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.
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:
Status report? The only part I can see dealing with the status (after a quick skim of the document) is the following:
”CSA staff continue to consider and discuss the information gathered through our consultative process with a view to determining next steps.”
Which raises the question, “are they only considering information gathered through the consultation process?”. I hope not.
I believe the OSC/CSA is going to be publishing a document for comment on this shortly. These are some of my thoughts, made in a recent e mail communication, that I think are relevant:
As Ken Kivenko pointed out to me, Invesco, Blackrock and Mackenzie and have managed to get agreement to push through lower cost DIY funds. I think this is some achievement and credit should go to the OSC, Invesco (who have led the charge on this particular item) Blackrock and Mackenzie, and of course everyone else who has been putting pressure on the regulators and the industry to change to more accountable and responsible and professional advice based business practises.
But instead of stopping here, the message is clear, the industry can change and change with an alacrity that puts the post FDM process to shame. Regulators should take note, if the mere threat of best interests can create what is in truth a vast sea change in fund distribution, just think what the planned implementation of Best Interest standards could be capable of doing!
We now know the industry can turn on a dime and while a move towards best interests will by no means be as easy, for a race that has built the pyramids eons ago, that which is intrinsically at the forefront of any renaissance, a simple change in attitude should be a breeze.
In recent comments in the National Post Ed Waitzer attempts to deflect criticism of his earlier article Regulate outcomes, not rules but fails to address the message of that article, which was ““It is now time to stand back and review the landscape and consider the impacts of the many new rules that have been put in place”. This is also the argument of those who oppose the introduction of best interest standards and the removal of transaction based remuneration.
Here are some other links (FAIR, SIPA, Ken Kivenko) and other miscellaneous leverage references. Please note that not all links relate to views that I would support: many are intended to show some of the dubious aspects of the promotion of leverage, so be warned.
I have had a response from FAIR Canada to one of my posts on leverage and note an excerpt from that response and links to a number of their documents below:
“Leverage continues to be a growing problem in our view. In our letter to the CSA, we thought it was important to point out the linkages between the financial institutions lending the money to pursue these strategies (B2B Trust being a prime example, but not the only one by any means) and the advisors who seek to gain through increased assets under management and/or greater embedded commissions and how this interaction buts consumers at risk:”
Leverage strategies using high cost retail investment products expose investors to significant risks, especially at fair to high market valuations. Even very low cost strategies are exposed to significant risk as the market and economic cycle matures strongly suggesting that leverage is more strategic than a long term asset allocation play.
For the retail investor, leveraged investment with high cost investment products is a bit like surfing on the edge of a razor blade: you either have an exhilarating ride of a lifetime or you end up crashing with all the ugly consequences.
What we should be aware of are that costs and timing are important, and so is the sophistication of the strategy, though neither are really given due consideration at the retail level. As it is, recommending high cost, long term, leveraged strategies is like placing those investors on fast sledges at the top of mountains with no ability to break or manoeuvre.
Importantly the ups and downs of the leveraged strategy are not symmetrical with the returns of the market so you can effectively bin the vast majority of risk disclosure.
I am not talking about the obvious “commission incentive” here for advisors. No, I am talking about the laissez fair attitude (almost a belief in a divine right) towards the risks of inappropriate leverage and the easy assumption, including the apparent complicity of regulators, that a mere insufficient disclosure of risks using unrealistic assumptions (if any) is enough to provide due warning to/inform a client when the accompanying sales practises are ignored by regulators.
How on earth are investors meant to be able to assess the risks and returns on borrowing to invest strategies when they are not provided with the hard data on which to assess the risks of their decision and when everything they read suggests only the unsophisticated are unable to appreciate the incredible benefits of leverage?
Some of the comments found in marketing brochures are incorrect and misleading and should be removed:
The real identity is lost: the ends and means of the regulation of the transaction have long ceased to be relevant to the retail end user. It is absurd. We have a regulatory bubble that needs bursting.
What are the biggest threats to regulatory change? Are they the arguments brought forward by the industry that state that small investors will no longer be served and that advisors will switch to looser regulatory regimes (insurance).
Beyond the rise lies consequence. The CSA would do well to think beyond it and do the right thing: start building the road to best interests standards and the removal of embedded commissions.
A quick point. This is from the overview:
“This Paper concludes that, with specific reference to its current regulatory framework, there is no gap in Canada that need be or could be filled by imposing further statutory obligations on investment advisors and dealers as contemplated in CP 33-403.”
The current regulatory framework is a framework that regulates the transaction via the narrowly focussed know your client form. It is neither structured to regulate advice in the context in which services are represented nor in the context in which the client is dependent on that advice.
Tory’s may well be correct in stating that there are no holes in the regulation of the transaction, if that indeed was a correct description of the market, but they have missed the point and this is intellectually remiss.
From this point on the comment has rendered the entire report invalid!
Delaying the implementation of a best interests standard will solve nothing and will only ignore the widening gulf between outcome and representation. The costs of this misrepresentation are being borne by the individual retail investor and this transfer has no validity in fact and therefore should have no validity in law.
I am not going to go into a detailed head to head with the recent positions against best interest standards. I will leave the detail to another post, and will for now take a shot at the heart of the matter:
The voice and financial might of the retail financial services industry looks to be drowning out the voice and possibly the rights of the individual Canadian investor. As people have been saying a lot recently, “I am disappointed”, but not about Rob Ford, who is no more than a red handed buffoon when it comes to a bigger game that is apparently being played out in financial services’ regulation.
In Canada, what we have at the moment are standards that even imbeciles could execute, but outcomes that mostly only experts could fully understand or, in a moment of madness, would wish to own.
Best interests standards would likely lead to solutions that would pass the judgement of experts but that can be generically understood and accepted by the ordinary individual without legal consequence.
Best interests standards, contrary to the rote propaganda being churned out, would lower costs, increase standards, improve sophistication of output and reduce legal liabilities and negative investor outcomes. They are the future!
We are wrongly attributing the ability to make informed decisions as a matter purely of framing and this I fear may also be another mindless extrapolation of behavioural economic theory.
The boundaries of manufactured suitability are so wide that even an egregious deviation could appear to lie in the shadow of the rules.
I am a capitalist at heart and my belief in ethics has nothing to do with “social” policy per se, but the ethics of imperfect outcomes. So when I read Barbara Shecter’s recent article, ‘Shocking’ crackdown on advisors threatens smaller players: Tony De Thomasis”, my ethics sense started to ring loudly. It has been ringing a lot recently.
In response to a hot off the press Investment Executive news article, Regulators must enforce OBSI recommendations: IAP, I want to provide the following comments:
One way of interpreting ethics in the financial services sphere, in my opinion, is that ethics is an awareness of the differences between an unfair and a fair competitive market outcome. At the moment regulation enforces the rights of one (the transaction) while ignoring the rights of the other (the right to advice that equates with the representation). This is both unfair and arguably unethical.
The OSC’s mandate is “to provide protection to investors from unfair, improper or fraudulent practises, and to foster fair and efficient capital markets and confidence in capital markets.”.
Yet, it and the CSA have yet to make a definitive stance on the introduction of best interests standards, the very same standard that I believe is key to levelling the playing field between potentially fair and unfair outcomes. Two recent pieces of news have led me to reiterate the importance of higher standards governing the provision of advice to investors:
The point is this, if you set the rules too low and the decision parameters too wide, the lines as to what can and cannot pass become fuzzy and the leg room for inappropriate transactions becomes much too large.
I am in the midst of writing up a blog that refers to the De Thomas OBSI name and shame decision, but was drawn towards a CBC News article that also commented on the case:
““De Thomasis said his firm did everything by the book:”It’s like you have a big hammer over your head, and you don’t know what to do,” he said. “You follow all the rules, all the regulations, and now what?””
Now the majority of investors are not aware of the niceties of retail financial services regulation. Indeed, the rules regarding what can and cannot pass between the narrowly defined parameters of the know your client form allows in my opinion the unspeakable to pass, at times, between them.