The most pitched battle in the world of financial regulation is taking place in an unlikely venue: the U.S. Department of Labor. The banking industry is deploying millions of dollars in lobbying to fend off that agency's proposed regulations, which seek to put the best interests of investors ahead of brokers’ personal gains.
The so-called fiduciary standard aims to transform the relationship between millions of ordinary investors and their advisers by mitigating conflicts of interest at brokerage houses. According to a White House economic analysis, the rules would help keep $17 billion a year currently being collected in Wall Street fees in the accounts of American investors, many of whom are middle-class IRA owners.
But as Congress holds hearings Thursday and Friday on the rules, the drawn-out battle over the standards faces increasing industry headwinds. Some advocates even worry that the standards, if they pass, might be so diluted with compromises that their proponents could see them as a step backward.
Particularly concerned are fee-only advisers who already abide by fiduciary standards, which require that financial professionals place their clients’ best interests ahead of their own profits, taking flat fees rather than commissions on sales. The community of advisers who operate according to this existing fiduciary standard have begun to worry that a new, looser definition could confuse investors looking for unconflicted advice.
“Advisers are worried that this could lead to a weakening of the fiduciary standards” says Ron Rhoades, founder of financial advisory firm ScholarFi, of a watered-down set of standards passing. “I worry how it’s going to be interpreted over the years.”
From Pensions To IRAs
The Employee Retirement Income Security Act, or Erisa, passed in 1974, mandated that pension fund custodians maintain a fiduciary duty to their clients. That meant that each investment decision was driven by the best interests of savers, not the bottom line of the brokerage firm. Retirement advice that earned special commissions for a broker would be deemed conflicted.
At the time, the few exemptions in the law applied to those who didn’t have traditional retirement plans. But after decades of decline in private pensions, the few exemptions to Erisa have become the rule. Restrictions on conflicted advice that were intended to cover virtually all retirement savers now don’t apply to the 43 million investors who have IRAs.
According to analyses released by President Barack Obama’s Council of Economic Advisers and the Department of Labor, conflicted advice doesn’t come cheap to American investors. After commissions and fees, which can be higher when brokers aren’t treated as fiduciaries, investors see returns that are roughly 1 percent less than those of average investors, the research indicates.
With compound interest, that 100 basis-point difference can end up taking a major bite out of a family’s nest egg. A Department of Labor white paper released earlier this year estimated that this underperformance would cost American savers between $210 billion and $430 billion over the next decade.
The Labor Department, which oversees administration of Erisa, first attempted to pass what it calls conflicts of interest rulemaking in 2010. But the effort had been scuppered by 2012 after a swift and sustained lobbying effort on the part of the banking industry. In April, with the backing of Obama, the Labor Department gave it another go.
The Securities Industry and Financial Markets Association has been one of the leading groups opposing the rule. Lisa Bleier, Sifma’s managing director of savings and retirement, says the Labor Department’s proposal misses the mark. “What they have proposed has a lot that needs to be changed,” Bleier says.
“Overall the definition of fiduciary is just too broad. Things that are only casual conversations become fiduciary in the Department of Labor’s mind,” Bleier continues.
The brokerage industry worries that stricter rules separating advice and sales, including cumbersome paperwork and disclaimers, could unintentionally frustrate the basic educational activities that retirement advisers carry out. Worse, Sifma argues, if broker-dealers can't make the same commissions, lower-income savers might lose access to retirement advice.
Academic studies, however, indicate those worries might be misplaced. A 2012 study that compared the services available to savers in states that had stricter laws around fiduciary activities found essentially no differences in low-income savers’ access to retirement advice and financial products.
Bleier says the study doesn't apply to the rules being promulgated by the Labor Department. "It's not apples-to-apples."
The industry groups that represent non-fiduciary broker-dealers, including some of the largest Wall Street firms, have put their money where their mouth is, as a recent analysis by Investment News found. The Financial Services Institute, for instance, boosted its lobbying spending 25 percent in the first half of 2015 over the same period last year. The Insured Retirement Institute notched its spending up by more than 65 percent.
“The industry’s spending millions and millions to oppose this rule,” says Barbara Roper, who stands on other side of the debate as director of investor protection for the Consumer Federation of America. “They’re pulling out all the stops.”
In addition to issuing comment letters and testimony, industry groups are pushing Congress to throw roadblocks in front of the Labor Department. One proposed bill would defund any Labor Department efforts to impose a broader fiduciary standard. Another proposal would push the rulemaking over to the Securities and Exchange Commission, which many, including Sifma’s Bleier and the SEC’s own investor advocate, see as more forgiving on fiduciary standard rules.
In his annual report to the agency this year, investor advocate Rick Fleming wrote that an SEC-penned fiduciary rule “could dilute the existing standard for investment advisers in an attempt to adopt a ‘harmonized’ standard for broker-dealers.”
Similarly, like Rhoades, Roper worries that this tide of pressure on the Labor Department could hobble the rules it’s putting forward. In the worst case, she says, that could mean a dilution of what currently constitutes the fiduciary standard by which many fee-only financial planners operate today.
“The industry is trying to re-create using different words the very loopholes the rule is designed to close,” Roper says.
Rhoades worries that a watered-down fiduciary standard could confuse clients about the activities of broker-dealers who sell products for commissions, and fee-only advisers who are neutral on the products they advise.
Rhoades says: “If you say we’re fiduciaries now and we act in your best interest, but the standard is weakened, the question is: How do you distinguish yourself as a white hat?”