5th Circuit ‘Victory’ Exposes Fiction Behind Brokers’ Claims to Act as Trusted Advisers

Last month, the brokerage industry won a Pyrrhic victory when the 5th Circuit Court of Appeals vacated the Department of Labor’s Conflict of Interest Rule. The price of victory was the destruction of their credibility as a source of reliable financial advice.

The industry has spent decades trying to persuade the public that brokers are trusted investment advisers who just happen to be paid through commissions, rather than fees.

• As far back as 1991, a Shearson-Lehman ad urged investors to “Think of your Shearson-Lehman Financial Consultant more as an advisor than a stockbroker.”

• A decade later, a Prudential Securities ad proclaimed that “it’s advice, not execution, that’s at the heart of our relationships.”

• Today, the website for Wells Fargo Advisors, the firm’s retail brokerage unit, declares, “We provide advice and guidance to help maximize all elements of your financial life, whenever and however you need it.”

That’s a nice sentiment, but when the DOL took brokerage firms at their word and proposed to regulate them as the advisers they routinely claim to be, the industry was having none of it. They invested millions of dollars in an aggressive, multi-front campaign to kill a rule that would require them to act in their customers’ best interests and rein in the conflicts of interest that encourage and reward harmful advice.

In order to convince the court that the DOL had overstepped, the Securities Industry and Financial Markets Association and the other industry trade associations argued that brokers are merely salespeople whose investment recommendations cannot reasonably be included in the definition of fiduciary investment advice.

A fiduciary duty “only applies where a heightened relationship of trust and confidence exists,” they argued. As such, it should not apply to brokers and insurance agents, because they are simply salespeople engaged in activity that “involve[s] nothing more than suggesting and selling a financial product,” they claimed.

The court agreed, finding it “inconceivable that financial salespeople or insurance agents will have an intimate relationship of trust and confidence with prospective purchasers.”

This may come as something of a shock to the millions of investors who have been sold a bill of goods about how their trusted “financial advisor” is an adviser first, and a salesperson second, who always seeks to do what’s best for them.

The industry clearly recognizes the threat to which this line of reasoning exposes them. After all, no investor in his right mind would pay full service prices for a biased sales recommendation from a “mere seller.”

As a result, now that they’ve won a reprieve from being regulated as advisers under the DOL rule, the brokerage industry has once again switched hats. In a series of public statements and columns, SIFMA has gone back to proclaiming its support for a best interest standard that would “preserve access” to the valuable “investment advice” its members provide.

But, having watched them lobby against the DOL fiduciary rule and read their comment letters to the Securities and Exchange Commission, we know the conditions they place on that support: the new standard cannot actually require them to do what is best for the customer or rein in the toxic incentives that are the source of so much harm. Instead, industry lobbyists have proposed to add a few largely meaningless disclosures to their existing suitability standard and call it a best interest standard “appropriately tailored to a broker-dealer business model.”

In short, industry lobbyists are back to trying to hoodwink the investing public into believing salespeople are really advisers, sales pitches are really advice, and an obligation to make recommendations that are suitable, but not optimum, is really a best interest standard.

Assuming, however, that the 5th Circuit ruling stands, despite having no basis in fact or law, that will have huge implications for how the SEC proceeds with its own regulatory proposal.

If brokers are merely the salespeople they claimed to be in court, the SEC has a moral obligation to make that distinction crystal clear to the investing public. Only those firms who clearly label their representatives as salespeople and their services as investment sales should continue to qualify for the broker-dealer exclusion from the Investment Advisers Act. For the SEC to do less would be to give its seal of approval to clearly deceptive business practices.

If, however, brokers are really the commission-based advisers they’ve been selling themselves as for decades, then they need to be regulated accordingly. And that means adopting an approach that recognizes the corrosive effects of conflicts of interest on the quality of advice.

With rumors swirling that the SEC is just months, or even weeks, away from releasing its regulatory proposal, we will see how the agency has chosen to resolve this dilemma.

More, we will see whether SEC Chairman Jay Clayton is capable of doing what none of his predecessors going back two decades has been able to do: craft a tough and flexible standard that will raise the quality of advice offered by broker-dealers and investment advisers alike so that all such advisers truly act in their customers’ best interests.

That is what investors reasonably expect when they turn to financial professionals for advice about their investments, and they deserve nothing less.

Barbara Roper is the director of financial protection for the Consumer Federation of America and lead advocate for the DOL Fiduciary Rule.

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