posted on May 5th 2016 in Market Commentary with 0 Comments /

For many months, Wall Street brokers have been complaining about how badly they would be hurt by potential new rules that would require them to at least sometimes work just a little more in the best interest of their clients.  Naturally, when the Department of Labor recently announced the new rules, it did so with great fanfare about how much they would help investors avoid unfavorable business arrangements. Yet the markets, seeing how little the new rules did, actually rewarded stocks that would’ve been hurt badly by real reform (LPL Financial, Ameriprise and other broker-dealers). In other words, it wasn’t so bad for commission brokers after all. Read that as: it wasn’t that much of a help for consumers.  

 

First, let’s talk about the limitations of these rules.

  1. They don’t all happen at once; they’ll be phased in over the course of years beginning in 2017.
  2. They don’t change anything that happened in the past; everything that’s in place is untouched. No need to go back and fix anything and retroactively seems broken.
  3. They don’t apply any sort of fiduciary standard to any non-individualized marketing or commentary, which is the primary way these brokers win business anyway.
  4. They don’t apply to everything. They are in regards to retirement assets.
  5. It doesn’t actually disallow certain sales practices, it just means that the broker would have a hard time justifying his recommendations if the case was ever taken to arbitration.

 

Digging a little deeper into how these rules leave almost everything the same, consider the following. Under the new rules, insurance salespeople, broker-dealers, and sellers of mutual funds and non-traded REITs will just need to add a disclosure to their voluminous paperwork called a “Best Interest Contract Exemption” when dealing with retirement assets. Did you laugh when you read that last sentence? Let me rephrase it. The rules say that by having you sign a little disclaimer saying your salesperson/broker-dealer/seller isn’t working in your best interests, it’s all good. And, given that you probably don’t closely read product prospectuses, you may not realize what you’ve signed. I seriously couldn’t make this stuff up.

 

One interesting point many critics have pointed out is that non-traded REITs are no longer excluded from being recommended in retirement accounts as they were expected to be in prior versions of the rules. I’m sure the lobbyists from the broker-dealers are collecting some fat bonus checks on this one since this product usually pays the broker 7%! Now, as a free-market guy, I’m not against the fact that these products exist. However, I don’t understand how DOL can allow someone to sell this product in a retirement account that supposedly now has fiduciary standard expectations. This really blows my mind.  Of course, I suppose this is where that little “best interest exemption clause” really does it’s job.

 

The segment of consumers I believe may actually benefit the most is those who are the least sophisticated yet seek guidance with retirement assets since they’re now held to standards closer to the fiduciary standard. Overall, though, we will have to rely on the interpretation of the rules through case law since we don’t know how strictly judges and arbitrators will be on the justification provided for the recommendation. So, we probably won’t really know much about these changes for 5-10 years or more. On the bright side, my guess is that probably fewer brokers will be willing to risk convincing someone to rollover a 401k into an annuity that will pay a fat 8% commission plus trailing commissions since they’ll now have to prove that such a retirement move was in the best interest of the client–well, if a complaint is actually filed anyway.
In summary, these rules are probably a nudge in the right direction. However, the industry has been moving in this direction for years already as more consumers have become aware that the overwhelming majority of people calling themselves advisors aren’t fiduciaries at all. Industry trends have been showing for years that consumers are moving their business to firms (like WorthPointe) that choose to abide by fiduciary standards rather than waiting on the industry to slowly tighten up on their practices little by little. This of course begs the question: Why worry about all the laws slowly forcing these sales shops to come just a little closer to putting client interests first when there are firms that are already fiduciaries?

about the author: Joshua I. Wilson CMT

Josh-Wilson CMTJoshua I. Wilson, CMT®, AIF® is a partner and wealth manager who has managed over $2B for TD Ameritrade. Joshua led the national training and development program for all of TDA’s new advisors and managers, won a national coaching award. Joshua gave his graduation speech at Brown University. Joshua is a Chartered Market Technician® (CMT®) and a Accredited Investment Fiduciary® (AIF®).

Learn more and/or Contact Joshua

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