More On Legal & Compliancefrom The Advisor's Professional Library
- The Need for Thorough and Effective Policies and Procedures Whethere an advisor is SEC or state-registered, RIAs must revise their policies and procedures to address significant compliance problems occurring during the year, changes in business arrangements, and regulatory developments.
- How to Avoid Sabotaging Your Compliance Exam There is much more to compliance examination survival than knowing all of the rules. It helps to understand why the rules were put in placeand to recognize that examiners are not the enemy.
To further the ongoing discussion (in Washington D.C., at the Institute for the Fiduciary Standard and at gatherings of advisors around the country) about the need for a genuine financial advisory profession, a pair of legal cases recently came to my attention. They graphically illustrate the necessity for economic independence to play a leading role in any list of professional advisory standards.
These cases were reported on Bloomberg.com (May 28, 2014: “Deutsche Bank, Former Executives Sue Each other Over Move”) and in a June 13 3Fi360.com blog, titled “Wall Street Litigation Opens Window on Product Sales Conflicts.” The blog discussed the details of a lawsuit and a counter-suit involving Deutsche Bank and two former brokers from its Deutsche Bank Securities’ private client group: Benjamin Pace, the bank’s former chief investment officer for wealth management in the Americas, and Lawrence Weissman, who formerly reported to Pace as head of portfolio consulting.
Apparently, Deutsche Bank filed the first suit “seeking a temporary restraining order to prevent a wholesale exit of the private client group to [independent advisory firm HPM Partners LLC], and a potential loss of billions in assets.” In response, Pace and Weissman alleged that: “pressure by management to sell high-margin proprietary products made it impossible to fulfill their fiduciary obligations [to the bank’s clients].”
In court documents, the two former employees maintain that “as financial advisors in the private banking group, they were also affiliated with Deutsche Bank’s registered investment advisory firm,” and therefore, the bank’s efforts to establish a sales quota system would have “breached the Group’s...fiduciary obligations to put the customers’ needs first.” They go on to describe the following conditions they faced while trying to provide sound financial advice to their clients:
— “They repeatedly expressed concerns with management regarding the conflict between an open-architecture platform and pressure to sell proprietary products.”
— “Management allegedly wanted them to place a newly developed hedge fund in customer accounts, which Pace and Weissman argued was inappropriate and unwanted by many of their retired investors, some of whom were in their 80s.”
— “To avoid any negative perceptions by reluctant customers, Pace allegedly was urged by senior executives to create a new asset class called ‘long/short equity’ as a way of obscuring a hedge fund investment.” (According to court filings, he declined.)
— “Senior management asked Pace and Weissman to swap existing outside funds in which the private client group invested with new proprietary products. The former employees alleged that the proprietary replacement products were less diversified than their original selections, and/or generated adverse tax consequences for its customers.
— “Senior management considered ways to avoid fiduciary conflicts by transferring some of the private client group to the bank’s broker-dealer, according to court documents.”
According to fi360, the Deutsche Bank cases illustrate that “Wall Street executives are now encountering a new fiduciary culture emerging within its ranks, not merely brokers jumping ship for greener pastures.” Ironically, in its suit for a temporary restraining order to prevent the departure of the private client group, Deutsche Bank claimed the resignations were “a breach of fiduciary duty to Deutsche Bank.”
Therein lies the fundamental problem currently confronting the financial services industry—from regulators to lawmakers, and from retail brokers and advisors to financial institutions. How can financial advisors have a legal duty to put the interests of their clients first, while at the same time have a legal duty to represent the interests of their employers?
Some would argue this isn’t a problem when the interests of financial institutions align with the interests of their clients. And in the case of enlightened institutions and their employees, I’ve seen this to be true.
But as the former employees’ allegations in the Deutsche Bank cases seem to suggest, all too often—at both the corporate and management level—there are powerful financial incentives to put the interests of a financial institution ahead of the interests of its clients.
Yet as fi360’s insightful commentary suggests, many brokers are today solving this problem in the same way many financial planners began solving it some 30 years ago: by creating firms that are financially independent of the financial services industry and its inherent conflicts.
The investing public has been embracing this simple, yet effective, solution in increasing numbers ever since. Seems to me it’s past time for regulators, lawmakers, institutions and more advisors themselves, to stop living in the past and create a profession of truly independent advisors.