This blog post was originally written as a Speak Your Piece article on Redding.com posted on March 9, 2015.
Financial advisors and investment professionals need a Hippocratic oath — a foundational principle to act in the best interest of their clients and to first, do no harm.
For centuries, physicians have sworn the Hippocratic oath to act with prudence, diligence and care to heal their patients. These principles are deeply embedded in the framework for how medical care is delivered worldwide and codified in the rules and regulations adopted by the organizations which govern the practice of medicine. We can see how important it is for medicine, so why don’t we do the same for finance?
Currently, only some investment professionals are held to a fiduciary standard (fee-only financial planners or registered investment advisors, for instance) while the rest have only to meet lenient requirements that essentially give would-be wolves their sheep’s clothes.
This may be about to change and that is good news for consumers.
At an AARP event Feb. 23, President Obama announced his support for a “fiduciary standard” that would require financial advisors and other financial professionals to act in the best interest of their clients.
“There are a lot of very fine financial advisors out there,” Obama said, “but there are also financial advisors who receive back door payments or hidden fees for steering people into bad retirement investments that have high fees and low returns.”
A fiduciary standard would be a win for consumers and could save individuals tens of thousands of dollars (or more) over a lifetime and have a material impact on a person’s long-term financial success.
The crux of the problem is this: Because fees are often baked into investment products like actively managed mutual funds and annuities, there is a huge misconception among investors that investment advice is free. The reverse is, of course true.
Some advisors perpetuate this misconception when in reality, mutual fund and annuity companies pay them per financial product that they sell, much like how a car dealership pays its sales people by the car.
The “advice” an investor receives from a broker is — at its worst — a thinly veiled sales presentation aimed at selling a product rather than doing what is in the best interest of a the client.
The fact of the matter is, with very few exceptions, these actively managed mutual funds and annuities pay advisors handsomely yet they often underperform much lower cost exchange traded funds or passively managed mutual funds.
To return to the health care analogy, this would be like going to a cardiologist solely compensated by the company that sells pacemakers. One pacemaker company sells a pacemaker that lasts 10 years and pays a large commission, while another pacemaker company sells a pacemaker that lasts 15 years and pays a smaller commission. Which pacemaker is the cardiologist going to be incentivized to use?
Barry Ritholtz, a popular columnist, blogger and commentator described it best in 2013 when he sarcastically tweeted that under the current mode of operating, investors are invited to “come for the high fees, stay for the underperformance.” In other words, consumers are paying advisors fees out of their profits and thus are making a smaller investment return in the first place.
The compounded effect of these hidden fees have a real impact on an investment portfolio over time. One free online resource called FeeX — www.feex.com — touts itself as the Robin Hood of fees and illustrates very plainly the 30-year impact of the invisible fees an investor is paying.
While tools like FeeX are great resources given our current environment, wouldn’t it be better if a tool like FeeX didn’t have to exist because advisors always acted in ways that aligned with their client’s best interest?
While I don’t always see eye-to-eye with President Obama, enacting a fiduciary standard is a good starting point for the industry. No, it won’t solve corruption, but would-be wolves will have to find a new place to buy their sheep’s clothing. While the policy should be a no-brainer, it will probably be debated for months to come. One thing is clear: advisors should be required to first do no harm.