Although advisors who sell socially responsible investments say values-based questions should be added to the know-your-client form, the industry seems a long way off from introducing a new wrinkle to investor suitability questionnaires.

“SRI should be part of opening an account within the KYC process,” says Patti Dolan, a financial planner with Calgary-based Research Capital Corp. That message is echoed by many advisors in videotaped interviews for a special on IE:TV, Investment Executive’s video website.

Dolan maintains the questions would help deepen the client relationship, build trust and meet the advisors’ duty to select appropriate investments for their clients.

SRI involves screening companies using non-financial criteria such as good corporate governance, environmental performance and social actions, such as the treatment of employees or aboriginal peoples in the countries in which the companies do business.

Advisor interest in changing the KYC process follows lobbying begun by the Toronto-based Social Investment Organization last year. SIO sent a letter to what was then the Investment Dealers Association of Canada (now the Investment Industry Regulatory Organization of Canada), asking for changes to its client relationship model.

“We recommend that the KYC policies should be changed to mandate inquiries into the environmental, social and governance attitudes of clients; and that information on clients’ attitudes should be incorporated into the agreements and disclosures available to clients,” reads the letter SIO sent to Richard Corner, IIROC’s vice president of member regulation policy.

In absence of any rule to date, Eugene Ellmen, president of the SIO, who wrote the letter, says the SIO — which represents 36 companies that include financial institutions, asset-management firms, fund companies, investment consulting firms and credit unions — believes advisors have a responsibility to ask clients about SRI.

“Advisors are crucial here,” Ellmen says, “in terms of putting the options in front of Canadians, who have said in surveys that they’re interested in knowing about these issues. It’s up to advisors to know what investments are suitable for their clients from a financial but also from a social and environmental point of view.”

In the past, SRI involved dropping companies from portfolios if some percentage of their profits arrived via so-called “sin” businesses, such as the making of arms, cigarettes or even nuclear power. Although negative screening still exists, today mutual fund companies such as Vancouver-based Ethical Funds Co. or Jantzi Research Inc. of Toronto apply their own criteria for company selection, often selecting companies in each industry that best meet their standards.

Despite the low-level lobbying, Connie Craddock, IIROC’s vice president of public affairs, says no changes to the KYC model are imminent. The principle behind the KYC rule is that advisors should know their clients and know what they want. “From the regulator’s point of view,” Craddock says, “the KYC rule is there so that clients and advisors have a shared understanding of risk tolerance and objectives and a variety of other factors. SRI values aren’t normally considered part of the regulatory requirement.”

No doubt there’s some salesmanship involved on the part of the SRI industry. Australia incorporated social values criteria into their suitability rules several years ago and there was a perceptible shift of assets into that country’s SRI category, which is much more developed than Canada’s. Keith Sjogen, director of research and advisory services with Toronto-based Investor Economics Inc. , says an introduction of SRI suitability would boost also the category’s growth in Canada.

The wording of the Australian client suitability rule says that it is up to dealers to decide how far advisors’ inquiries into social values should go. “However, as a matter of good practice (and irrespective of any current legal requirement), providing entities should seek to ascertain whether environmental, social or ethical considerations are important to the client,” reads the rule from Regulatory Guide 175 for Australian advisors, under the conduct and disclosure section. “If they are, conduct reasonable inquiries about them.”

Scott Kirkpatrick, a securities law associate with Gowling Lafleur Henderson LLP in Toronto, is intrigued with the idea in theory, but sees a veritable hornet’s nest of considerations. Specifically, he wonders what responsibilities an investment advisor would have in seeking out SRI investments for clients. For instance, would the advisor have to verify corporate statements to ensure the company abides by its SRI values?

@page_break@Kirkpatrick also suggests that adding a third dimension to KYC on top of risk tolerance and objectives could muddy the legal waters for clients.

“The advisor could point to the environmental qualities of a company and say, ‘It might not have been the most risk-averse, but it was environmentally friendly and you told me that was important’,” he says. “Frankly, it might make a great defence. These are interesting questions. And I don’t pretend to have the answers.”

The SRI industry says that investment performance is irrelevant because many studies indicate that equities screened by SRI criteria tend to perform as well as or better than non-SRI investments.

For Canada to follow suit, securities regulators would presumably need to set criteria for defining SRI, so that it’s clear what clients are getting. The Australian Securities and Investment Commission released guidelines in 2003 that require dealers to disclose how SRI criteria inform their investment decisions for clients.

ASIC’s website also includes a consumer section that helps educate investors on SRI.

Whether it’s a formal suitability question or not, advisors who incorporate SRI say it engages their clients. Sucheta Rajagopal, an advisor with Hampton Securities Ltd.in Toronto who deals exclusively in SRI, says some advisors are used to including clients’ values in their stock selections. There’s not only a utilitarian part of client portfolios in SRI, but also an “expressive” part.

“Clients want to own a cool stock such as Apple Inc.’s, or they want to own safe stocks, or Canadian bonds because they live here and want to support Canada,” says Rajagopal. “And that’s part of what SRI is.”

Similarly, Kathleen Peace, an advisor and chartered financial analyst with IPC Investment Corp. in Toronto, says SRI effectively becomes a way to talk about investing that clients understand.

“Some people are so new at investing that they don’t know that SRI is available,” Peace adds. “When I bring it up, it sparks something and the whole conversation changes.” IE



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