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Witness says broker model cheaper than fee model for small accounts

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The benefits of the Department of Labor’s proposed fiduciary rule do not outweigh the costs, according to one witness at a Senate subcommittee hearing on the rule.

Robert Litan, “a life long Democrat and a former Clinton Administration official,” told lawmakers he respectfully disagrees with the way the DOL has outlined its proposal, in spite of “caring deeply about the kind of goals the Department is pursuing.”

Litan, a non-resident fellow at the Brookings Institute, has also spent considerable time practicing law in the private sector, and has been a member of the international advisory board of the Principal Financial Group, according to his bio on Brookings’ website.

“Labor gives absolutely no credit or assigns no value to human investment advice,” Litan told the subcommittee.

Principal to the value advisors provide is encouraging clients to avoid trying to time the market, “one of the worst decisions a long-term investor can make,” said Litan.

He also suggested the DOL’s proposal discounts the vital role advisors play helping investors rebalance their portfolios.

Factoring those values renders the DOL’s cost-benefit analysis inaccurate, claimed Litan. Instead of $4 billion in annual savings the DOL says the proposal would net investors, Litan testified that it would “produce net harm of $1 to $3 billion annually, depending on how many brokers are induced by the proposal to no longer serve the IRA mutual fund market.”

Litan’s facts are based on research he recently co-authored, he said. That paper was sponsored by the Capital Group, “one of the largest mutual fund asset managers” in the U.S., according to a footnote in Litan’s written comments to the subcommittee.

That paper estimates that in a hypothetical future market downturn, the proposed rule could cost investors $80 billion, because more investors would be going it alone and succumb to the impulse to unload investments at market lows.

That could amount to losses that double the 10-year savings estimates assumed in the DOL’s analysis, said Litan.

Robo-advisors, which Labor Secretary Thomas Perez thinks can help replace the existing brokerage model, according to his testimony to Congress, are an important addition to the market, thinks Litan.

But an email or text message during a market rout “is not an adequate substitute for a human being on the other end of the telephone, reminding investors of the clear evidence that it pays to stay put if you are a long-term investor,” added Litan.

The rule would also force all advisors to a “wrap fee” form of compensation, or a percentage of account assets, he argued.

That would mean smaller accounts would end up paying more in fees. “Brokerage is a less expensive form of advice for smaller accounts. That is just a fundamental fact,” insisted Litan.

Establishing a best-interest standard industry-wide is not a controversial idea, he said, but the way to enforce it is.

Litan’s bottom-line suggestion to the lawmakers was the DOL should scrap the rule and go to FINRA, the regulatory body that oversees, and is funded by the brokerage industry, to find a workable way to administer a new rule.

“If the problem is insufficient disclosure, there is a simple solution to that,” he said. “Better disclosure.”

“There is absolutely no basis for not trying for better disclosure before going ahead with this massive undertaking,” he added.


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