Long, long ago, possibly in a Ford Galaxy far, far away, there was a universal fiduciary standard. It covered all registered investment advisors (it still does, but RIAs aren’t what they used to be). It covered all retirement plan service providers (granted, for only one year). But then, strange new things happened. Regulators went where no regulator had gone before…
Facts like these go whizzing by like the surreal opening of “Twilight Zone” when you have a chance to talk all things fiduciary with famed lawyer Tamar Frankel (see “Exclusive Interview with Tamar Frankel: DOL Should Return to ERISA’s Original Definition of Fiduciary,” FiduciaryNews.com, July 23, 2013). She is such a repository of history, knowledge and philosophy that we simply must recognize her as the icon she is. While she knowingly suggests regulators turn back the hands of time, her theme almost denies that possibility.
But first, a little history. As I and many others have written previously, there’s a growing consensus the fiduciary standard began to fray in 1999, when the SEC approved the Merrill Rule and the phenomenon of dual registration became the confusing reality it is. Professor Frankel doesn’t quite say it explicitly, but the main issue as she sees it – trust – probably began to decay with dual registration. Prior to 1999, a financial service professional had to decide which road to take: the highly regulated avenue of the fiduciary standard (i.e., become a registered investment advisor) or the increasingly self-regulated street of the suitability standard (i.e., become a broker).
For retail investors, the demarcation between the two business model was blatantly obvious. An RIA always worked solely in the best interests of the client and a broker, well a broker’s job was to sell you something. As odd as it might sound, it was easy to trust both business models. With RIAs, it was easier – they simply could not enter into any self-dealing transactions. With brokers, it was a bit more work but still possible (think of the phrase “trust, but verify.”)
This easy distinction melted away in 1999 when dual registration blurred the lines between RIAs and brokers. As professor Frankel puts it, investors mistakenly trusted RIAs who served them through broker arms. When these investors didn’t get the fiduciary oversight they expected, they lost trust in the specific service provider and, if current surveys are to be believed, in the entire industry.
The distrust she speaks of also has another origin. It begins in 1974, when ERISA became law and deemed all retirement plan service providers to act in a fiduciary capacity. A year later, Frankel tells us the DOL exempted all ancillary providers. Today those providers are no longer ancillary. Yet, the exemption continues. Now we can include institutional investors as those losing trust in the financial industry.
The problem we have before us is the weight of time. With each year of no traditional fiduciary standard, the weight of this mistrust grows heavier and heavier. Investors across the board, fueled by various scandals and culminating in the credit-crunch-inspired market meltdown in 2008/2009, have had years to justify their mistrust. They don’t trust firms that haven’t earned their trust. They don’t trust firms that have earned their trust. They don’t trust an industry supposedly in charge of policing itself. They don’t trust a regulatory regime that plays politics instead of protecting investors.
Perhaps a fiduciary standard now will be too little, too late.