March 18, 2021 – By Pam Krueger
Regulations and reforms to protect investors aren’t working and need repair.
This report misidentified the brokerage firm involved in the arbitration settlement. The story has been corrected.
A recent story about a 94-year old woman whose grandsons criminally mismanaged her wealth is just another reminder of how years of attempts to rein in the excesses of the brokerage industry have done little to protect consumers from harm.
For years, Florida retail matriarch Beverley Schottenstein trusted her two grandsons, both so-called financial advisers at brokerage J.P. Morgan Securities, to manage her investments. They exploited her trust by committing various kinds of fraud. According to a complaint Schottenstein filed with FINRA, the private body that oversees the brokerage industry, the grandsons forged her signature on key documents and bought and sold risky and expensive securities without her permission, resulting in losses of more than $10 million while generating hundreds of thousands of dollars in commissions for both themselves and J.P. Morgan.
Siding with Schottenstein, FINRA ordered J.P. Morgan and the now ex-brokers to pay her close to $19 million. While that sounds like a happy ending to a sordid tale, it could have gone otherwise. Under FINRA rules, Schottenstein could not legally sue her grandsons or J.P. Morgan directly. She had to file for arbitration through FINRA, where the outcome is decided by a panel of industry insiders, not a judge or jury. That’s the only legal recourse for consumers who work with brokers.
While Schottenstein’s situation was unique in that her own grandchildren cheated her, it’s only one of many, many cases of financial abuse and fraud that occur each year in the brokerage industry. That such abuses still happen even after endless half-hearted attempts by regulators to legally require brokers to protect their clients from harm demonstrates that many in the brokerage industry are still more committed to earning huge payouts than acting in their clients’ best interests — also known as the fiduciary standard.
The long history of brokers exploiting clients created such negative connotations about the title that a couple of decades ago brokerages started marketing their salespeople as “financial advisers.”
The problem is that “financial adviser” is a manufactured title. It has no legal standing whatsoever and is designed to create the illusion that brokers offer objective investment advice, rather than simply sell products on commission. The big brokerage companies are trying to blur the line between brokers and fee-only investment advisers, who are legally required to act as fiduciaries for their clients — and can be sued when they don’t.
The most recent watered-down compromise both sides reached in 2019, Reg BI, was a consumer-unfriendly set of rules that gives brokers huge loopholes to avoid what was, at best, a lukewarm level of fiduciary responsibility.
Caveat emptor (buyer beware) applies when consumers are buying a car but is it really appropriate when considering hiring an adviser to manage their money? Unfortunately, the Schottenstein saga proved that consumers must conduct their own extensive due diligence before making such a critical decision.
Reg BI and other so-called reforms simply aren’t working. While it would be nice for regulators to adopt a uniform fiduciary standard for all advisers, it’s unlikely to happen anytime soon.
So why bother? Instead, let’s just do away with this fiduciary fuzziness and make a clear distinction between brokers and fiduciary investment advisers who are legally required to do no harm to clients.
Brokers could openly and proudly proclaim that they work as commissioned salespeople. They wouldn’t be bound by any kind of fiduciary mandate. Consumers would know up front that brokers were legally allowed to recommend products that offered them the best payouts. After all, real estate agents and car salespeople work the same way, so why shouldn’t investment salespeople? If people still want to work with a broker knowing that their legal options are limited, all the power to them. Caveat emptor!
For everyone else who wants the peace of mind in knowing that their investment professional is legally obligated to act in their best interests, a fee-only investment adviser is the only choice.
Still, even fee-only investment advisers can “go rogue,” although they’re less incentivized to do so since they’re paid directly by clients. That’s why it’s important for consumers to conduct their own research on any investment professional they’re considering and make sure their assets are held at a respected discount brokerage. The Investment Adviser Public Disclosure website (https://adviserinfo.sec.gov/) is where you can research the backgrounds and disciplinary history of investment advisers. (Those who still want to work with brokers can do the same thing at Brokercheck (https://brokercheck.finra.org/)
When you interview any adviser you’re considering, ask them to explain how they’ll act in your best interests and if they’ll provide you with a fiduciary oath in writing. If they won’t, you’ll at least have the information you need to decide whether to take a chance — or walk away.
Pam Krueger is registered financial adviser and the founder & CEO of Wealthramp, a referral service that matches consumers with fee-only financial advisers. She is also the creator and co-host of MoneyTrack on PBS and Friends Talk Money podcast for PBS Next Avenue.