I wanted to comment on a recent communication from the OSC Investor protection is a three-way street. But first I wanted to refer people to a CBC hidden camera investigation on financial services’ product sales people:
I can see that IIROC have put some real work into this and have largely done as much as they can given the constraints they are operating under: they cannot rule against leveraged investment or unilaterally move outside of a transaction remuneration regime; this is the main securities regulator’s job, if not a government level responsibility.
A theory of troubles(The Economist)
‘It’s Not Just Talent and Hard Work’(Economist’s View)
If we have income inequality we are likely to have an increasingly asset focussed capitalist system. That is the demand for non productive assets and securitised indirect investment in productive capital should increase as demand for goods and services as a proportion of national income declines.
Capitalism is not about wealth, it is about capital and its continuous productive employment. Increasing inequality combined with rising wealth in non productive assets is essentially anathema to a structurally sound capitalist framework.
A big part of the problem is that key elements of the operational economic model, that which determines revenues and that which determine costs, have become disassociated from each other – marginal costs and marginal revenues need to be related. Additionally the model itself is also suffering from leakage as less profit is reinvested and earnings are increasingly distributed to those who will accumulate and not eventually consume, with consequences for asset prices, which themselves have a feedback loop into the economic engine.
I was reading a couple of posts on FT’s Alphaville (Robots won’t make you rich for long & The UK’s squeezed bottom, charted) and a Stiglitz piece on Project Syndicate (Stagnation by Design). The second Alphaville post provided a link to an important document on income disparity, produced by the Resolution foundation.
I disagreed with the gist of the Robots won’t make you richer (a repost to Martin Wolfe’s Enslave the robots and free the poor), largely because the post confuses the price of an asset in the stock market (GM stock) with the value of the actual capital invested to produce the goods and earn the profits, but I felt that there was a thread between the subject matter of these different views that was worth expanding on.
This is the third perspective dealing with concerns over US employment and related US growth dynamics:
A great deal of the growth in employment over the last few decades has been concentrated in the health and education sectors. Student debt has become a major problem post the onset of the current financial crisis and health care has likewise become, over time, a tremendous economic cost and a structural barrier to growth.
Increases in private payroll employment are weak in historical terms. But if only that were the only issue: weak population growth, falling participation rates, elevated part time employment and continued weakness in self employed categories raise serious concerns for growth dynamics.
The last two employment reports have been casting a shadow over the strength of the economic recovery.
Just focussing on the last two months of data probably does some disservice to the underlying fundamentals. October and November were relatively strong months, and although we can see a slowing trend (blue line, 4 month average), the last two months may be more correctly viewed as an adjustment. The weather may or may not have had an impact.
Well done Food Babe – http://foodbabe.com/subway/ – and sign the petition!
Regulation and investor protection begins at home, not at the regulatory level or with the courts.
There is a lot of confusion amongst the regulated that a move towards a best interests standard will lead to more rules. This is incorrect. They will lead to more principles and fewer rules, less conflict and better outcomes, greater self regulation and higher levels of investor protection and much reduced regulatory intrusion. But not overnight!
The ability to deliver best interests standards depends on well structured processes that depend on a well defined set of decision rules. Strong processes need only be regulated by principles, as the processes contain all the rules. The trick is to make these processes transparent and accountable to a standard (best interests).
Regulation + process = leverage.
I will touch on some of my views regarding the significance of all this in a later post and there is a disturbing significance.
Q4 US GDP (provisional estimate) was helped by a) an increase in personal consumption expenditure that may have more to do with earlier weakness than a strengthening trend, b) a continued rise in inventories and c) a significant increase in net exports (close to 40% of the increase in GDP).
I am just going through the Q4 data and I thought the following was interesting:
Whether he realises it or not, Bill Rice has unwittingly argued for the introduction of best interests standards as a solution to the regulatory burden.
I wanted to make a further comment on a topic that spins nicely off Bill Rice’s Keynote speech, that applies to everyone who opposes the introduction of a best interests standard.
“It is important to securities regulators that intermediaries are as effective as possible and, in that regard, that they be as skilled and experienced as possible, and are motivated by incentives to do as good a job as possible.”
That topic is compliance and the benefits of encouraging a culture of compliance. At the moment the focus is on balancing the opposites of advice based service requirements and transaction based remuneration. Compliance and incentives are in conflict and the hammer and the nail will always be needed to keep the two together.
As per Bill Rice’s recent keynote speech (to the IIROC – CLS Compliance Conference 2013), there is a mistaken assumption that the global movement towards best interest standards has occurred as a result of the most recent financial crisis, and that because Canada emerged relatively unscathed (although I would argue that Canada’s consumer debt dynamics would suggest otherwise) that best interest standards are an ill conceived knee jerk reaction to problems which do not exist in the Canada.
In point of fact, regulation in the UK has been focussed on issues of best interest standards for a much longer period of time.
Very briefly, I just wanted to add a quick data point to “the US has completed its debt rebalancing argument”. In recent posts I made my views on this point known with respect to debt dynamics, but it is worthwhile looking at historical personal consumption expenditures as a % of GDP:
Recognising and protecting the implied contract, to act in one’s best interests, between consumers of financial services and advisors should lead to more market efficient outcomes, should better maintain the integrity of the market place and raise the confidence of consumers in the advice they receive and the markets and securities in which they invest.
I wanted to address a central theme in Bill Rice’s recent address. This theme is the apparent regulatory focus on intermediaries (noted throughout his speech) to the exclusion of consumers.
The following is taken from “The Essential Role of Securities Regulation, Duke Law Journal February 2006”.
“Any serious examination of the role and function of securities regulation must sidestep the widespread, yet misguided, belief that securities regulation aims at protecting the common investor….…The law of securities regulation may be divided into three broad categories: disclosure duties, restrictions on fraud and manipulation, and restrictions on insider trading.
Quite frankly I am gobsmacked, but at the same time eternally grateful to the many gifts this communication will provide the public debate on best interest standards. I of course refer again to the Keynote Address by Bill Rice, Chair Alberta Securities Commission, on December 3, 2013 to the IIROC – CLS Compliance Conference 2013.
In this address he made a number of points that I think are worth pointing out and rebutting:
Just doing some research on financial intermediation and came across this interesting paper:
Finance vs. Wal-Mart: Why are Financial Services so Expensive? Thomas Philippon, New York University
“The finance industry of 1900 was just as able as the finance industry of 2000 to produce bonds and stocks, and it was certainly doing it more cheaply. But the recent levels of trading activities are at least three times larger than at any time in previous history. Trading costs have decreased (Hasbrouck (2009)), but the costs of active fund management are large. French (2008) estimates that investors spend 0.67% of asset value trying (in vain, by definition) to beat the market.
In the absence of evidence that increased trading led to either better prices or better risk sharing, we would have to conclude that the finance industry’s share of GDP is about 2 percentage points higher than it needs to be and this would represent an annual misallocation of resources of about $280 billions for the U.S. alone.”
I am just going through this key note address. I will be blogging about this in greater depth, but I thought it would be useful to note some interesting statistics and one key observation:
Use of the word advisor/adviser – 0 times
Use of the word salesperson – 5 times
Use of the word intermediaries – 7 times.
It seems to me that the heart of the matter, as far as this key note address is concerned, is the differing view over the roles of advisors and the representation of that role. Bill Rice views the role as one of salesperson and intermediary. If the role was clearly one of pure intermediation, then I would agree with him, but it is not.
This speech betrays an alarming level of ignorance, within the corridors of our country’s regulators, as to what is happening in the financial services industry.
We are moving from a dysfunctional, low tech, high cost past, to a more sophisticated, accountable, well structured future with better differentiation of service and pricing options. The clamour over the “advice gap” is self interested, myopic and deliberately misinforming.
Intellectual Dishonesty at the Ivey Business Journal (Progressive Economics Forum) – hat tip Joe Killoran.
CANADA ISN’T ROTTEN TO THE CORE: A REVIEW OF THIEVES OF BAY STREET (Ivey Business Journal)
Hello 2014- the tricks of trade – weak global growth isn’t the only problem & Hello 2014- another difficult year for emerging equities & Hello 2014- Asia in 2014- Watch Japan (FT’s Beyondbricks) & http://blogs.ft.com/beyond-brics/2013/12/27/hello-2014-dont-be-afraid-of-slower-chinese-growth/
China’s credit spiral (FT Alphaville)
The year of the Snake – 2013 returns in fixed income markets (Bond Vigilantes)
In a recent post on employment and Q3 US GDP, I made the point that inventories could be impacting employment data. Inventories are also likely impacting PMIs (new orders, employment, production components) and other data points, so I would be wary of reading too much into recent data.
Ed Yardeni also makes some valid points re inventories in his latest post -Another Soft Patch Ahead- (excerpt)