‘Wandering’ Bad Brokers Pose Risks for Clients, Industry

CORRECTION: The original version of this story quoted a research report from the New York University School of Law and Stanford Law School that mentioned a broker who had been barred by the Financial Industry Regulatory Authority. The report stated that “rather than continue to contest these allegations, Mr. Black simply decided to continue his work as an insurance producer registered with the State of North Carolina.”

Black did, in fact, contest the allegations made against him, in 2015, as a disclosure points out on his report at FINRA’s BrokerCheck website. The story has been corrected to reflect this fact.

Financial advisors and brokers with a long history of misconduct are likely to keep engaging in misconduct, and that continues to be the case with many of them — even if they are barred from the business by regulators, according to a recent New York University School of Law and Stanford Law School research report.

“Financial-advisor misconduct has significant consequences for investors, so a wide range of federal, state, and self-regulatory institutions have authority to detect and deter such misconduct,” the report noted.

“But each regime takes meaningfully different approaches to these tasks, creating incentives for advisors, particularly those with a history of harming investors, to seek a more lax regulatory environment,” it said.

While many advisors and brokers who are terminated from one firm for misconduct often move on to one or more other firms — where at least some of them continue to engage in misconduct — others end up barred from the sector, but then they move on to the insurance sector where many of them continue to engage in misconduct, the research paper states.

Wandering advisors are akin to the “phenomenon known as regulatory arbitrage, in which there is an incentive to shop around for the least restrictive regulator if you’re planning on pushing the limits,” according to Michael Finke, professor of wealth management at The American College of Financial Services.

“Unfortunately, uneven enforcement among states appears to create opportunities for advisors who have a history of misconduct,” Finke told ThinkAdvisor on Friday. “This phenomenon exists both among regulatory regimes in financial services and among firms that attract a larger percentage of advisors who have a history of taking advantage of clients,” he added.

More Findings

The authors used a novel dataset of 1.2 million advisors across four major regulatory regimes for their research, they said in the document.

According to their data, “a little over a third” of the 400,000 advisors “who exit the brokerage industry remain in at least one other regime.”

Their research also found that “advisors are significantly more likely to change regimes after committing serious misconduct, and that wandering advisors with a history of misconduct are significantly more likely to engage in future misconduct,” the paper said.

Such advisors are “over 40% more likely to be recidivists relative to other advisors with misconduct who do not change regulatory regimes,” it explained.

The authors also found that “wandering” advisors with a history of major misconduct “disproportionately end up in the highly fragmented state insurance regimes,” the paper said. Plus, none of these conclusions bode well for the financial services sector.

“Consumers seem to have a negative view of the financial-advice profession,” according to the paper. “One recent survey concluded that the financial services sector is the least trusted industry in the national economy; another found that consumers were more likely to trust their Uber driver than their financial advisor. And the regulatory patchwork may contribute to consumers’ negative view of advisors.”