The markets are in decline and you and your peers may very well be feeling a bit nervous. And, if in this environment even professional advisors are feeling jittery, how do you think your clients are feeling? What does an advisor do during such volatile economic and market times? It's natural for an advisor to wonder how best to communicate with and protect clients during such times. But there's someone else that an advisor should worry about now: himself.
Are you adequately protected? Does your firm maintain E&O insurance? Does your written disclosure statement and advisory agreement contain appropriate disclosures to help protect the advisor from adverse claims? Have your investment policy statement or investment objectives confirmation been updated? Have you confirmed with the client that her investment objectives remain unchanged?
Regardless of the merits of a potential adverse claim (or more importantly, the lack thereof), there is not, nor can there be, any guarantee that a client will not become adversarial. One thing is for sure, however: the wrong time to ponder these issues is when the market starts its downturn. All markets will sooner or later head south. Thus a careful ongoing review and updating of your insurance coverages, disclosure statement, and contractual documents is critical at all times.
Get Out in Front
One of the most productive actions that investment professionals can take during volatile markets is to be proactive with regular client communications. Communicating with clients during good times is easy, but communicating with them during difficult times is critical to maintaining those relationships. As a general rule, when times become difficult and you suspect that clients will have concerns, call or write your clients first; do not wait for them to call you. If you're convinced that those client concerns are macro (i.e., worries over the performance of the overall market as a result of a terrorist attack, a weakened economy, and so forth), an initial written communication may suffice. However, if you believe that those client worries are more micro in nature--heightened concerns with respect to losses in their accounts due to a specific factor or confluence of many factors--calling or meeting with concerned clients is usually the best proactive measure.
In many circumstances, with quick and prudent action, an advisor may be able to successfully address client questions and concerns before they progress to an adversarial stage. When speaking with clients regarding their concerns, avoid being defensive or combative. Experience has shown that the extra effort you make in the beginning will pale in comparison to the efforts that you will have to make, the money that you will need to spend, and the stress that you will endure in the event that a state or federal regulatory inquiry or an arbitration or litigation proceeding is commenced.
Being proactive does not mean that all client concerns will be amicably resolved. For this reason, it is particularly important that the firm's Policies and Procedures manual makes clear that all actual or anticipated client complaints--whether they be verbal or written--be immediately reported to the firm's chief compliance officer before any action is taken. (By the way, it is prudent to remind all firm employees and representatives on an ongoing basis about this reporting requirement.)
Be especially careful before you respond to the client in writing. If the client has terminated the advisory relationship or has engaged counsel, that is a pretty clear sign that the matter has risen to the next level and that it may be too late to achieve amicable resolution. Notification to the firm's insurance carrier at this point is not only prudent, but is most probably required under the terms of the policy. Be careful not to take any action that might jeopardize your insurance coverage. Moreover, recall that any settlement with a client should generally be contingent upon the execution of a Release and Confidentiality agreement.
The E&O Issue
As to errors and omissions coverage, advisors should make sure they know whether or not they are covered. When was the last time you reviewed your errors and omissions policy? Are you sure that you E&O policy provides coverage for all of your advisory operations? Have you reviewed the "Exclusions" section of the policy? Have you continued to increase the amount of coverage as your practice has grown?
An advisor should substantively review policy coverages and exclusions at least annually. Most policies now exclude coverage relative to the purchase of private investment funds. The private investment fund offering memorandum and subscription documents serve to protect the fund sponsor, not the investment advisor who is recommending the purchase to its clients or reviewing the prospective investment at the request of the client. As a result, we are now strongly recommending that an advisory firm have its clients execute a Private Investment Acknowledgment, pursuant to which the client acknowledges the risks associated with such an investment, including principal risks and liquidity constraints.
Is E&O necessary? No, if you are sure that you will never face an adverse claim. However, as indicated above, regardless of the merits of a claim (or more important, the lack thereof), there is no guarantee, nor can there be, that a client will not become adversarial. No matter how careful and proactive an advisor is, there can never be any such assurance. Just make sure that you are paying for the coverage that you need for your operations (see sidebar Raise the Deductible).
The Advertising Issue
Based upon recent experience, no column on how to avoid client complaints would be complete without a corresponding discussion of advisor advertising practices which, in my opinion, have become a great potential source of advisory firm liability. I am constantly amazed by the number of advisors who pay large sums to marketing consultants and advertising agencies to prepare marketing materials such as brochures, Web sites, and media advertisements, who know very little about the advisory industry (or are not sensitive to the unique relationship that an investment advisor shares with its clients). Too many marketing consultants, talented as they may be, are focused on making the sale and speak and write in superlatives. Investment advisors do not sell widgets, and their services should not be marketed as such. When a product does not perform as advertised, consumers will generally not purchase that product again. However, when an advisor's services do not conform to its advertisements, it may not be that simple: the adverse outcome to the consumer (the client) is usually much more severe, and could lead to (or at least help support) client-initiated litigation or arbitration proceedings.
Advisors must be extremely careful not to engage in the unnecessary use of "puffery" or superlatives, or include phrases in their marketing materials that could be construed as an indirect guarantee or assurance of profits, future wealth, or against losses. These types of phrases or superlatives (e.g., "superior," "best of breed," "world class," "time-tested," "Nobel prize winning," "comprehensive," "outstanding," "We treat you like family," "Our services are unique," to name just a few popular phrases) could be used against the advisor in an arbitration or litigation proceeding.
Unless an advisor is clairvoyant or perfect, these types of phrases or words too often set the bar way too high, and are destined to be questioned at some point in an advisory relationship or by crafty plaintff's attorneys. I am not saying not to engage marketing consultants. Let them be as creative as they would like. But when you receive proposed content, remove (or modify) the suspect phrases and superlatives and see if the same message comes across. Chances are, it will. Clients generally engage advisors based upon recommendations--most often from happy existing clients--and meetings with the advisor, not marketing content. My intention here is not to minimize the importance of good marketing, just to point out that you can have good marketing without potentially exposing the firm to adverse client claims. The above advertising/marketing discussion does not even begin to address the coordination of advertising practices with regulatory requirements and prohibitions, which will be the subject of an entire future column.
There can be no guarantee that a client will not become adversarial. However, with ongoing prudent action and procedures, an advisor can minimize adverse clams and increase its probability of success in the event of a claim. As we well know from experience, "an ounce of prevention . . ."
Thomas D. Giachetti is chairman of the Securities Practice Group of Stark & Stark, a law firm with offices in Princeton, New York, and Philadelphia that represents investment advisors, financial planners, broker/dealers, CPA firms, registered reps, and investment companies. He can be reached at email@example.com.