Unless you are knowledgeable of the legal or financial services industries, there is a good chance the word fiduciary is not part of your regular vocabulary. However, if you are seeking financial advice, it is a word you need to understand. When receiving advice, you need to know if that advice is coming from someone putting your interests ahead of their own.
Rather than getting bogged down with Webster’s dictionary thirteen-page definition of fiduciary, I think the following from Wikipedia sums it up nicely:
“A fiduciary is someone who has undertaken to act for and on behalf of another in a particular matter in circumstances which give rise to a relationship of trust and confidence.”
More important than understanding the definition of the word fiduciary is understanding how it applies in the world of financial advice. Pamela Yip’s article “Know what roles stockbroker, investment advisor play in handling your money” hits this head-on:
- Stockbrokers are governed by the “suitability rule,” which means they’re required to recommend investments that are suitable for you based on their knowledge of your financial situation and needs.
- Investment advisors, on the other hand, are required to exercise “fiduciary responsibility,” which means they have to put your interests ahead of theirs at all times when providing advice and recommendations.
This subtle distinction becomes more important every day with the large brokerage houses seemingly trying their best to blur the lines by referring to their brokers as financial advisers, wealth managers, financial consultants, and other non-regulated names. An example from the Indiana Securities Division helps demonstrate the distinction:
Two products exist that are both suitable to a client’s needs. Product A gives the client a better return on their investment but Product B gives the financial services professional a higher commission. Acting under the suitability requirement, the financial services professional might offer Product B. However, under fiduciary duty, the financial services professional must offer Product A.
The simple fact is brokers and investment advisors are held to different standards. By definition an investment advisor is considered to be acting in a fiduciary capacity on behalf of clients with a higher standard of disclosure and due care, a commitment to disclose, minimize and resolve conflicts of interest that are often found in a traditional securities brokerage environment. A registered representative of a securities broker-dealer firm does not necessarily have a fiduciary relationship with the client under the current regulatory structure of U.S. Securities laws.
Evan Cooper, Deputy Editor of Investment News suggests advisors, or clients seeking an advisor, can easily clear the deck of any misconceptions by having the person or firm sign this simple pledge:
1. I will always put the client’s best interest first — ahead of my own and that of my firm and its employees. As defined by federal law, I will act as a fiduciary.
2. When selecting investments, I will act as the client’s agent, seeking the best investments at the best prices at all times.
3. While neither I nor anyone can promise superior investment returns, I will provide impartial advice and act with skill, care, diligence and good judgment.
4. I will provide full and fair disclosure of all important facts, including my compensation from the providers of the products and services I offer, as well as all fees I pay to others on your behalf.
5. I will fully disclose and fairly manage, in the client’s favor, unavoidable conflicts.
As simple and straight-forward as this is, you are unlikely to find many registered representatives of a securities broker that will sign such a document.
Firms that claim to provide both a brokerage and advisor services will have to explain when they are acting as a fiduciary and when they aren’t. Whether the financial professional is putting the interests of the client first as a fiduciary versus simply recommending an investment that is ‘suitable’ often depends upon what product or service is under review. For example, the client may be owed a fiduciary duty when being provided with a financial plan but suitability rules may control when determining which large cap growth mutual fund to purchase.
Capital Cities Asset Management is a registered investment advisor and a fiduciary to our clients.