IIROC has recently sent out a guidance note, “Compensation structures for retail investment accounts”, for comment.
“This Guidance Note identifies specific considerations that should be taken into account by Dealer Members and Approved Persons when they are designing, recommending or supervising the various compensation arrangements that may be available to retail clients.”
I must admit, I started to get interested when it referred to moves made by international regulators to remove commission based compensation structures and thought there might be some discussion of this issue in this guidance note:
The emergence of significant and wide-reaching advisor compensation-related reforms around the world underscores the need for Canadian regulators, industry and investors to be aware of these international developments and to monitor their impact, if and when implemented.
Unfortunately no: this guidance note does not discuss doing away with commission based services at all, only how to regulate suitability and disclosure of the two payment options for transactions. That is it deals with a) the option to pay commission and commission type fees (i.e. trailer fees) on a transaction by transaction basis or b) the option to pay an annual fee in place of commissions. This is an altogether different thing.
The fee based account is really a bulk transaction discount, priced at a level that makes sure both advisor and institution earn enough from their customers who decide to proceed with this option. While it is suggested that one of its many advantages is that it removes the temptation to churn an account, there is plenty of room to take advantage of the investor: clients who transact little and therefore have a minimal commission trail can be plonked into a fee based account and thereby increase advisor and firm remuneration.
Preventing abuse of the fee based account option is the main thrust of the document, everything else is irrelevant and an inappropriate context. The document deals principally with suitability issues: that is making sure that commission based and fee based accounts take into account the transaction profile of the customer. Those who transact most may be better off in a fee based account, and those who transact little may be better off in a commission based account.
But there are issues here:
The first is that it reinforces transaction based regulation: you cannot charge a fee for a client likely to make one or two trades a year into ETFs, which may be the most suitable option, meaning the client is less likely to receive recommendations that encompass no more than a couple of ETF trades a year.
The second is that the fee is less likely to be set at a level which benefits the client’s interests, because the fee based account settings determine when customers need to be transferred into lower cost options. The bar for fee based accounts therefore risks being set too high.
Of course, if firms were allowed to provide higher level advisory services with fiduciary type responsibility, then fee based services could be set for any transaction levels and greater competition in service fees would likewise be the result.
Also of interest is information on the breakdown of the market place, especially that between managed (discretionary) and advisory (buyer beware, customer responsible for the transaction). Only 9% of the market place (presumably by accounts and not by funds)) is discretionary, 23% is discount online and the balance, some 68%, is advisory.
Order execution – discount online brokerage – 23% of market place
Advisory accounts – the balance (of which 10.7% are fee based accounts)
Managed accounts (discretionary) – 9.1% and growing
I do however find it odd that IIROC considers it important to review the suitability of transactions and account payment options, at regular intervals, but it does not consider it necessary to review whether the client is better suited to a discretionary fiduciary type relationship as opposed to the limited “advisor” responsibility of the transaction based advisory service. Finally, it does not even touch on true fee based financial advice:
Given our focus on IIROC Dealer Members and Approved Persons, this Notice does not provide specific substantive guidance on hourly compensation arrangements.
No discussion whatsoever concerning the pros and cons of a move to a commission free environment. Well, we have been put in our places! Have we not?