Regime Change & Covid-19

Some further thoughts on the Novel Covid-19.  Health systems around the world have been woefully late to the party, largely thanks to governments not wishing to sow the seeds of panic.  Unfortunately the new lockdown/quarantine measures that may be effective against the virus over a period of time are also tremendously effective against the wider economic/social habitat.  Interest rate cuts are largely ceremonial unless these are fed directly into the hands of debt holders.  Moreover large fiscal stimulus and support of individuals and businesses across the spectrum are likely needed to prevent a system regime change.  Unlike 2008 where we were still able to drown our sorrows amongst friends, virtually all extraneous social expenditure is now increasingly under wraps.  We cannot spend more because we are not allowed to and whole swathes of businesses, industries and individuals are being affected.  The fiscal, social and medical supports our modern societies may well need to get us through will rewrite the economic textbooks that have for too long excluded medical, social, community and environmental aspects of life from the market pricing model.

The path towards negative interest rates

In a coronavirus environment where people are prevented from interacting and working the ability to finance debts diminishes rapidly.  How can we finance this gap?  Negative interest rates on debt.   A transfer from asset holders to debt holders.   Governments will also need to look to support employment income during quarantine periods as companies, especially smaller service based companies on small operating margins are most at risk.  We need fiscal and monetary measures as well as health and medical to address this developing event.

Fairness and balance in the complaint process where interests of the dealer and registered representative must be considered!

My first substantial post on financial services issues in Canada for some time:

I had been “lightly” reviewing the Canadian OBSI and IIROC complaint processes until I came across this section within IIROC’s complaint handling guidance:

“There must be a balanced approach to dealing with complaints that objectively considers the interests of the complainant, the Dealer Member, the registered representative, employee or agent of the Dealer Member, and/or any other relevant parties.”

The issue of semantics is an important one: how you word your guidance has an impact on the outcome of a given complaint process. Complaint processes, from the internal all the way to the Ombudsman, take note of regulatory guidance. But the issue is of course more nuanced and detailed than this…..

The UK Financial Services Ombudsman uses the following terminology: “The law requires us to decide each complaint on the basis of what we believe is fair and reasonable. In doing so, our rules require us to take account of the law, rules and good practice in the industry. This is the way in which parliament specifically intended us to operate.”

The Canadian OBSI states similarly that they “We are balanced and objective in our work…Our decisions are based on what’s fair to both the client and the firm. We take into account general principles of good financial services and business practices, the law, regulatory policies and guidance, and any applicable professional body standards, codes of practice or codes of conduct”.

What does balance actually mean, especially with respect to consideration of interests?

Conflicts of interests are known to skew investment recommendations in favour of firms and registered representatives, with negative financial consequences for the investor. These financial consequences are either with respect to increased costs, hence impaired risk/returns on products and securities, and/or excessively skewed allocations with respect to actual risk profiles and for want of a better word, risk capacity.

If regulation assumes a buyer beware, caveat emptor, transactional relationship where disclosure is intended to satisfy mitigation of a conflict of interest, and where simple information parameters are used to define suitability for transactions initiated by an investor, and where it is assumed that the collection and calibration of these parameters is conducted with integrity, then the balanced consideration of interests would tend to support the costs and the wide boundaries of outcomes irrespective. A product recommendation, within current regulation does not have to be in the client’s best interests; it merely has to conform to the parameters of the KYC.

I say irrespective because conflicts of interest also risk influencing the parameter selection that lead the client towards a selection of parameters that may reflect the interests of the distributor. The sales process and its conflicts therefore risk overly influencing the parameters upon which a complaint process assesses outcomes, especially if the presumption is of process integrity with respect to their collection – note that industry risk profiling in research conducted on behalf of the OSC’s Investor Advisory Panel found that most industry risk profiling was not fit for purpose.

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The rise of the internet retail GIANTS, terra retail property value and future cash flows.

I have not blogged for a while.  Why?  A number of large projects for one that required immersion, but more simply that while there was a lot of noise, the fundamentals had not changed with respect to two key areas of interest.  The first that of investor protection concerns in Canada, the second, that of economic, market and financial imbalances in the global economy.

As far as investor advocacy is concerned, no change here: the CSA has stalled and more or less reversed course on two major initiatives, getting rid of mutual fund commissions and the move to best interest standards.  The move towards upgrading a transaction led retail financial services framework, with minimal change to industry accountability, continues unabated; there is still no recognition of the fundamental responsibilities surrounding the provision of personalised investment advice in Canada (within the advisory sphere), even within the new targeted reforms and so called proposed “best interests standards”, and vested interests and regulatory infighting are stymieing any possibilities of change. 

With respect to global financial, market and economic imbalances, again, no real fundamental change here: we remain in a deeply unsettling paradigm of low growth dynamics supported by debt and asset focused monetary excess; the marginal dynamic in the US is that of rewind vis a vis monetary excess, which will be destabilising.

There is however one dynamic that I would like to shine a light on: this is the hollowing out of the terra retail space by the likes of Amazon and the move by shareholder activists in a number of companies to ditch the business and sell the real estate.

The rise in income inequality and debt to help finance the growth deficit has led to lower interest rates, numerous financial crisis and a focus on asset price support by central banks.  The asset price focus has raised real estate prices which has increased the attractiveness of selling retail properties relative to present values of terra retail profits.   The rise in property prices has also increased the costs of terra retailing, increasing the attractiveness of remote online sales.   The pressure on salaries and ultimately on operating margins by this dynamic risks further exacerbating income inequalities etc.

To me the cycle is one of concern:

Rising inequality forces an increase in debt.

Rise in debt increases sensitivity of economy to interest rates.

A rise in interest rates leads to financial and economic crisis, imperilling financial system.

Financial system supported via low interest rates and asset focused money supply without addressing income inequality dynamics.

Asset prices rise, present values of economic flows decline, income growth dynamics remain weak force move to lower costs and lower prices.

High asset prices, cost competitive imperatives forces retail to move out of terra, selling assets attractive.

Retail property turned into residential real estate for investors/higher net worth individuals.

Loss of service jobs further weaken consumption dynamics, increase reliance on low interest rates and asset price support.

Go figure!

We have lost sight of the fact that system design is critical to what you do within it.  I see little or no evidence of any awareness of the overall system we are meant to be working towards.  

The FCAC & The Canadian Banking “Scandal”: how could they not see it coming?

The fundamental weakness of current regulation is that it relies primarily on effective consent by consumers, effective disclosure by banks and education by regulators. In order for all three layers of regulation to work we rely on banks’ commitment to good ethical conduct with respect to service processes. Take away ethics and integrity and over emphasise aggressive sales targets and the frame in which regulators depend on to protect consumers disappears. Is it not ridiculous that the largest fine the FCAC can impose on a bank for the breaches we appear to be seeing is a $500,000 fine?

From 2006’s, “The New Science of Sales Force Productivity”:

“They can get much more out of their entire sales force by using a hard-nosed, scientific approach to sales force effectiveness.…in a few years, they will almost certainly be standard operating procedure for any company that hopes to compete effectively in the global marketplace.”

“When we studied the results of a systematic sales force effectiveness program launched in several branches of a large Korean financial services provider, we found that the branches experienced a 44% rise in weekly sales volume, compared with a 6% decline in other branches. The top quartile of customer-service reps increased their product sales by 6%, the second quartile by 59%, the third quartile by 77%, and the bottom quartile by an astonishing 149%. “

Lucie Tedesco, Annual Consumer Session, Ottawa, March 30, 2017:

 Much like the organizations you represent, FCAC is focused on consumer protection. The financial marketplace is constantly evolving, and we have to stay in step with that evolution—and evolve ourselves. We are only as effective as we are prepared for emerging challenges and opportunities.

Take an industry where relationships have been built on trust, decades of trust, where these relationships have a natural point of sale advantage, where the regulator trusts the industry to treat clients fairly and whose main lever of regulation is education and mandated disclosure.

Add to this mix a highly concentrated banking sector, where most individuals already hold an account and where the route to revenue growth lies in selling successively more and more services and products each year.

And then add aggressive management of those sales targets.

Canada needs to scrap its over reliance on education and disclosure and the “tick the box exercise” that is consent and take heed of the changes to the competitive landscape and the well recorded weaknesses of an over reliance on disclosure as a regulatory tool.

Forget educating the public, the FCAC needs to educate itself as to the realities of both the industry and regulation of that industry.

Go Public’s Investigation

In March CBC’s Go Public investigative team reported on a burgeoning crisis in Canadian retail banking. Reports strongly suggested many bank employees (both high street and call centre) had come under intense pressure, especially over the last few years, to sell increasing amounts of products and services to customers; the only way to reach sales targets (lose your job or sell) was to, inter alia, cross sell/sell/up sell less appropriate higher cost products/services instead of, at times, more appropriate lower fee/cost alternatives.

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More thoughts on best interest standards, regulation, common law and carve outs

Forgive me for posting less well prepared items, but time is short and the thoughts themselves are valid.  Noted below are some brief thoughts I sent in a recent e mail exchange (with some minor amendment) re the Ontario FINAL REPORT OF THE EXPERT COMMITTEE TO CONSIDER FINANCIAL ADVISORY AND FINANCIAL PLANNING POLICY ALTERNATIVES


One thing that has become increasingly clear to me over the years is that many securities regulations, that are supposedly there to protect Canadian investors, appear to operate as de facto carve outs from common law duties.  

Under agency law an advisor acting under instruction to buy a security would not I believe be allowed to sell you a product that is more expensive than another (and pocket the difference without your knowledge) because he gets paid more for doing so; he would owe a duty of loyalty to the principal and not to the third party to do otherwise.  

From Disloyal Agents, Demott D, 2007: “only the principal can assess how best to further the principal’s own interests and objectives. The prospect of acquiring a side benefit may distract the agent from focusing on accomplishing the principal’s objectives by biasing how the agent interprets instructions received from the principal and understands what the principal wishes to achieve. This is so even when the side benefit received by the agent does not come at an explicit cost to the principal. If the agent, in contrast, duly discloses the prospect of the side payment, in determining whether to consent, the principal may assess how the payment may compromise or aid the agent’s performance. “ p1055

Current regulations allow advisors to earn more on some products than others, thereby disadvantaging the investor and this is compliant with securities regulation.  The present best interest standard proposals via the CSA Consult appear to me to be attempting to right this carve out in an attempt to prevent advisors from recommending higher cost similar products – this is a best product standard and conforms to agency law with respect to duties of loyalty and performance.  It is not a best interest standard for advice.

At a fundamental level a fiduciary standard is a legal obligation attached to a common law duty, and in the case of advice, this common law duty is applied to advice.  Securities Acts allowed a carve out from a fiduciary duty for advice incidental to the transaction in the US in 1940 and Canadian Securities Law, I believe, is drawn from this root.    At present there are no material regulatory or statutory protections for advice provided by dealing representatives in Canada and this is affecting legal decisions in terms of establishing the relationship deemed to be at issue. 

The “Suitability standard“ is a half way house, a recognition that advice is being provided, that the typical agency relationship of instruction is actually one that includes advice and that regulation of the transaction on its own omits important liabilities associated with this non regulated duty.  But how to acknowledge and regulate without attaching fiduciary duties?  The suitability standard!

The SBIS from the expert committee appears to be a best interest standard applied to advice with carve outs from common law that weaken the duties and obligations of the fiduciary duty.  The expert committee should provide an explanation as to what the carve outs are exactly.  Its standard complements the CSA proposed standard in that it deals with different duties: one is the best product, the other the best advice.   But the SBIS, as I said, has critical carve outs that would not, I presume, be allowed at common law.  

Critically from page 52 of the Expert Committee’s report:

Historically, the common law relating to fiduciary duties carries strict rules relating to loyalty and conflicts. Importing these rules to the financial sector would likely cause confusion, especially because breach of fiduciary duty may give rise to equitable remedies which may be more generous than is appropriate. A SBID would insulate against the importation of undesirable or unnecessary elements of a fiduciary duty, and permit a customized articulation of the standard that is tailored to the financial advisory context.

These carve outs will weaken attempts by individuals to take complaints to court in that a determination has already been made, at a statutory level, that the duty to advice in a client’s best interests is not a fiduciary duty as such and not deserving of its protection.

Note the following taken from my submission to the CSA Consultation 33-404

The issue of how courts interpret regulatory rules is discussed in the UK Law Commission’s 1995 review of Fiduciary Duties and Regulatory rules

Should fiduciary law take account of rules made by regulatory bodies operating in the public – law sphere? Our provisional view is that it should: either because there is statutory authority for rules to modify common law and equitable obligations … or because the court should take account of reasonable regulatory rules in ascertaining the precise content of the common law or equitable duty…our provisional view that problems of mismatch between what is required or permitted by regulatory rules and the obligations imposed on fiduciaries by the common law and equity lie principally in the field of financial services.”

“the decision to use a particular form of regulation and a particular regulatory body was a legislative one, and the regulatory bodies to whom Parliament has delegated the achievement of the new statutory purposes are likely to have expertise in the areas remitted to them….Thus, although the new system is described as self-regulating, it is the product of legislation and is a form of public law regulation. It is, therefore, appropriate to take some account of regulatory rules when assessing liability for an alleged breach of a fiduciary obligation.”

Issues with respect to CSA and Expert Committee Best Standard Proposals

A recent e mail exchange allowed me to briefly raise again some of my issues with the current proposed best interest standards; one of the held within the recent CSA consultation and the other in the recently released Expert Committee report .  I note my comments here mainly because they raise important issues that I have not previously emphasised.


I do not believe that there is an existing Best Interest Standard for personalised investment advice in Canada; the personalised investment advice relationship under dealing representative categories is not recognised under the securities act and regulation. 

If there is a best interest standard it applies to the responsibilities of the broker relationship with respect to the scope of the transaction relationship as per agency law.  A best interest standard for the provision of personalised investment advice should be a fiduciary standard and I note that there are many academic and legal references to the fiduciary duties of agents with regard to the lesser common law scope of agency.

To gain a better understanding of the scope of the current best interest standard, as stated by regulators like IIROC, you need to understand the historical legal precedents and regulation applying.

I elucidate here with respect to an element of my understanding: with respect to the historic of regulation and legislation.

There is nothing specific in the securities act, possibly because the basic common law duties of an agent are already covered and the act has its roots in regulating primarily transaction based relationships (Prof Deborah DeMott: “Basic unit of interaction in an agency relationship is not contract but instruction...”). 

Determining whether duties extend to the provision of personalised financial advice has hitherto been the realm of the courts, but the introduction of a best interest standard should have acknowledged, IMO, this duty for advisors (who represent themselves as providing these services) in statute (note no other jurisdiction that I have read has specifically attempted to distance their best interest standard from a fiduciary responsibility, indeed legislative intent has been that the best interest standard is a fiduciary duty – i.e. UK/Australia).  Instead regulators and expert committee have spent some time eviscerating these standards/principles of such responsibility.  

The best interest standard IIROC et al are confusing, I believe, is with respect to the scope of the traditional client/broker relationship and other activities of the dealing registration and not that of the provision of personalised investment advice.

From Arthur Laby’s Fiduciary Obligations of Broker-Dealers and Investment Advisers

“under agency principles, one’s fiduciary duties are tied to the scope of one’s responsibilities…Under agency law, the extent of one’s fiduciary duty is limited by the scope of one’s agency. The scope of one’s agency depends in turn on the power that the principal has accorded the agent over the principal’s interests. Thus, in determining the nature of a broker’s fiduciary duty, one must analyze the broker’s power over the assets or affairs of the customer. This principle often is stated in the language of trust: a broker’s fiduciary duty is limited to matters relevant to the affairs entrusted to him or her”

“The court stated that the fiduciary relationship between a broker and its customer is limited to the narrow task of executing the transaction…generally speaking, in the case of a non-discretionary account, brokers are not held to fiduciary standards, except perhaps in the narrow task of executing a trade…Why then did some nineteenth and early twentieth century courts hold that brokers were fiduciaries? The reason had little to do with the advisory function performed today. Cases that labeled brokers as fiduciaries centered more on execution or custody-non-advisory-related services-than on the provision of advice. Today, however, cases addressing whether brokers are fiduciaries focus heavily on the broker’s advisory function. The question often presented is whether an investor has placed sufficient trust and confidence in the brokerage firm to justify the imposition of fiduciary obligations. The trust and confidence referred to, however, is trust and confidence in the broker’s advice.”

But, as we know the nature and scope of the actual relationship has changed, and thus has the fiduciary duty implied likewise shifted to the wider scope.  As Laby says, fiduciary duties are defined by the scope of the relationship, so to say that fiduciary duties are impractical with respect to Canadian retail financial services to a certain extent ignores the fact that they already likely apply but are restricted in scope.  This restriction in scope is to the benefit of the industry and to the detriment of the individual investor. 

I am not a legal expert, but it would seem to me that the current regulation of the transaction has effectively allowed advisors to carve out exclusions from the fundamental duties of agency law with respect to the impact of commissions on fund selection, for example, re performance and loyalty.  The best interest standards proposed by the CSA and possibly the expert committee (I have not thoroughly reviewed this yet) seem primarily focused on reemphasizing these duties via a focus on what is really the best product, the transaction, as opposed to the best outcome, the personalised investment advice from which the transaction emerges. 

From Arthur Laby’s Fiduciary Obligations of Broker-Dealers and Investment Advisers ; “Although the scope of activity can be altered by contract, in the case of non-discretionary accounts, a broker’s activity generally is limited to conduct surrounding a particular transaction, whereas the scope of an adviser’s activity extends beyond a particular trade. The different scope of activity yields different duties….. If an adviser has agreed to provide continuous supervisory services, the scope of the adviser’s fiduciary duty entails a continuous, ongoing duty to supervise the client’s account, regardless of whether any trading occurs. This feature of the adviser’s duty, even in a non-discretionary account, contrasts sharply with the duty of a broker administering a non-discretionary account, where no duty to monitor is required.  The two accounts in this example are similar in nature-both the broker and the adviser hold themselves out as providing non-discretionary investment advice-yet the adviser’s duty entails ongoing diligence while the broker’s duty is episodic”

From “DISLOYAL AGENTS” Deborah A. DeMott: “The (US) common law defines agency as the “fiduciary relationship that arises when one person (a ‘principal’) manifests assent to another person (an ‘agent’) that the agent shall act on the principal’s behalf and subject to the principal’s control, and the agent manifests assent or otherwise consents so to act…Moreover, agency law, at least in the United States, requires explicitly that an agent act “loyally for the principal’s benefit” in all matters connected with the agency relationship. A principal may reasonably expect loyal service, not simply the due performance of the agent’s other duties.

Someone obligated to act in their client’s best interests with respect to personalised investment advice has a different set of responsibilities to someone obligated to act in the best interests of their client with respect to the transaction within the scope of the traditional brokerage relationship.

The OSC BIS is not, IMO, a best interest standard for personalised investment advice, it is a best product standard (a de facto best interest standard for a transactional relationship) because its focus is on the end point of a process that is still attached to its fair dealing (transactional) root; in other words, paraphrasing Demott, a response to the basic unit of interaction of the agency relationship, the instruction.  

I believe the CSA consultation and quite likely the Expert Committee have muddied the water with respect to the best interest standard. 

Re the BIS/SBIS: what are its roots and where does it fit within agency law (does it reinforce, refresh or replace existing duties and if so which?) and what are the scope of the relationships being considered?  If the fiduciary duty is not being assigned to the provision of personalised investment advice then why not?  Is it through difficulty defining scope, in which case if the definition of scope and duty is being left to the courts what on earth is the standard itself and its weight and why risk defining a duty at all if not to aid clarity with respect to the duty at common law?  We know that courts take note of regulatory declarations of duties and their accountability.

The Expert Committee’s BIS wishes to keep out undesirable elements of fiduciary duty with respect to loyalty and conflicts.  Yet, if we look at US commentary, fiduciary duties would already appear to exist at common law with respect to the narrower scope of agency, so just what are these undesirable elements and what components of these elements are they excluding?  


Fiduciary Obligations of Broker-Dealers and Investment Advisers –


The Fiduciary Character of Agency and the Interpretation of Instructions By Deborah A. DeMott*


Comments on IIROC’s proposed guidance on Order Execution Only Services

Regulation in Canada often suggests that investors should take responsibility for their investment decisions and to educate themselves (perhaps much more so than other markets and jurisdictions), and have placed their primary focus over the years on disclosure to force such (CRM, POS etc). 

The retail model in Canada is also often portrayed as one where the “advisors” are merely helping the investor to make his decisions, more of a tool almost that helps links the investor with the necessary products:

If you’re an experienced investor, you may want an adviser who offers a wide range of products and lets you choose. If you’re newer to investing, you may be more comfortable with fewer choices and more guidance from your adviser.

The role of your adviser is to give you helpful, informed advice as you build and carry out your investment plan.

The more experienced investor appears to be assigned an even more precarious position of heightened responsibility for their decisions, even within the supposed safety of the “the regulated recommendation”! 

Yet, a one dimensional IIROC consultation on Order Execution Only Services appears to take the opposite tack and paints a picture of a world where responsibility and education are risks even to those investors who have expressed a clear preference to invest on their own account.  

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My take on Best Interests: The CSA’s Roundtable on Consultation Paper 33-404, 6 December 2016

What was my main takeaway from the roundtable with respect to best interest standards?

Not only was there a lack of overt consensus over exactly what the proposed best interest standard is, but the elephant in the room, the distribution model, around which the standard is to be wrapped, was left unmentioned.  Or was it?

In Maureen Jensen’s introduction she made the following statement: “But any changes that we’re going to make must be appropriate for Canadian investors and the Canadian marketplace.” 

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Double charging/dipping on fee based transaction accounts in Canadian Retail Financial Services

Double dipping is where “advisors” and/or their firms charge investors, with fee based transaction accounts, a fee on their accounts at the same time as taking commissions and other transaction returns on the underlying investments.  Since these accounts are meant to swap payment of transaction remuneration on securities held within the accounts for a simple annual fee that favours those with high levels of transactions, knowingly taking commissions and other transaction returns on investments held within these accounts would be a fraudulent act.

Double dipping appears to be a systemic issue in Canada with TD, CIBC, HSBC and Scotia all having been found wanting in this respect.   Canada’s regulators have, for some reason, decided to treat these breaches of firms’ and registrant obligations and regulations as uncontested settlements with no admission or denial of the charges, and have to date seemingly relied on self reporting of issues.

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Will the real Best Interest Standard Please Stand……..UP!


In 2012 we were led to believe that the CSA was looking to introduce a fiduciary type best interest standard into the Canadian retail financial services market. The CSA referred to a “statutory fiduciary duty” which “would likely support a private law cause of action for damages by a beneficiary against a fiduciary…The principal question is whether advisers and dealers should have an obligation to act in the best interests of their clients when providing advice to them. “

The current CSA Consultation states that its best interest standard is not a fiduciary duty and would not interfere with existing client/registrant relationships. The standard would be a standard of care and operate as a principle. The CSA document did not explain the reasoning behind the framing of the rule but it may have left some clues.

My attention was drawn to the fact that the “best interest standard” was to be inserted into the existing obligation to “deal fairly, honestly and in good faith”.

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Best Interest Standards And Legislative Intent: a global view

In conclusion, Europe, Australasia and the US have all exhibited legislative intent with respect to implementing best interest/fiduciary standards for part or all of the investment advisory market place; Europe to date is set to implement best interest standards for the wider market place and much more restrictive and higher standards for those who wish to be seen to be delivering independent financial advice.

Canada is the odd one out! It neither has legislative interest in best interest standards nor does it have unified regulatory interest in best interest or fiduciary standards. Indeed, its best interest standard, as should become clear, is not a best interest standard per se but a best product standard, which places Canada’s regulation, in say UK regulatory time, somewhere in the mid 1980s.



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The Tone From the Top: The CSA’s Best Interests Standard Consultation

A few submissions picked up the nuance in the proposed best interest standard, but not all.  As with much change in the regulation of the retail side, it started out as intended and got beaten down.  Like many things in Canada’s financial services industry you really have to know what you are doing.  Otherwise you have no other choice but to trust in the expertise and professionalism of those you rely on for advice or protection from bad advice.  

The OSC (Ontario Securities Commission) and the FCNB (New Brunswick Commission) are in favour of watered down change that is being paraded as the real deal, but in truth is not.  I do not blame them for trying to salvage something from the grand project.  The BCSC (British Columbia’s Securities Commission) is not and does not even want to hear Canada’s voice on the issue.  The rest have “reservations”. 

I think the fact that most Canadian regulators (our regulators are provincial) appear not to believe it is important for advisors to act in investors’ best interests is poignant.  Pure and simple it means regulators are not willing to act in investors’  best interests.  This is amongst other issues a tone from the top!    

If you cannot trust your advisors and you cannot trust your regulators, then who can you trust, and for what?  There are a few canaries in the coal mine, the OBSI being the most important, but these look like they can keep on singing, for no one who counts appears to want to hear them.  

In other countries the tone has been set by the legislature, that is the democratically elected government.  Governments around the world have pushed for higher standards. 

The lack of tone in Canada goes all the way to the top! And so here is the introduction to my submission:


The Consultation discusses a “best interest standard” for the Canadian Retail Financial Services Market place. The standard is stated as a standard of care and is effective in regulation as a principle (as per statements made in the benefits of a best interest standard) and not a rule. The proposed best interest standard is an about turn from the 2012 statement of intent which was framed as a fiduciary standard and a marked change in direction from the 2004 Fair Dealing Model which acknowledged that the relationship in the industry had transitioned from that of providing transactions and incidental advice to that of advice and incidental transaction.

The proposed standard is not a best interest standard. The CSA or rather the OSC and the FCNB have distanced it from a fiduciary duty and thus removed its regulatory intent and have clearly stated that it will not interfere with current registration categories. This is material. One of the reasons for introducing a best interest standard was to acknowledge that the advisory relationship no longer remained that of an arm’s length commercial relationship where common law would only grant a fiduciary relationship under extreme circumstances, but one where the representation of service had moved to that of the provision of advice and the duties thus elevated. The consultation provides clear instructions to the courts that the relationship is transactional, of the product, where advice is episodic and incidental.

Instead, the consultation, as part of the Proposed Targeted Reforms, has recommended that services that provide advice under a discretionary authority be accorded a clear statutory fiduciary duty. Investors receiving advice under non discretionary mandates, which rely on the same processes, should not be accorded less protection and lower standards of care. The fiduciary liability with respect to advice is represented by the gap between service representation and the integrity of a firm’s service processes to deliver the represented standard of service. These are processes over which the advisor and firm have complete discretion. We know that service representation does not promote the advisor as just a product seller, but this is the relationship which the CSA are regulating and failing to disclose.

To have a fiduciary duty for the provision of investment advice means that you are responsible for making sure that the representations of service are matched by the processes that construct, plan and manage. The Consultation has therefore framed the advisory service as one focused primarily on the point of the transaction. The act of according fiduciary status to the discretionary form of the advice has thus isolated the non discretionary service as one without discretionary process worthy of reposing trust, and placed investors advised under these services to a far lower standard of investor protection and regulatory care. The CSA has effectively prioritised the interests of the industry over those of the client. In this instance, and given the presumption that transaction remuneration is set to continue (note the extensive work on conflicts of interest in the consultation) it is difficult to see how instructions to registrants to prioritise investors’ best interests possess any rigour or tone from the top.

Instead of noting the fiduciary liability that exists via industry representations of service, the consultation chooses to focus on consumers’ misplaced trust and behavioural issues as two of the core reasons behind impaired service outcomes; that and a need to make regulatory expectations with respect to suitability clearer and enforcement of rules more effective. The consultation appears to ignore its own research, with the exception of the Brondesbury report laden with bias over investor responsibility (support for which was not found in any of the research referenced in the report), and the burgeoning literature in this area.

Canada stands alone in the world with its intent to distance itself from imposing fiduciary standards and higher professional standards for the provision of investment advice, and I detail the arguments for this in the submission. In Australia, UK and the US there is clear legislative intent to establish fiduciary standards and while the term fiduciary does not appear in UK and Australian rules for reasons of definition, it does appear in legislative intent. In the US there is both legislative intent and common law precedent for fiduciary duties for non discretionary investment advice. Canada is the only jurisdiction where there is a complete absence of legislative involvement, where the blame for impaired outcomes fails to mention the role of advisors and industry. What would a reasonable person think? A reasonable person would think that regulators are not concerned about advice, but about maintaining the market for products as is.

The proposed best interest standard is nevertheless a progress of sorts. But it is not a best interest standard, rather it is a best product standard and should be inserted as such, either as principle or as a rule into current regulation. It should not be termed a best interest standard as it will further the misunderstanding and misrepresentation of service, exacerbating the existing and unattended fiduciary liabilities within the system. Likewise the Proposed Targeted Reforms, irrespective of how unwieldy and complex they are going to be to regulate and comply with, represent some progress with respect to the standard of care in the suitability assessment.

But the progress is minor and the fractures in the system are clear. We cannot continue to stretch the transactional model. Investment is process driven, if the industry is to evolve regulators needs to encourage the development of process for the construction planning and management of assets, not regulations for transaction compliance. The Proposed Target Reforms talk of pushing transaction ideas through a suitability assessment, but the reality is transactions should come out of such a process. This is all back to front. In order to solve issues such as the advice gap, a problem not occasioned by regulatory change, but a persistent and long standing problem of the masses, we need to develop process. The reason why the advice gap has taken centre stage is because process has taken centre stage and the imperative of process is where the future of the industry lies.

The CSA may have good intent but its ignorance over investment process and construct is obscuring its understanding of the problem. It wishes to keep the horse and cart and forsake the car, to regulate the car as if it were the horse and cart, to blame the outcome and to effectively enforce consumers to comply with an archaic understanding of the financial services industry.

A quick comment on disclosure…..what is its objective and market function?

There has been much work into the impact of disclosure on investor decision making: it does not work on the whole.  

One of the key issues with most disclosure is that regulators have deemed that disclosure is a communication to all investors, so that they can understand the risks, the details and functions of a given asset/security. 

Perhaps we have got the purpose of disclosure all wrong.  What if disclosure has a higher level market vetting purpose, in the sense that all the relevant information about a security or product has to be market vetted by “experts”?  In this context the very existence of a disclosure document, in the sense that it has passed a market expert validation test, is an endorsement or validation of the durability and integrity of the product/asset for the individual investor.

Dumbing down disclosure makes it useless for all, for the individual investor and for the impartial, independent market expert.  Disclosure needs to be fully transparent to pass muster and regulation must assess the integrity of both the disclosure document and the validation process that passes as fit for purpose the disclosure itself.  Not only the standard of disclosure needs to rise (i.e. the integrity of information) but also the complexity and detail of that information needs to rise to all for more effective market validation.

A recent FAIR Canada post, “Why is Deficient Issuer Disclosure Allowed to Persist?” raises the issue of expert/regulatory validation of disclosure communication.  The purpose of disclosure should not be to leave the ordinary investor in a buyer beware situation, but this is precisely what appears to be happening.  While the FAIR Canada post relates to more complex corporate issuer disclosure I feel that the relevance of the point has ramifications for the client relationship and product point of sale disclosure that applies to the retail financial services market place.

Other references

US retail sales…Is the Sun really shining again?

Retail sales takeaways:

  • In rebound mode, but nothing as yet to suggest trend of slowing growth cycles has been broken.
  • Motor Vehicle and Parts sales, a key driver of sales growth heretofore, looks to have slipped to a much lower gear: less consumer credit growth fuelling demand?
  • Retail sales adjusted for CPI ex shelter and adjusted for population growth only just bubbling up around pre crisis levels.
  • Seasonality: some questions over the extent to which seasonality is impacting the data.
  • Inventory to retail sales growth at historically high levels: economy exposed to heightened short term risks to spending.
  • CPI ex shelter, flatlining post 2012.
  • Boundaries to retail sales growth: consumer credit to disposable income ratios, long term income growth declines, peak personal consumption expenditures and continuation of weak profile post late 1990s: longer term dynamics at play.

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Debt and wealth in a monetary system, part 2: discounted valuation issues in a declining frame with inequalities.

We are presently building up conflicts within the asset price frame:

  • Conflicts between asset values and GDP flows and their growth rates;
  • Between asset prices and return expectations;
  • Between human capital values and the distribution of those values and their impact on the overall wealth equation with respect to future consumption risks as well as asset pricing via increased asset focus of flows due to distribution dynamics;
  • Within portfolio structure and relative to the liquidity and capital security dynamics of liability streams. 

All of this tied to the relationship between frame transitions, emergent properties and structural imbalances and unconventional monetary policy focused overly on asset price support.

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Are debt and wealth really two separate forces in a monetary system? Part 1

I write with reference to a discussion in a recent Bloomberg View article, We’re Still Not Sure What Causes Big Recessions.

Debt/broad money supply is a key foundation of asset and human capital values and their supporting GDP flows.  Because of this, wealth and debt effects (new loans create deposits) on GDP/income flows should not be considered as separate forces. 

Debt in its money supply origination (bank deposits) is a foundation of both GDP flows and asset values and it is when debt, and specifically in the form defined, increases relative to GDP/national income flows that we should pay attention.  And we need to pay attention to all flows, not just income flows on risky assets, for example corporate profits which can squeeze out returns on both fixed interest and human capital during periods of enforced low interest rate policy.

Money leverages many activities, and asset values are always to a certain extent in a form of a bubble, but excess leverage, especially during periods where we have structural imbalances and frame transitions creates instability and risks to the financial system. 

Frame transitions that we need to watch out for with respect to excess asset focused money supply growth are where drivers of GDP growth are in decline (labour and population demographics, productivity and global transitions impacting the same) requiring lower levels of capital or growth rates of capital accumulation resulting in increasing levels of capital depreciation.  In this context monetary frame dynamics should also be contracting or slowing.  Frame transitions can be accentuated by increasing income and wealth inequality, something that may also be an emergent property of economic systems during frame transitions.   This can also leverage asset prices to prospective GDP flows.

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Perspectives on US New Manufacturing Order data:

Key takeaways:

  • The frame should dominate analysis of new order fundamentals: long term weakness dominates.
  • The new order bounce back in March/April was led by the transportation sector (MVPs in particular), but the bounce back should be set against the depth of the declines.
  • Outside transportation the trend is very weak.
  • Consumer durable goods orders on a smoothed 6 monthly basis have weakened noticeably since the start of the year.

Commentators are increasingly concerned about the risk of a recession in the US Economy.  Recessions are typically short term step backs/retracements within expanding frames whereas we are in a rather complicated contracting one the one hand (developed economies) and transitioning frame (developing economies moving from investment dependence to consumption/service sector dependence) on the other characterised by excessive debt levels, unconventional monetary policy and increasing income inequality to name but a few fundamental issues. 

So let us look at US manufacturing new order data, at first in terms of the frame, which bounced back on a monthly basis in April:

The frame

We can see from the following chart that annualised real growth rates over rolling 10 year time frames (using new order data adjusted for PPI and smoothed) have been heading downwards since the start of the decade.  The real annualised rate of growth over rolling 10 year time frames shows that the current cycle is much weaker than the pre 2008 cycle.


We can see the step down in growth more easily if we just view the high water mark dynamics (which ignores the current index level if it remains below the HWM).


In reality given the declines in flows since 2014, new orders for manufacturing adjusted for the PPI stand below levels reached at the end of the 1990s, and yet, here we are all worried about the risk of recession when the risk of something far greater has already occurred.  Tied into the frame is the key dynamic of global rebalancing: cheap labour in emerging/developing economies had offshored a significant amount of manufacturing output from the late 1990s onwards (the weak order data partly reflects this) and the expected maturing of developing economies consumers and rising wage costs was anticipated by many to create a rebalancing of global economies.  This is presently at risk a) due to the time frame of transition being longer than many expect and b) given that technology is driving out labour in key industries.

And in the next chart we see nominal annualised rates for new orders over rolling 10 year time frames: clearly the structure and balance and dynamics of the US economy and the attendant global economic dynamics are unable to support the type of growth the economy had experienced in post WWII years.  The primary issue we are facing today is not one of a prospective recession but of a weakening frame:


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US incomes…peaked or just about to surge?

If we look at real disposable personal income growth from the latest BEA data update we see what might appear to be, on the surface, a robust recovery:


Quarterly data shows similar traction:


But real data has benefited from falling energy prices and nominal flows are not as strong, in fact if we focus on nominal flows we are in the midst of a clear downward movement:

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US ISM Manufacturing PMI…supplier deliveries, a true or false signal?

The US ISM Manufacturing PMI ticked up marginally today indicating slightly stronger manufacturing activity.  The change was small from 50.8 to 51.3.   While output and new order indicators fell, employment remained the same and inventories declined slightly, supplier deliveries slowed at the fastest pace for some time.  The month on month change in supplier deliveries was 10.2%, only bettered on 5 occasions over the last 35 years.  

But supplier deliveries tend to lag new orders and we also know that new manufacturing orders fell significantly in late 2015 and have since bounced back (data in the chart below is to March 2016). 


The bounce in supplier deliveries look to be related to the bounce back in PMI new order indicator starting in late 2015 and we can see this lag here:


The bounce in new order data was also the strongest since the recession ended and is usually associated with cyclical turning points. 


But, with the continued slowdown in global manufacturing PMIs and weakness in the ISM’s other PMI components as well as weakness in readings from Markit’s own indicator I would not be too upbeat about any possible signal.  We appear to be stuck in a slowing growth trend market by downs and gradually weakening ups!

And from Markit’s own PMI release:

“The survey data indicate that factory output fell in May at its fastest rate since 2009, suggesting that manufacturing is acting as a severe drag on the Page 2 of 3 © Markit economy in the second quarter. Payroll numbers are under pressure as factories worry about slower order book growth, in part linked to falling export demand but also as a result of growing uncertainty surrounding the presidential election

CPB World Trade Monitor and Flash PMIs

We are clearly in a period of weak global growth as shown by the 6 monthly rates of change in export volumes.  What makes the current weakness of note is that it is the second such decline in the last year and the most pronounced outside of 2001 and 2008/2009:



And a closer look:


If we look at smoothed data which adjusts for monthly extremes we find further confirmation of weakness both at the annual and the six monthly:


And a closer look at the annual rate:


We can also look at the data from a high water mark perspective:


Again at both the monthly and six monthly data we see significant weakness from early 2015 followed by a late year recovery, followed by further weakness.

But the CPB World Trade Monitor is always a couple of months behind which is why current flash PMI data from the various Markit Surveys suggests that weakness has continued across global markets:

Markit Flash US Manufacturing PMI :crept closer to stagnation in May….overall business conditions…weakest since the current upturn started in October 2009….renewed fall in production…softer new order growth…further cuts to stocks of inputs….U.S. manufacturers signalled the first reduction in output since September 2009 in May….uncertainty…caused clients to delay spending decisions…reduced foreign client demand had underpinned slower growth in overall new orders…outstanding work at U.S. manufacturers falling for the fourth successive month in May….

Markit Flash Eurozone PMI – rate manufacturing output growth…second-weakest since February 2015. Growth of new orders received by factories also eased. Producers reported that domestic market conditions remained tough and softer international trade flows led to the smallest rise in new export business for 16 months.

Nikkei Flash Japan Manufacturing PMI™ – “Manufacturing conditions deteriorated at a faster rate mid-way through the second quarter of 2016…Both production and new orders declined sharply and at the quickest rates in 25 and 41 months respectively….a marked contraction in foreign demand, which saw the sharpest fall in over three years….

Thoughts on revisions to US manufacturing new order data

US durable goods order data out yesterday suggested a strong rebound in new orders in April led principally by transportation orders.  But I am not going to talk about the new data (at least until I get the full manufacturing new order data set due shortly), I want to talk about the difference between the new and the old order data:


Data to March 2016 had been revised down by some 2% for manufacturing orders and the rate of revision was similar for both durable and non durable goods.

However the wider picture shows that transportation, in particular motor vehicles and parts orders showed significant upward revisions:


On the other side of the variance we see non defence capital goods excluding aircraft, computers and electronic goods and primary metals heavily negatively revised:


The picture confirms the relative strength we have seen in auto led consumer credit growth on the one hand and weakness in exports and capital expenditure on the other.

A few thoughts on “Rise of the Robots”, risks to global rebalancing and much more

Foxconn replaces ’60,000 factory workers with robots’” was a recent headline in a BBC news report, and of course many other stories.

The global rebalancing story goes as follows: developed economies offshore production of goods in cheap labour emerging markets with strong growth prospects, benefiting from cheaper labour and also entrance into consumer markets with vast potential.  Developed economies experience declines in wage growth as manufacturing declines and service sector expands in relative terms, interest rates are lowered and consumer credit growth stimulated.   Lower cost goods and low interest rates cushion the impact of lower wage growth but the economy moves out of balance, towards consumption and debt (increasingly asset focussed) and away from production and investment.  

Ultimately this story depended on developing markets maturing their own consumer stories and wage growth/currencies rising to erase or at least obfuscate wage price differentials.  This rebalancing of developing economies to consumption and away from manufacturing/investment would have created demand for goods, services and expertise of developed economies, rebalancing GDP away from consumption and towards production and investment, raising wages and reducing dependence on credit for consumption with interest rates slowly re-ascending.

The story about Foxxconn factory workers being replaced with robots takes away important marginal flows from the rebalancing equation and reemphasises emergent income distribution inequalities: less income to labour, more to capital; reduced consumer expenditure growth to rebalance growth in developing/developed areas; greater stress on high debt levels accumulated in both areas, debt levels used to finance consumption in one and infrastructure and manufacturing in the other.  And of course, all the attendant asset price issues that have arisen as a result of low interest, financial shocks, asset price support and other unconventional monetary policy actions.

Technology is a good thing and we should always be striving to produce more efficiently and effectively and part of the move to robots in these developing markets is the reallocation of labour capital across the broader economy and the need to produce ever more goods for growing demand in many of these vast economies. 

But the separation of income flows, or at least higher growth higher value income flows to labour, is a disconcerting one and especially so given the ongoing deceleration of global economic growth and asset price divergence.  This not only accentuates the trend towards increasing income inequality and therefore damages the eco system’s ability to regenerate demand (and support asset prices), increasing reliance on loan growth (and hence debt support), but it also risks prevent a more rigorous and necessary rebalancing of growth between developing and developed that would have re-established the balance of power between labour capital and financial capital that would be necessary to keep the eco system’s flows at regenerative levels. 

Within the capitalist system there are numerous subtleties.   Human beings need a reason for being and the economic dreams of home ownership, durable goods consumption and various other lifestyle goals are gradually being hammered away and left to an increasingly small percentage of the population.   The objective of a capitalist system should be productive efficiency on the one hand and the regeneration of the model’s ability to support its asset, human and of course natural frame.   Technology has not historically been a blight on humanity, but that has been because of various forces that have coincidentally expanded the frontier of consumption and production capabilities.   

Productive efficiency is only one side of the equation and it requires balancing forces on the other to maintain a healthy “equilibrium” of sorts between all factors of production.   Talk of helicopter money, the drive for increasingly perverse unconventional monetary policy all strongly suggest that the equation that drives the eco system is out of balance.

Some obscure perspectives on Canadian Household expenditure

An economy is an asset that produces flows of consumption and investment expenditure.  In a growing economy you would expect these flows to grow.  Household consumption expenditure, while growing larger every year, has ceased to increase at a faster rate year on year for some time:


If we exclude imputed rent paid by households (money not actually spent) and money spent on games of chance (excluded here for the benefit of the analysis to follow), annual year on year (Q on Q basis) shows data as of Q4 2015 below growth in flows reached in the late 1980s:


Why have I deducted games of chance from expenditure?  Well the main reason is I believe that increased expenditure on games of chance is more a sign of consumer stress than consumer health:


Imputed rent, also a proxy for housing affordability, as a % of household expenditure has increased to close to 16% while expenditure on recreation and culture ex games of chance has fallen steadily since its peak in 1999.

The divergence can be better seen in the following chart showing annual Q on Q increases in these expenditures: