Fiduciary Responsibility: A Likely New Standard for Brokers

In my some thirty years as a securities arbitration attorney, never in my wildest dreams did I imagine that one day the political winds might blow in favor of individual investors. But the Obama Administration, to its credit, has advanced a proposal that would dramatically curtail the ability of Wall Street firms to rip off their clients.

The little-noticed proposal in President Obama’s regulatory overhaul would require that brokers be held to a “fiduciary” standard when peddling products rather than the “suitability” standard that is currently in place. The proposed change isn’t mere semantics: It means that brokers will have to put their clients’ interests ahead of their own - and if they don’t, they will be more easily held legally accountable. Being held to a suitability standard has long been Wall Street’s worst fear, and you can safely bet your battered retirement savings their TARP-financed lobbyists will do everything they can to block the proposal.

Although Wall Street brokers like to fashion themselves as “financial advisers,” most of them are in fact just salesmen looking to push products that will generate the highest fees and commissions for themselves and their firms, rather than serve the best interests of their clients. Typically, the products generating the highest commissions are those manufactured in-house and the brokers are under considerable pressure to sell these often dubious products. Case in point: when Merrill Lynch was having trouble getting customers to buy the firm’s highly questionable auction rate securities, Frances Constable, a managing director responsible for overseeing Merrill’s auction rate securities desk, sent out an email admonishing brokers, “The gloves are off and we are not concerned about issuer perception of [Merrill Lynch's] abilities and the competition. Gotta Move these microwave ovens!!” At the end the day, Wall Street pushes its products much the same way as Sears does its kitchen appliances.

Under the suitability standard, a Wall Street broker can sell a client a costly and powerful microwave oven regardless of whether there is a cheaper one available and without consideration of a client’s needs. The suitability standard only requires that broker’s sell microwave ovens to clients who have a legitimate need for them; they aren’t required to sell the best-priced microwave ovens or ones with BTUs best suited for their clients. That’s why most arbitration rulings are in favor of brokers; the suitability bar is set so low they barely have to lift a leg to step over it.

But under a “fiduciary” standard, brokers would have to not only sell their clients the best available priced financial microwave oven, they would be required to ensure the microwave oven was of a proper size and power for their client’s financial pantries. This requirement would make it considerably easier for individual investors who were snookered by their brokers into buying financial products, that ultimately were not in their best interests, to seek legal redress.

The SEC could adopt the Obama Administration proposed rule change on its own, or Congress on its own could pass legislation if the agency once again fails to fulfill its obligation to protect investors. It’s heartening that newly appointed SEC chairwoman Mary Schapiro has publicly endorsed the Obama administration’s proposals and has gone so far as to say they are “not a panacea to deter all fraud against individual investors.” That suggests to me that Ms. Schapiro might be in favor of imposing additional regulation to protect individual investors.

Still, the jury is not yet out on whether Ms. Schapiro and Congress can resist the formidable pressures that Wall Street will place on them to quash the Obama administration’s suitability proposal. If they can, some good will finally result from Wall Street’s widespread wrongdoings that brought America to the brink of collapse. Indeed, if the fiduciary standard proposal survives intact, it will be the most significant development on Wall Street since the passage of the Glass-Steagall Act of 1933.

Comments

[Graham and ...:]

I believe that the last sentence of para2 should be, "Being held to a FIDUCIARY (not "suitability") standard is Wall St.'s worst fear."

Jun 26 09:11 AM

[racingman28:]

and what is the net effect on this proposal. I use to work in the loan industry and there were crazy loans out there and for the right people they were great kind of like your referral to microwaves but they did not fit everyone. The problem with today's culture is not the microwave oven but with the clients having to "keep up with the Jones". If a broker is educated in selling something, which in my experience most of them are, and a consumer walks in wanting the BIG BTU output microwave oven then under this regulation the broker is responsible even if they educated the client that this would not be a good choice. Second as an attorney you should know that more litigation really helps only yourself and therefore why do we not talk about the attorneys always selling to their own interest? Third as a sales person you are suppose to do your job and there are some out there that need to go however when are we going to hold people accountable for their choices? Consumer protection is grand and all and I want every customer that walks in to be pleased with their purchase however I find most people do not know anything about what they are buying so we have to educated them as sales people. What do we sell them and educate them on? Our products and services. What is the job of the consumer? As long as everything is going well they can sit back and brag to their friends about this great mortgage they got or this awesome investment they got and how it raised in value or the shiny car they just bought which goes 0-60 in 3.7 seconds and is all shiny. The problem is when the car needs to be cleaned for the 50th time or the mortgage with that great rate which the broker has indicated to them that they should look at putting money away to offset their interest or the securities market when the great gains they took no longer are great gains but losses. Then what well today's philosophy is well someone must have lied because my attorney said so. Well do some research prior to buying. WE have every tool known to man to find information out there and most of it you can get for free...FREE so for those who are of the less privileged class can still get their info but they got to "DO IT". Nobody wants to put the time or effort into actually reading anything or being studied on what they are buying. Once you bring additional regulation to the industry the slugs who are not worth keeping are the ones that stay behind and sell to those that are left. The good ones find something else to sell where they can help consumers experience their offering. Do we get it wrong sometimes? Absolutely but unless you are a god of some sort you may have made a mistake or two in your time and if the person that you were representing did some of their own research then maybe just maybe you would not have made that mistake. Cause and effect everybody wants the Cause to be looked at but if we do not start looking at what the effect is on all of the regulation we may end up all working for the government because they will be the only monopoly that will make it through.

Jun 26 10:28 AM

[notsosmart:]

if you think changing a word will help an investor you are very optomistic.anybody dealing with a broker should know his first interest is himself.next his firm.then you.do your own stuff & if you are too lazy then the money you lose is your fault.not the brokers.

Jun 26 03:04 PM