIFMA’s managing director and associate general counsel, says the argument has long since moved past determining which is a higher ethical standard (fiduciary or suitability) or whether a uniform standard should be in place. “The SEC has been acting, but there are many steps, and they want to do it right. They need to establish a framework to protect investors but not impose unnecessary costs or burden, or reduce choice, access or availability of products and services to investors.”

Carroll does not think the SEC will come up with a ruling on a uniform fiduciary standard this year. “It’s certainly not happening fast enough for some people, but it’s moving forward as part of a broader initiative to improve broker-advisor relations.”

What should investors do now?

What should you be asking your broker now, even before the regulations go into effect, to get the best possible advice? Borg urges retail investors to ask questions about fees being paid, and find out whether their broker is receiving a referral fee or commission for selling a particular product. Also ask if there is an equivalent, less expensive product whether the broker sells it or not. Borg points out that a fiduciary would have to disclose such information.

Holbrook believes clear and open communication between the advisor and investor is vital. The advisor must understand exactly what the investor’s goal and objectives are and make it clear to the investor what the expectations are for the agreed-upon strategy. All investors should do this whether the rule is adopted or not, he adds, and feel confident that both understandings are firmly in place. “The issue is not which set of rules is better, but rather the need to have a consistent standard that all providers of investment advice must adhere to that provides the proper protection to the individual investor.”

Jessica Armstrong is a freelance writer for Business Alabama. She lives in Auburn.

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