Figuring Out Fiduciary

The Merrill rule didn’t address this question? The Merrill rule basically raised this question and the Rand Report was supposed to answer it, but the constraints within which they were engaged didn’t allow them to flush out some of these important issues. The other question is: Is it not the case that the responsibilities to the investor by the advisor are totally different than the responsibilities of the sponsor of an advisory product?

The sponsor of the advisory product is acting as the money manager where they are dealing with investment-centric considerations, whereas the role of the advisor is to deal with client-centric issues.

So what’s the answer to this confusion about fiduciary duties? The answer is an audited prudent investment process. An eligible investment advice arrangement, when audited, is an audited prudent investment process.

How does this work and who performs this process? It is a process within which it is a safe business environment in which all advisors can acknowledge and fulfill their fiduciary obligations. Some- thing that very few people have problems with. Essentially, the audited prudent investment process takes advice and defines it in the context of a prudent process. The prudent process is comprised of six financial services: the asset/liability study; the investment policy statement; strategic asset allocation/investment strategy; portfolio construction/manager search and selection; and performance monitoring.

There are very specific duties entailed in an advisor fulfilling his fiduciary obligations. What really is confusing is that some people feel as though good intentions are all that are needed to acknowledge fiduciary status. But there are very specific duties required to fulfill fiduciary obligations. Unless there is a highly structured process that makes it easy for advisors, it’s very difficult for advisors to fulfill their fiduciary obligations because of the incredible detail required for it to be managed.

So the Fiduciary Standards Council is providing an audited prudent investment process? Wealth-Paths has been instrumental in creating the Fiduciary Standards Council. We’ve engaged Fred Reish, our legal counsel [and an] authority on fiduciary issues, and we have a who’s who of the industry involved in this. Basically the objectives for the Fiduciary Standards Council are threefold: First is to define advice as a prudent process which will, for the first time, make advice scalable and readily manageable as a business enterprise. Second is to define the enabling resources–the processes, the technology, and division of labor–which are essential for advisors to fulfill their fiduciary obligations. The key here is we have to make it readily executable–easy for advisors to actually fulfill their fiduciary obligations. Eighty percent of the things that are required are disclosure and reporting related [items] that readily lend themselves to automation. So the incredible degree of portfolio detail required to be managed in real time could be done automatically. It doesn’t require a person to spend all of their time managing process; it can be done through a division of labor and automation. The advisor, chief investment officer, and chief administrative officer [perform] the three principal functions in advisory services and what we’ve done is created enabling resources for the CIO and CAO functions that basically require different skill sets than advisors typically have–requires different expertise–and it allows the advisor to do things that otherwise wouldn’t be possible.

The third thing the Fiduciary Standards Council is doing is creating an applications programming interface standard, which means that each element of an audited prudent investment process can talk to the others and can be upgraded and replaced without losing overall systems integration. This means the impetus for innovation when it comes to advisory services is in the public domain where vendors can compete on the basis of who’s got the best investment policy statement capability, etc.

This is critical now because more lawsuits against advisors are on the way? The industry has done a good job of defending themselves on the basis that brokers are not advisors. The whole consternation here is that brokers want to be advisors. There will be a tremendous amount of lawsuits if brokers say they are advisors and can’t prove it. So the remedy here is if brokers, and financial planners for that matter, want to be advisors–good intentions no longer count, you have to do the work and it has to be done in a manner that it can be audited by an objective third party to demonstrate that the advisor is fulfilling their fiduciary obligation.

Washington Bureau Chief Melanie Waddell can be reached at [email protected].