 |
| > Investing > Fiduciary Focus |
 |
| Fiduciary Focus: Non-Fiduciary Investment Consultants (Part 4) |
| by
W. Scott Simon
| 08-31-06 |
|
|
My column this month continues to focus on the contract between a well-known broker-dealer investment consultant and the fiduciaries of a retirement plan. I detailed previously how the consultant in the contract named itself as a fiduciary under section 3(21) of the Employee Retirement Income Security Act (ERISA), but gutted all language from the contract that would have actually made the consultant responsible (and, therefore, liable) for the duties required of an ERISA fiduciary. The contract also named the consultant as a fiduciary under the Investment Advisers Act of 1940 (1940 Advisers Act). As a result, I thought it might be interesting to examine the status of the consultant as a fiduciary under both ERISA and the 1940 Advisers Act and the issues that might arise from that.
Registered Representatives of Broker-Dealers Cannot Be Fiduciaries to Their Clients
Every stockbroker at the large broker-dealers providing advisory services to fiduciaries of retirement plans (such as the one at issue here) is a registered representative (RR) of its broker-dealer. A RR agent legally (factually is another matter, depending on the actions of the RR and how well it is supervised by management at the broker-dealer in a given fact-specific situation) cannot be a fiduciary to its investment clients. This has nothing to do with any governmental regulation but to the private contract that each RR agent enters into with its broker-dealer. That contract legally requires a RR to place the interests of its broker-dealer before the interests of the RR's clients.
As it turns out, then, a RR is a fiduciary--but only to its broker-dealer--not to its investment clients. A RR owes no legal duty of loyalty (the paramount duty owed by a fiduciary to its beneficiaries as well as the oldest one, originating in the common law of 11th century England) or any other fiduciary duties to its investment clients. (The way the brokerage industry fought tooth and nail to ensure that the Merrill Lynch rule was adopted tells you what I have been telling you for some time now: Broker-dealers will do anything to avoid having the "fiduciary" stake driven through their heart.) So even if a RR wanted to be a fiduciary to its clients, it couldn't do so legally given the contract with its broker-dealer. Some RRs assert that they feel as though they are fiduciaries to their clients. While that's a nice sentiment, it has no legal validity.
A Fiduciary Subject to the Investment Advisers Act of 1940 as Regulated by the U.S. Securities and Exchange Commission
Section 202(a)(11) of the 1940 Advisers Act defines an "investment advisor" (i.e., a registered investment advisor, or an RIA) as: "any person who, for compensation, engages in the business of advising others, either directly or through publications or writings, as to the value of securities or as to the advisability of investing in, purchasing, or selling securities, or who, for compensation and as part of a regular business, issues or promulgates analyses or reports concerning securities."
If there was ever any doubt about it, the U.S. Supreme Court made clear in S.E.C. v. Capital Gains Research Bureau, Inc. (375 U.S. 180 (1963)) that an RIA is a fiduciary. The Supremes noted that the 1940 Advisers Act "reflects a congressional recognition of the delicate fiduciary nature of an investment advisory relationship." The court also noted that the 1940 Advisers Act reflects "a congressional intent to eliminate, or at least expose, all conflicts of interest which might incline an investment adviser--consciously or unconsciously--to render advice which was not disinterested." (My emphasis.) Further, every RIA owes its clients a duty of "utmost good faith, and full and fair disclosure of all material facts" as well as an affirmative obligation "to employ reasonable care to avoid misleading clients."
Given the language of the court, an RIA fiduciary subject to the 1940 Advisers Act is required at the very least to disclose all conflicts of interest it may have to its beneficiary clients. (A fiduciary is deemed to have a conflict of interest when it has a financial (or personal) interest that conflicts (or appears to conflict) with its fiduciary duties to its beneficiaries.) Even in situations where a conflict of interest is disclosed, no fiduciary should even attempt to take advantage of that conflict when discharging its fiduciary duties.
A strong argument can be made, based on other language in the court's Capital Gains opinion as well as that found in the congressional committee reports that helped shape enactment of the 1940 Advisers Act, that an RIA must actually avoid any conflicts of interest, whether real or perceived. For purposes of this article, though, let's just say that an RIA fiduciary subject to the 1940 Advisers Act has the duty to disclose (not avoid) all conflicts of interest.
|
|
1
|
2
|
3
 |
|
|
|
| W. Scott Simon is an expert on the Uniform Prudent Investor Act and the Restatement 3rd of Trusts (Prudent Investor Rule). He is the author of two books, one of which, The Prudent Investor Act: A Guide to Understanding is the definitive work on modern prudent fiduciary investing. Simon provides services as a consultant and expert witness on fiduciary issues in litigation and arbitrations. He is a member of the State Bar of California, a Certified Financial Planner, and an Accredited Investment Fiduciary Analyst. Simon's certification as an AIFA qualifies him to conduct independent fiduciary reviews for those concerned about their responsibilities investing the assets of endowments and foundations, ERISA retirement plans, private family trusts, public employee retirement plans as well as high net worth individuals. For more information about Simon, please visitPrudent Investor Advisors, or you can e-mail him at wssimon@prudentllc.com The author is not an employee of Morningstar, Inc. The views expressed in this article are the author's. They do not necessarily reflect the views of Morningstar. |
|
|
|
|
|
 |
|
Manager's View Participants
|
|
|
|
|
|
|
Follow us on Twitter
