Due Diligence

Study: Fiduciary Standard Doesn't Raise Costs, Limit Choice

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Critics of a fiduciary standard for stockbrokers beware: A study released in early March suggests that application of a fiduciary standard to the broker/dealer model wouldn’t have the terrible consequences for lower-income clients that critics have said it would--higher costs and reduced choice. The authors compared stockbrokers who work in four states that already impose a strict fiduciary standard on them to stockbrokers who work in states that do not.

If you are reading this, you probably know that today financial advice provided by investment advisers is subject to the fiduciary standard, which requires them to put client interests first. Financial advice provided by stockbrokers and broker/dealers generally falls under the suitability standard, which requires them to recommend suitable products to clients, but permits them to select ones that will compensate them more richly even if a better, cheaper product is available.

Those who argue against extending the fiduciary standard to broker/dealers have said it would jack up the cost of doing business by increasing liability, making financial advice prohibitively expensive for everyone but the wealthy. They have also said it would make it untenable to sell certain kinds of products—mostly commission-based securities.

In a report titled “The Impact of the Broker-Dealer Fiduciary Standard on Financial Advice,” Michael Finke of Texas Tech University and Thomas Langdon of Roger Williams University took a hard look at broker/dealers and stockbrokers operating in four states that already impose an “unambiguous” fiduciary standard on them—California, Missouri, South Dakota and South Carolina—and compared them to those who operate in states that don’t have such requirements—Arizona, Arkansas, Colorado, Hawaii, Massachusetts, Minnesota, Mississippi, Montana, New York, North Carolina, North Dakota, Oregon, Washington and Wisconsin. (I confess, I was not aware that there were four states that already applied the fiduciary standard to stockbrokers and broker/dealers.)

They found little difference between the kinds of clients these stockbrokers serve or the range of products they can offer. They also found that stockbrokers do not avoid doing business in these fiduciary states: The concentration of stockbrokers, as measured by the number of stockbrokers per household, doesn’t differ as long as you exclude New York, which, as the heart of the brokerage business, has a much higher concentration of stockbrokers than any other state in the U.S..

To carry out their research, Finke and Williams obtained names and addresses of 544,000 registered representatives active in November 2011 and sorted them into categories based on the application of a fiduciary standard. They then asked them the following questions, and received 207 responses:

1. Are you a registered investment adviser? (If so, survey is over.)

2. What percentage of your clients have incomes of less than $75,000?

3. What percentages has investable assets of over $750,000?

4. Are you able to serve the financial needs of low to moderate wealth clients?

5. Do you state’s security regulations limit your ability to recommend a broad range of financial products?

6. Do you offer your clients a choice of financial products that meet their financial needs and objectives?

7. Do you provide advice tailored to the specific needs of your clients?

8. Do you feel that less affluent clients avoid obtaining your services due to cost?

9. Are you able to recommend products that provide a commission?

10. How significant is the cost of compliance?

11. Do you feel that you make product recommendations that are in the best interest of your client?

12. Among the following options, which do you consider to be the most important single factor in pricing your investment advice to clients: competition in the marketplace, firm brand, personal qualifications, legal and compliance burden, or other?

The researchers found that the percentage of clients who have income of less than $75,000 is statistically equal between both groups, and there is no statistically significant difference in either the percentage of high wealth clients or in the percentage of brokers who believe they serve the needs of low and moderate wealth clients. Nearly all respondents believed they are able to provide products and advice that meet the needs of customers. The percent who say they are able to recommend commission products is 88.5 percent in strict fiduciary states and 88.2 percent in non-fiduciary states.

The data itself can be found in the research here.

So, are the broker/dealer industry’s fears about the impact of a universal fiduciary standard bunk? Rulemaking has been stalled as the Securities and Exchange Commission conducts a cost-benefit analysis of a potential rule, but SEC Chairman Mary Schapiro recently said she is committed to writing a rule. Meanwhile, a number of the wirehouses have been taking measures to get their advisors trained to adhere to a fiduciary standard if and when a rule does come.

What do you think?

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