On Wednesday, Ronald O'Hanley, Fidelity's president of asset management and corporate services urged congressional action to stave off what he described as "a looming retirement crisis," appealing to lawmakers to pressure the Department of Labor
Ron Rhoades of ScholarFi Inc. in Alfred, N.Y. and the former incoming chair of NAPFA, said O'Hanley's arguments "lack substance and ring hollow" and submitted the following response.
Rhoades concluded: "The only thing that is limited by the fiduciary standard is the greed of Wall Street."
Give it a read and we encourage you to respond below with your thoughts on the pontential ramifications of the fiduciary standard.
Wall Street is unleashing its attack dogs to try to stop the EBSA from re-releasing its proposed rule, "Definition of Fiduciary." Wall Street's lobbyists are out storming the Administration, and particularly the Office of Management and Budget (through which the rule must first pass, before it is released). And Wall Street, with its millions of millions of campaign contributions, is seeking support from Congress as well.
As readers are likely aware, the Department of Labor's Employee Benefits Security Administration is likely to re-propose, this year, an expansion of the definition of "fiduciary" under DOL rules to encompass nearly all providers of investment advice to ERISA plans. In addition, under statutory authority already granted to it, it is likely to require that advice provided to IRA accounts also fall under ERISA's tough fiduciary standard. Of course, Wall Street and the insurance companies are opposed to this rule, for it would negate their ability to extract excessive profits from investors big and small.
This is not the first time Wall Street has played this card - i.e., threatening to leave individual investors "stranded." Each time Wall Street's business model, in which conflict-ridden investment advice is challenged, it THREATENS that the proposal would end services for "average and low-income Americans."
As if that would be a bad development! I say - let them end services!
As discussed below, Wall Street's rhetoric is an empty threat. There will be many, many advisors to take their place - and in the process of doing so individual investors and plan sponsors will receive better, higher-quality advice for far less in total fees and costs.
FIDELITY'S ILLOGICAL POSITION IS UNFOUNDED, SELF-INTERESTED, AND GOES AGAINST SOUND ECONOMIC PRINCIPLES
Fidelity, through its executive, asserts that our fellow Americans will not be served if the fiduciary standard is applied. This is a HOLLOW statement.
Wall Street's whining and attempts at obfuscation ignore fundamental economic principles. In 1970, Nobel-Prize winning economist George A. Akerloff, in his classic thesis, The Market for "Lemons": Quality Uncertainty and the Market Mechanism, The Quarterly Journal of Economics, Vol. 84, No. 3 (Aug., 1970) demonstrated how in situations of asymmetric information (where the seller has information about product quality unavailable to the buyer, such as is nearly always the case in the complex world of investments), "dishonest dealings tend to drive honest dealings out of the market." As George Akerloff explained: [T]he presence of people who wish to pawn bad wares as good wares tends to drive out the legitimate business. The cost of dishonesty, therefore, lies not only in the amount by which the purchaser is cheated; the cost also must include the loss incurred from driving legitimate business out of existence.
In other words, as long as Wall Street is able to siphon excessive rents from investors, through conflict-ridden sales practices resulting in higher costs for individual investors (and lower returns), the business model Wall Street seeks to preserve will continue to attract bad actors. It's only human nature ... "join our firm and your compensation potential is virtually unlimited" is Wall Street's "promise" - ignoring of course the requirement that the new employee is required to sell - not only expensive and often proprietary investment products, but indeed his or her very soul.
ENHANCED STANDARDS OF CONDUCT WILL FUEL DEMAND, SUPPLY AND QUALITY
What will happen if the fiduciary standard is applied to the delivery of advice to all plan sponsors, plan participants, and individual investors, through potential DOL (EBSA) and SEC rule-making? Economic principles and common-sense logic indicate that three dramatic developments will occur.
First, once individual investors know that they can trust the words coming out of the mouths of their financial advisors, the demand for financial advice will soar. Currently far too many individuals distrust Wall Street, and - given their inability to discern between high-quality, fiduciary advisors and low-quality, non-fiduciary advisors, they simply choose to stay away from both. Additionally, the adverse smell of the non-fiduciary advisors infects the entire landscape of financial advisors.
Second, we will see a surge in the availability (supply) of fiduciary-bound financial and investment advice. More and more actors will be attracted to become such fiduciary advisors. As many, many already have, they will be attracted to a true profession in which they sit on the same side of the table as the client and assist the client in achieving their hopes and dreams. They receive not just professional compensation from providing expert, trusted advice, but they also receive the immense joy from assisting their fellow man.
Third, the quality and quantity of advice will also soar. Currently Wall Street's legions are primarily "asset gatherers" and product salesperson. Much of the training provided is on how to sell - i.e., to close the deal. Fiduciary financial advisors, on the other hand, bound by fiduciary standards, are required to exercise due care in all aspects of the advice they provide. Clients will receive better budgeting advice, increased levels of savings, and better investment advice.
WALL STREET'S INABILITY TO SERVE SMALL CLIENTS
I can hear those on Wall Street bemoan such logic ... "Surely, you jest," they would say. "No advisor can afford to serve small clients, without selling expensive products to them!"
First off, so many Wall Street firms don't serve small investors. Often investors with less than $100,000 are directed to "call centers," where they are sold expensive products.
Second, I ask: What is the compensation paid on a Class A mutual fund, for a client who has $20,000 to invest? 5.75%, plus a small (0.25% or less, typically) trailing 12b-1 fee (in theory, in perpetuity) - in addition to [often-high] fund management and administrative fees and the fund's often exorbitant and mostly hidden transaction and opportunity costs. So a Wall Street firm (and its representative) would receive a $1,150 sales load, plus more over time?
The fact is, there are many financial advisors out there right now who will provide advice for $1,150 - or far less. This advice will be provided under hourly-based compensation or for a flat fee or under some other form of professional-level compensation arrangement. And the advice provided won't be just relating to the sale of an expensive product; rather for the same or lower fees paid by the client the professional fiduciary advisors will provide the clients with better financial advice and investment advice, and far more comprehensive advice at that. Individuals would receive better advice on how to undertake better spending habits, save more, and achieve their lifetime financial goals.
Fiduciary advisors should, of course, be compensated through professional fees for the truly expert advice they render in the client's best interest. The fiduciary standard of conduct requires that such compensation be reasonable. Currently, there is no such requirement acting to constrain the greed of Wall Street.
Wall Street may be unable to extract enough rents to survive under the fiduciary standard, but there are plenty of independent, objective, trusted professionals who will take Wall Street's place, and these trusted fiduciary advisors will do a far better job for the individual investor in the process.
WHAT IS FIDELITY REALLY SAYING?
Perhaps this: "We, the conflict-ridden purveyors of products, can't make our large profits if we can't charge high fees for small investors."
"We should be entitled to provide advice as non-fiduciaries to plan sponsors and to plan participants, under the "suitability" standard - which essentially permits us to recommend almost any investment product we offer."
"We don't want a legion of 'purchaser's representatives' - i.e., fiduciaries - who in the proper exercise of their due diligence compare our investment products to those of other product providers, seeking out the best products for inclusion in qualified retirement plan accounts and IRAs. We'll lose market share if this occurs - and we'll be unable to extract large profits."
"Don't mess with our business model. It's highly profitable for us! We love our year-end bonuses! Even though the world of investors clamors for the fiduciary standard, PLEASE ... don't move our cheese!"
"Our fellow Americans don't deserve the greater retirement savings, better investment results, and greater retirement security that the fiduciary standard will offer."
Of course, Wall Street would never say the foregoing - at least publicly. But that's what Wall Street is really concerned about.
The battle over applying the fiduciary standard to the delivery of personalized investment advice is all about, from the perspective of Wall Street's firms, their own self-interest. Wall Street firms don't really care about our fellow Americans. Hence, they should stop the pretense that their opposition to the application of a higher standard of conduct is somehow protective of individual investors, when they know that just the opposite is true.
WHAT FIDELITY CHOOSES TO IGNORE
Economies of Scale Exist in Qualified Retirement Plans. What Fidelity's executive fails to note, as well, is that qualified retirement plans enjoy a tremendous opportunity, in most instance, for economies of scale. Well-run large retirement plans often have fees relating to investment advice which are of a flat fee nature, or single-digit basis points. Why is this important? Because academic research clearly demonstrates that fees and costs matter, in terms of the returns individual investors receive.
Fiduciaries Shop on Behalf of Clients, and Keep Fees/Costs Reasonable. Only fiduciaries have an obligation to keep total fees and costs reasonable. This is the REAL REASON Wall Street wants the fiduciary standard to not apply to either ERISA accounts or to IRA accounts. It would disrupt their ability to extract excessive rents from millions of our fellow Americans.
Disintermediation Disrupts Wall Street's Excessive Seizure of Rents. The result of applying the fiduciary standard isdisintermediation. This is what Wall Street really fears! Right now Wall Street consumers 30% to 40% of the profits generated by the U.S. economy. Yes, really! For more discussion on this point, see Bob Veres' excellent March 1, 2013 Inside Information blog post, "Parasites Who Would be Fiduciaries."
Two Standards - One for the Rich, One for the Poor? Perhaps Wall Street wants Americans to be served under two different standards. Only the "rich" would be entitled to fiduciary advisors; all others must deal with the excessive fees imposed by conflict-ridden models. Of course they don't want this. They want to be able to extract excessive rents from the rich, too!
Of course, I reject any notion that those with lesser investment assets don't deserve fiduciary protections. In fact - these citizens are the most in need of the application of the fiduciary principle to all of the investment and financial advice they need, and receive.
FIDELITY'S HOLLOW MESSAGE: DISTORTIONS AND FALSE PRETENSE
Fidelity's O'Hanley goes on to say: "We should be doing everything we can to expand, promote and perhaps require financial education in the workplace. Investors certainly need protections in place, and we need to make sure the proper protection's in place, but their best interest can only be served if the regulatory framework allows for a wide range of tools to serve the needs of investors and provide low-cost guidance, education and advice that they want and need," O'Hanley added, calling on lawmakers and industry representatives "to keep the pressure on Labor and reject any proposal that would limit the availability of education and guidance to workers." [Emphasis added.]
Let's examine some of the phrases used by Mr. O'Hanley in his statement set forth above.
"Serve the best interests of the investor?" Wall Street tosses the term "best interest" around like it doesn't mean anything. It does - it means respecting the trust placed in advisors by each and every plan sponsor, plan participant, and individual investor. Don't toss around "trust" with such disregard! It always appalls me when a representative of Wall Street invokes the term "best interests" to argue AGAINST the fiduciary standard of conduct - the only standard of conduct that ensures that the best interests of the individual investor is protected under the law!
"Provide low-cost guidance, education and advice that they want and need?" Yet, academic research demonstrates that the fiduciary standard, through disintermediation (followed by some reintermediation at much lower total levels of fees and costs for the receipt of fiduciary advice), results in the "low-cost" guidance, education and advice that investors are really looking for. Indeed, conflicted advice results in higher fees and costs, endangering the retirement security of tens of millions, if not hundreds of millions, of our fellow citizens.
"Limit the availability of education and guidance?" O'Hanley cites no academic research in support of this conclusion.
The only thing that is limited by the fiduciary standard is the greed of Wall Street.
