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.

Most of the questionnaires (83.3%) in use by the industry are not fit for purpose – they have too few questions, poorly worded or confusing questions, arbitrary scoring models, merge multiple factors (75%) without clarity or have outright poor scoring models. Fifty five percent had no mechanism to recognize risk-averse clients that should remain only in cash.”

A fair and balanced process on the other hand should theoretically reassess what should have been a more appropriate assessment of needs, with respect to parameters, if these were flawed, as well as investments selected with respect to costs, risks and other considerations.

A fair and balanced process should also reflect representations of service, which is relevant in the context of best interest standards, something which many firms promote; if investors believe that their best interests are at the heart of the interaction there is less of an imperative to mitigate conflicted advice, something which is difficult irrespective in the absence of necessary subject matter expertise.

In this context, a balanced and fair assessment of a complaint risks standing in conflict with “acceptable” standards of conduct at the compliance and regulatory level; current regulation does not acknowledge a requirement to adhere to best interest standards with respect to investment advice. The leeway allowed for transaction based remuneration to influence transaction recommendations also supports the notion that best interests, at the more narrowly scoped transactional level, are likewise so restricted. Since an ombudsman would be bound by current law and regulation, the issue of fairness and balance is a relative one.

Perhaps, the guidance concerning consideration of respective interests is an instruction to those assessing the complaint that conflicts of interest are allowed, that investors are deemed to have a high level of responsibility with respect to parameter selection and acceptance of the recommendation. This could therefore be conceived as instruction to avoid over analysing what should have been the more appropriate advice and/or what should have been the more appropriate parameter selection; this would prevent a more objective assessment of the advisory process. It is a moot point.

The frame of regulation for advisory services in Canada appears to be one that acknowledges as a core foundation the competing set of interests of parties as opposed to their common interests.

Fairness and balance in this context would reflect the low hurdles set by current standards as opposed to objective standards of personalised financial advice.

This last boundary also touches on the importance of up to date regulation of advice giving and its representation within the industry. A failure to narrow the gap between what is fair to consumers and prevalent industry standards is therefore a failure of regulators to meet investor protection objectives. Guidance that seeks to reinforce the increasing gap between what is represented and what is regulated is clearly unfair and imbalanced.

Therefore, if the standards used by internal complaints processes, to determine outcomes, are set at lower levels, and the firm’s own complaint processes are used as benchmarks in the negotiation process, i.e. low balling, then the higher levels of objectivity that an independent ombudsman may follow risk being compromised in the eventual negotiation process. This effectively negates the benefits of the Ombudsman in the first place, leading to a much more convoluted complaint process rooted in the very standards that those who seek impartial adjudication attempted to avoid.

But it is not just the need for higher standards, to allow an ombudsman’s decision and standards of decision to support confidence in the system, but also the ability to bind the industry to an ombudsman’s decisions. A failure to bind allows firms to be able to game the system, to offer lower amounts, safe in the knowledge that they do not have to accept the OBSI’s qualitative benchmarks. Gaming in this context places the investor back into the domain from which they had sought to exit when selecting the OBSI to pursue their complaint. This lack of a clear dividing line between the OBSI, and hence objective impartiality, and the firm and its prioritisation of its own interests is of real concern.

If self regulating organisations place emphasis on a balance of interests, as opposed to a fair assessment of the overall balance of information from both parties, then this clearly has implications for the complaints processes within Canada’s retail financial services firms, in particular the highly misleading internal ombudsmen of the major banks. Again this is especially so under what still remains a largely product and transaction distribution focused industry. The complaint risks being set up to fail if we use a conflicted set of interests to set the basis upon which complaints are deemed to have merit.

With respect to balance:

Every frame has a different set of weights with respect to its underlying interests; their weightings within the frame, in terms of their ability to influence acceptable product/service outcomes, are dependent on a number of factors. Hence the outputs of complaint processes that place “balanced consideration of interests” at their heart will likewise vary accordingly. 

While the use of terminology guiding a complaint process towards a balanced consideration of interests may give the impression that there is some universal standard of fairness, there can, in fact, be no unique universal “balance of interests” that applies to all regimes. And as noted, a balance of interests represents to a certain extent competing interests, so the interests of the frame and the accountabilities of those interests are also relevant.

Moreover, the guidance and regulations defining what firms and registered individuals can get away with, in terms of standards, may also have been set by the status quo if interests. If the status quo of interests defining regulation is imbalanced, then the frame which defines fairness as a starting point risks being impaired. Note the rearguard action by industry in Canada with respect to upgrading responsibilities to that of best interest standards for advice and getting rid of transaction based returns.

In this context I have to point out the lack of consumer representation on the OBSI board, something the last few independent reviews of the OBSI have recommended, and the lack of a properly funded, independent consumer panel for the financial services industry in general.

Industry in Canada, judging by the extremely slow pace of change with respect to regulation of personalised investment advice, likely has an unfair say in regulation, and hence the overall frame in which fairness in the complaints process is adjudged is also likely impacted.

This state of play strongly suggests that the balance of interests, that make up the complaint process landscape, is one which lacks fundamental consumer representation and hence fairness and balance, which I believe to be the case. It is also a state of play that is preventing greater consumer focus being brought to bear in the development of the complaint process itself. How else could we have competing internal ombudsman, non binding decisions, an inability to properly address systemic issues and low balling of OBSI recommendations?

So, if we are to set the complaints process as one which provides a balanced consideration of actual represented interests, then what we are really doing is guiding the complaints process to more closely adhere to current regulatory standards and the status quo. But this is a balance, a status quo, with minimal consumer advocacy involvement. Imabalances in representation leads to impairment in standards of advice and the processes in which complaints are assessed. The very fact consumer representation is weak supports the contention that balance in the system as a whole is unfair.

Note that investors must first pass through the many layers of a firm’s complaint process, and also may be diverted to their own “internal ombudsman”, before they eventual, if at all, pass onto the OBSI. The OBSI then deliberates, and before a full report is produced facilitates some form of intermediation between the firm and the investor. This facilitation, given the lack of binding powers, inter alia, risks putting the complainant back into a conflicted arena from which they sought to distance themselves in the first place. Note the following from the most recent Independent Review:

On the consumer/investor advocate side, we consider they were justified in criticising what has become an asymmetric model: without binding authority to secure fair redress, OBSI, despite assiduously fair processes, has a model that is weighted in favour of firms who are free to ignore its recommendations and negotiate a lower award. This, and not “low-ball” offers per se, is the mischief

The previous Navigator review in 2011 was also critical of this dynamic and stronger comments were noted in separate press comments attributed to Phil Khoury of Navigator.

As noted, a transaction focused regime with its limited scope with respect to responsibilities and accountabilities, as well as acceptance of conflicts of interests and hence their priorities (or weight with respect to balance), will have a different and unique “balance of interests” from those of wider advice led service based processes with their aligned interests and absence of transaction remuneration conflicts that influence structure, planning and management outcomes. 

In all this we risk looping back to one of the fundamental problems of current regulation: this is with respect to consumer expectations over the alignment of interests when providing advice. If the consumer assumes a best interest focus, at not only the advice but also the complaint process, then we risk issues in complaint process expectations, especially at the firm level and quite possibly as the OBSI loops back into negotiation with the firm.

Within the limited scope of the transaction, the weighted interests of the complainant are of course smaller and the dealer larger than they would be under a rigorous best interest/fiduciary standard.  These weights can be further influenced, as noted, by industry hegemony, regulatory standards and oversight and legislative intent. 

As regulatory environments change over time, the nature of balance itself, with respect to the various interests, will likewise change. Ascribing undue weight to consideration of historic vested interests may hinder the development of regulation and the improvement of standards. In this respect dithering by regulators would also appear to support the nature of vested interests; Canada has been stuck in the process of upgrading the regulation of advice since before the 2004 Fair Dealing Model.

Assuming that the term “balanced consideration of interests” has an equivalent translation across complaint/regulatory/ombudsman regimes is therefore naive at best and at the very least deleterious to the investing public at large.   The nuances do of course go deeper, but this higher level elucidation should give serious pause for thought with respect to the application of guidance so constructed.

Trying to connect the fairness of an advisory service outcome with respect to the balance of interests makes little real sense in frames where the service provider places the interests of its clients first and foremost. Here the interests of the firm and the client are one and the same. What is a fair outcome in an aligned frame may be quite different from that of a conflicted, competing interest frame.

Hence allowing for conflicts of interest builds in implicit unfairness into the complaint process: what is “fair” may not be fair. This is not obvious from regulatory guidance.

Services that provide personalised financial advice should have aligned interests. The focus of the complaint assessment should focus on the integrity of the process and not a balanced consideration of interests. Assessing a balanced consideration of interests attests to the lack of a structured process complaints process that would refer to objective benchmarks of advice for assessing the validity of complaints. In the end, outcomes of a process can only be validated by the objective rules of process, which are related to representations of service and professional standards.

The more you analyse the rationale behind IIROC’s phraseology the less you are able to rationalise it.

Two regimes, say one a UK best interests regime, with a fiduciary legislative intent, would have a different balance of interests and hence different objective benchmarks of good advice from those derived from say the current Canadian regime.  Both may use terms such as “balanced” to quite markedly different effect. 

It is worthwhile noting that a “balanced approach that objectively considers the interests….” should contravene IIROCs own statements (1, 2), and those supportive of IIROC’s supposed stance, that they do have best interest standards governing the scope of the transaction; i.e. there is a presumed priority as opposed to a presumed balance of interest.

Additionally any statement suggesting that complaints should follow a balanced consideration of interests also contravenes the proposed targeted reforms which propose that client interests should be prioritised and conflicts avoided. And while the proposed target reforms of conflicts of interest are not currently in situ, I do believe that they are expectations under current regulation. So even standards that are less than a fiduciary/BIS standard should still eschew the more ambiguous/amorphous balanced consideration of interests noted in IIROC guidance. There are clearly many levels and nuances to this particular issue. It would also seem that such a stance would naturally conflict with OBSI’s natural bent towards enhancing industry best practices, which gives further concern and consideration to internal ombudsman whose own qualitative/interest weighted benchmarks may well be set at much lower standards. It is this double standard issue that is also something that is worth addressing with respect to Canada’s banks internal ombuds departments.

Assessing outcomes based on a balance consideration of interests is flawed.

How does an assessment of an outcome involve the “balance” of interests? What is the balance of interests and how are they weighted?

How does the balance of interests determine service processes, especially in the investment sphere where structure is clearly delineated by risk and return, liabilities, time and personal preferences? In this context the service outcome is principally determined by a) the investor’s needs, assets and personal preferences on the one hand, and b) solutions/processes/frameworks geared towards optimising the management of risk and return and assets and liabilities over time, to varying degrees of sophistication, on the other.

A balance of interests is naturally weighted to client outcomes in service processes where the client’s interests come first. In transaction based services, interests conflict, and, in this context, it might be considered objective to balance the competing interests of either party in the outcome.

So what helps define the balance of interests and the outcomes that result from such?

Number 1 – How returns/remuneration is/are derived:

For service processes that are transactional in nature it is rationale to focus on the efficiency and return/costs surrounding the transaction. This is not the case for advice based service processes that are really only transactional at the implementation phase; these are primarily structural with additional planning and management components. Remunerating these processes based on the number and size of specific transactions creates conflicts of interests not only with respect to what is recommended but also with respect to time spent on the processes that determine structure, planning and management. If remuneration is entirely dependent on transactions then depending on other facets of the market place, i.e. regulation and investor protection, firms and employees may obviate structural processes to the detriment of outcomes. Transaction based interests are given a higher weighting in the so called “balanced approach”. In other words, remuneration has a major impact on the balance of interests that would have influence in the complaint process.

Number 2 – How regulation and standards set by regulation affect the balance of interests:

If they merely support and police a transactional frame, then this may well be of limited effect. If on the other hand regulation focuses on the client’s best interests and processes that match the representation of service, then the balance of interests impacting outcomes shifts to the client. Regulation therefore influences the balance of interests as do the standards they enforce. Additionally, the rate of change of regulation, and expectations over change and the rights of investors in the market place, will also influence the balance of interests in the complaints process.

Number 3- Standards of advice and professionalism:

Standards of advice should improve over time as processes and technologies enhance the ability to plan, structure and manage. Likewise a move to professionalism places greater emphasis on expertise and experience and professional bodies on the avoidance of conflicts of interest. Again where industry is staffed primarily be individuals without professional ethical conduct standards, the balance of interests in the complaint process is likely to shift towards the firm and the registered representative.

Number 4 – Representations of service and the legal status of responsibility and accountability:

How you represent your service, the extent to which investors then come to depend on the represented service expertise, experience and professionalism should likewise impact the balance of interests. However, the legal status of responsibility and accountability for an outcome, in the legal system, is impacted to a large degree by regulation of that industry and the assumptions that regulation makes about the implied relationship and intent of contractual relationships. Where regulation enforces representation of responsibility and accountability the balance of interests will switch to the investor. Where the industry is allowed to misrepresent such, then again the balance of interests in the complaint process will unfairly benefit the firm and the registered representative.

So how does a complaint process correctly assess the balance of interests, if the balance of interests is skewed towards the providers of products and services?

In a “balanced” assessment of personalised financial advice, the only interests of relevance (and their implicit integrity) are those which define the personalised wealth management solution: these include client financial inputs (risk profile, financial needs over time, assets and their disposition), the firm’s or the advisor’s/er’s disciplines, processes, decision rules and assumptions governing the construction, planning and management of assets to meet financial needs, as well as an objective competitive market assessment of the costs of providing the service. Regulatory guidance, rules and professional standards of conduct should all be closely aligned and reconciled.

In Canada the balance of interests defining rules, regulation and the complaint process, with limited influence of the consumer in their oversight and development, appear to be a key contributor to the state of regulation of personalised financial advice.

Investor complaints are still viewed through a dated transaction lens in pretty much most of the industry; conflicts of interests appear to be key determinants of what is and what is not fair while regulators allow internal complaint processes lacking in impartiality and independence to promote themselves as bodies objectifying the highest standards of objectivity; these are the internal ombudsmen of the major banks.

The final impartial arbiter of the complaint the Ombudsman is also compromised by a failure to address low ball offers, non binding decisions and consumer advocate involvement at board level; these all weaken the OBSI’s hand in setting a level playing field for the investor in the complaints’ process. The hard truth is that the issue of fairness is not being met at a fundamental level. A balance of interests still heavily weighted to the needs and interests of the distribution of the product and the transaction remains firmly in situ.

Why does the system assume that the playing field is balanced and fair? Possibly because many have failed to analyse the situation in sufficient depth, but also likely due to an inability to comprehend the loop backs to a system that a continued weakness of consumer and legislative input to the process induces. The resistance of the OBSI board to independent consumer advocate representation on the OBSI board, a repeated and unrequited recommendation of many an Independent Review of the OBSI, as well as its failure to make transparent communications from its Consumer and Investor Advocate Committee is part and parcel of the problem. Consumer interests appear to be shut out of the process and in so doing areas of concern in the complaint process linger on.

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