Fiduciary Duty: Difference of opinion

Given the fundamental significance of the issue, the CSA paper’s comment period was particularly long – 120 days – and ended in late February. Overall, the comments submitted on the paper reflect what you’d expect: the industry, for the most part, opposes the imposition of a fiduciary duty; investor advocates, on the other hand, are adamantly in favour of it.

Industry opposition centres on several basic arguments. Comments submitted from various industry groups question whether there is a genuine problem. These insist that the current regulatory regime is adequate and warn of possible negative repercussions of such a fundamental change in regulatory standards, such as increased industry costs that may lead to reduced access to financial products and advice.

“Overall, the CSA has not demonstrated that a clear benefit will be achieved through the implementation of a statutory best interest standard,” concludes the comment from the Toronto-based Investment Industry Association of Canada.

Conversely, investor advocates maintain that the current standard of care (suitability) just isn’t good enough, and that advisors need to be required to act in the best interests of their clients.

“The existing regulatory requirements and industry practices do not provide adequate protection for consumers of financial services in Canada,” says the comment from the Toronto-based Canadian Foundation for Advancement of Investor Rights (a.k.a. FAIR Canada).

Furthermore, FAIR Canada’s comment argues that a statutory “best interest” standard would enhance investor protection, generate better financial outcomes for investors, produce more effective industry competition and increase the level of professionalism in the financial services industry, thereby bolstering trust in the industry.

Perhaps the most compelling argument in favour of some change is the fact that most investors already believe that advisors are compelled to act in their best interests.

“Most people, like myself,” notes one retail investor’s comment, “when seeking financial advice, believe the person they are meeting with already has an obligation to act in their best interest and has a fiduciary responsibility. It was shocking for me to learn otherwise.”

Indeed, recent investor research found that Canadian investors generally don’t understand the existing standards of care and do expect financial advice to be objective and in their best interest. A study published by the Investor Education Fund (IEF) last year found that about 70% of investors already believe that advisors have a legal duty to act in their clients’ best interests.

It’s this gap in expectations that is the crux of the problem for both regulators and the industry. Investors are operating with a fundamentally different understanding of the nature of the client/advisor relationship.

For the industry, in some ways, enjoys the best of both worlds: having the trust engendered by the perception that advisors put clients’ interests first but without the legal consequences.

Indeed, this situation represents a sort of implicit subsidy to the industry, according to the comment from the Canadian Advocacy Council for Canadian CFA Institute Societies (CAC): “Advisors who do not yet always act in the client’s best interest could be said to have benefited unfairly from that investor assumption, without actually spending the money to implement a fiduciary standard.” (The CAC’s comment adds that the direct costs of adopting a fiduciary standard are likely to be minimal.)

The downside for the industry in this inherent mismatch of client expectations and industry reality is that undue reliance on advisors may lead to more complaints and conflict than if investors understood the context of the advice they receive.

Moreover, there is a disincentive for individual firms or advisors to raise their own standards: if investors already believe advisors must operate in their clients’ best interests, there’s little to be gained for those who do actually act as fiduciaries. Some firms have taken the fiduciary route anyway, but the current industry environment blunts the rewards of such a strategy.

There are a couple of basic ways that this gap in expectations could be resolved. For one, regulators could, as they are contemplating, impose the fiduciary standard on the industry that investors already believe exists. Or the regulators could keep the standard of suitability but try to ensure that investors understand it. That might be done by regulating the use of professional titles and requiring unambiguous disclosure (similar to cigarette packaging) that ensures investors aren’t under any illusions about the legal status of their financial advice.

It seems clear that the overwhelming majority of investors would prefer the first option. New research published jointly by the IEF and the Ontario Securities Commission‘s independent investor advisory panel (IAP) in mid-March found that there is strong support among investors for a “best interest” duty. (See story on page 12.)

The survey of more than 2,000 investors found that 93% of respondents believed that advisors should be required to act in their clients’ best interests, with 59% strongly in favour of the idea overall and 63% of wealthier investors (those with investment portfolios of at least $250,000) strongly supporting the idea.

The IAP also strongly supports the imposition of such a duty – not just in the securities world, but throughout the financial services industry, calling on securities, insurance and banking regulators, along with government policy-makers, to introduce statutory fiduciary standards for all forms of financial advice.

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