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Putting the Fiduciary Back Into Financial Reform


Many financial advisory firms promote "client based" services, a misleading term that attempts to appeal to investors, when in reality the firms are acting in the clients' best interests one minute and in their own the next. That's why it's so important for the SEC to use its authority to place broker-dealers who provide investment advice under a fiduciary standard of care.

On July 21, 2010, President Obama signed into law the Dodd-Frank Wall Street Reform and Consumer Protection Act, which he said, “was born in the failure of responsibility from certain corners of Wall Street.” The law attempts to provide safeguards against the financial excesses that thrust the American economy and its people into the worst recession in 80 years.

Congressman Barney Frank (D., Mass.), credited the law with bringing about this reform, saying, “For the first time, every financial entity of any size in America will be covered by a regulator and will have to report to that regulator.”

The implementation of the new law will take months, if not years, as regulators write in the key provisions and rules of operation that the law provides. They also face the immense task of combining several different government agencies, and establishing the new Consumer Protection Bureau, which some consider to be the cornerstone of the legislation.

How effective will the new law be in actually regulating our system and offering real protections? On one hand, as the adage goes, “Be careful what you wish for.” Financial institutions will be required to divulge more information to the consumer and be “transparent” in their dealings -- yet the responsibility to review and understand the information provided ultimately will fall upon the consumer.

Ironically, there will be more requirements for financial institutions to provide information, but that means that consumers will be less able to place the blame on someone else for a financial deal gone awry. Consumers no longer will be able to claim that they were unaware of the risks of the products in which they were investing, or debts they took on. Individual investors will need to become their own advocate and act as perhaps they always should have acted -- that is, as active and knowledgeable participants in the decision-making processes of their finances.

Where does that leave the role of the financial advisor? Under the new act, the SEC has the authority to place broker-dealers who provide investment advice under a fiduciary standard of care. This would mean that broker-dealers who provide investment advice would be legally obligated to act in the best interests of their clients. During the recent financial meltdown, broker-dealers were not held to such a standard. They were under no obligation to recommend products that would benefit the customer, so loans such as interest-only and jumbo mortgages for people who could not afford them became the norm.

But the law states that the SEC simply has the authority to enforce such a rule -- it is not required to do so. If the SEC fails to enforce such a standard, investors will still be susceptible to believing firms are acting in their best interest.

Take, for example, an investment advisory firm that offers both “commission-based” and “fee-based” services. Advisors at these firms often confuse clients by integrating both sides of their practice under a single platform called “client-based” services. This misleading practice is known as the “Two Hat Syndrome.” By labeling themselves as “client-based,” advisory firms attempt to appeal to investors, when in reality they are acting in the clients’ best interests one minute and in their own best interests the next. This leaves investors blind to conflicts and expenses, which is part of the problem that the new reforms are attempting to regulate. My firm and I believe in a “one-hat” approach -- that is, acting as a fiduciary and placing clients’ interests first at all times.

As the country continues toward economic recovery in 2011, the new regulations from the Dodd-Frank Act are a reminder for all of us -- from Washington, D.C., to Wall Street, to Main Street -- of the high standards against which we should all measure ourselves moving forward.

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