IS YOUR BEST INTEREST BEING SERVED?
By: Tim Butt
Does the person or firm providing you financial advice have a legal obligation to put your best interest ahead of their own? How can you be sure? Did they put it in writing for you? How would you feel if your advisor could legally put their interest ahead of yours?
In the financial services industry today, there is great confusion regarding job titles and formal designations and what they mean to an investor.
Consider all of the following job titles for those providing financial advice to clients: financial planners, financial advisors, financial consultants, agents of insurance companies, wealth managers, broker/dealers, registered representatives, stock brokers, financial advisers, asset gatherers, financial managers, fee-based consultants, registered investment advisors and many more. Which of these, if any, has a legal fiduciary duty to their clients? Do you know the answer?
The word fiduciary simply means that someone is committed to putting their client’s best interests ahead of their own. In the financial services industry, a person acting with a fiduciary duty or responsibility is legally obligated to fulfill that commitment. Legally being the key word.
There are two such groups. The first group is legally obligated to put an investor’s best interest ahead of their own, at all times, via a fiduciary duty or responsibility. They are known as Registered Investment Advisors (RIA) and are licensed and registered with the Securities Exchange Commission (SEC) or individual State Division of Securities. The Investment Advisors Act passed by Congress in 1940 regulates this group and its basic purpose is to protect investors from potential conflicts-of-interest and provide full and complete disclosure of all fees…what a novel idea. Unfortunately, RIA’s are few-and-far-between due to stringent oversight, audits, and regulations. For these reasons, they primarily work with only high-net-worth clients; those with a net worth of $1,000,000 and up. However, not all RIA’s have your best interest in mind either. Does the name Bernie Madoff ring a bell? He operated an RIA firm that committed fraud totalling $65 billion (yes BILLION) worth of losses to his clients.
The truth is, the vast majority of investors are NOT being served by a person with a legal obligation to put an investor’s best interest ahead of their own (or their employer’s).
So where does that leave most investors and what other option(s) do they have?
The answer to that question leads us to the second group that will ALWAYS serve an investor’s best interest because they WANT to! This is not an actual group but a person. The person is YOU as a Self Empowered Investor (SEI).
Founded on two fundamental principles, the SEI provides you an opportunity to eliminate any and all conflicts of interest through its committment to the following:
- Teaching you to become your most trusted financial advisor
- Ensuring your investment dollars are building wealth for YOU…not for an advisor and the industry
You may be asking, what legal standard are all the other job title holders obligated to? The answer is what is known in the financial services industry as a ‘suitability standard’. This ‘suitability standard’ means those persons using such titles (except an RIA) are supposed to reasonably believe that the investments and/or insurance products they want you to buy are appropriate for your situation. They don’t have to be “the best choice” or “in your best interest.” This standard is weak and vague for a specific reason and the industry and those that work in it would not want it any other way.
Those persons holding job titles that do not have a legal fiduciary responsibility to their clients, do have a fiduciary responsibility, to their employer…NOT you! They are hired to generate revenue for their company or employer, at the expense of their clients and are compensated for it in a big way. In 2010, the average Goldman Sachs employee earned $430,700 and employees at JPMorgan’s investment bank and Morgan Stanley earned on average $369,651 and $256,596 respectively (footnote #1). These are average incomes of all employees working for these firms. Rest assured, advisors that work for these financial services firms without a legal fiduciary duty managing investor’s money are making much more than the above average incomes.
Here is a chart to help you understand who has a legal fiduciary duty or responsibility when providing financial advice.
Professional Title | Legal Fiduciary Duty to Clients |
Certified Financial Planner (CFP) |
Maybe, CFPs operate under a ‘Code of Ethics’ |
Insurance Agent or Representative |
No |
Registered Representative |
No |
Stock Broker |
No |
Financial Advisor |
No |
Broker/Dealer |
No |
Registered Investment Advisor (RIA) |
Legally obligated but still no guarantee |
YOU as a Self Empowered Investor (SEI) |
YES, without a doubt |
Should this be of concern to you as an investor?
YES! The following example will help demonstrate the importance of and difference between someone who will serve an investor’s best interest and somone who will not:
An investor has a need for a US Small-Cap Value Fund that meets their risk profile, asset allocation, and long-term investment needs. There are several different types of funds that meet the criteria for your advisor to consider. Funds such as index mutual funds, actively managed mutual funds and Exchange Traded Funds (ETFs) are worthy of consideration. Each and every fund has an EXPENSE RATIO to cover management fees, administrative costs, costs to market, advertise and distribute, and other operating expenses. The following chart will illustrate the huge difference between various fund’s expense ratios:
Type of Fund | Expense Ratio | Annual Cost |
Passively Managed ETF |
0.14%2 |
$1.40/$1,000 Invested |
Index Mutual Fund |
0.28%3 |
$2.80/$1,000 Invested |
Actively Managed Fund |
1.50%4 (on average) |
$15.00/$1,000 Invested |
To continue our example, an advisor with only a ‘suitability standard’ to their client, and a fiduciary responsibility to their company or employer, would recommend an actively managed fund. He/She would probably recommend a fund that has the highest expense ratio their company has access to without giving any consideration towards taxes or fund turnover. Costs that benefit themselves and their respective companies are first and foremost in the decision process.
They get away with this as the chosen fund only has to meet the clients ‘suitability standard’ in that the fund is indeed a US Small Cap Value Fund. That is the only criteria they need to satisfy.
On the other hand, an RIA or SEI would provide the fund that is in the investor’s best interest. This includes consideration of a fund’s expenses as they have a direct effect on a client’s portfolio return and future value. Thus, both the RIA and the SEI would recommend the passively managed ETF or index mutual fund as these not only satisfy the clients need but are low-cost and highly tax-efficient. Unfortunately, as we’ve learned over the past couple of years, not even RIA’s have the clients best interest in mind at all times. This leaves one option and that is YOU becoming a Self Empowered Investor.
The bottom line, costs and fees matter tremendously! Add in the power of compounding over an investor’s lifetime and you will be blown away by the impact these fees have on an investor’s wealth accumulation.
A percent here, a half of a percent there, and another percent for your advisor does not seem like much. But over the course of an investor’s lifetime, these fees will confiscate approximately 75% of an investor’s wealth potential.
During a period of subdued returns, or any time for that matter, can your investments afford to pay these excessive and unfair fees to build wealth for the financial services industry and not YOU THE INVESTOR?
If you haven’t already, check out our intro video in the sidebar to your right. Pay particular attention to the graph that defines two choices; ‘their game’ or ‘your game’ and the only difference being fees, fees, and more fees (the majority of which are well within an investor’s control). The choice is simple: investors can continue to play the financial services industry’s game or commit a small amount of time to become a Self Empowered Investor.
What is your investment wealth potential worth? Would you commit a small amount of time to enrich your knowledge, learn proper strategies, and initiate a simple plan of action to have your investment dollars build wealth for you? We strongly believe that an investor, who puts up 100% of the money and takes 100% of the risk, deserves to reap the rewards.
If you found this of interest, feel free to comment below and we encourage you to share it with your family and friends!
Resources
#1 – Bloomberg, ‘Morgan Stanley Reduces Investment Bank’s Pay Pool 2%’, January 20, 2011. – Michael J. Moore and Dawn Kopecki
#2 – Vanguard Small-Cap Value ETF (VBR)
#3 – Vanguard Small Cap Value Index Fund (VISVX)
#4 – Fidelity.com