Third-Party Exams for RIAs Proposed; Is It Time to Embrace a True Profession?

As the SEC moves toward proposing a rule for third-party exams of registered investment adviser (RIAs), it seems appropriate to ask - "As professionals, what would we like to be?"

The answer is clear, in the minds of many - a true profession. In which we are proud to call ourselves by the titles that denote those within the profession. In which we practice with high degrees of skill, with singular devotion and determination to assisting our clients to attain their lifetime financial goals.

A true profession - in which the leaders of the profession maintain the highest levels of professional conduct for its members. For these leaders will know, that in so doing, the public will trust the members of the profession, and demand for the professional services of its members will soar, and then remain high.

How do we lead the profession? Through a professional organization.

A professional organization, composed of individual members, that is committed to serving the public interest.

Of course, this organization would not be FINRA (formerly known as NASD). As Tamar Frankel, America’s leading scholar on fiduciary law as applied to the securities industry, wrote in 1965:  “NASD … [does] not, as do the professions, consider the public interest as one of [its] goals … Let us consider the attitude of the professions toward the public interest. The goal of public service is embedded in the definition of a profession. (Pound, The Lawyer from antiquity to modern times 5 1963). A profession performs a unique service; it requires a long period of academic training. Service to the community rather than economic gain is the dominant motive. We may measure the broker-dealer’s activities against these criteria … Although at least part of his trade is to give service, profit is his goal. The public interest is stated in negative terms: he should refrain from wrongdoing because it does not pay. This attitude is the crux of the matter, the heart of the difference between a profession and the broker-dealer’s activity … The industry emphasizes its merchandising aspect, and argues that the broker-dealer is subject to the duties of a merchandiser even when he is also acting is his advisory capacity … the NASD [has] proved incapable of establishing accepted standards of behavior for the activities of the trade … Past experience has proved that it is unrealistic to expect the NASD to regulate in the public interest ….” (Tamar Frankel, f/k/a Tamar Hed-Hoffman, “The Maloney Act Experiment,” 6 Boston College L.R. 186, 217 1965).

Sadly, fifty years later, the words of Tamar Frankel are still true, with respect to FINRA.

But another professional organization, other than FINRA, can reach the lofty heights resulting from a true profession. And, by maintaining and enhancing the professional standards of its members over time, the services of its members become more attractive to the public, fueling demand for the services of its members.  The key ingredient, in this regard, is that the needs of the client always come first – i.e., a bona fide fiduciary standard is maintained.

In other words, conflicts of interest are avoided, wherever possible. And, where not possible to avoid a conflict of interest, a multi-step process is followed to strictly and properly manage the conflict of interest to insure that the client is not harmed.

And, the organization must have as it members individuals (who are more likely to keep professional standards at high levels), not firms (who tend to promote their commercial interests).

Where to begin?

First, we must look to our current organizations.

Are any of them willing to step up to the table and adopt high Standards of Professional Conduct to which there members must adhere? These Standards of Professional Conduct should carefully, and deliberately, spell out the fiduciary duties to which the members should adhere. Commentary should follow each enunciated principle, providing insights into how the principle is to be properly applied.

The fiduciary standard should be applied at all times, to members of this organization, when providing any information, education or advice regarding financial or investment matters to clients or prospective clients. No "fine lines" should be drawn (such as when "material elements of financial planning" are taking place).

All members should be required to abide by the Rules of Professional Conduct. A "Fiduciary Oath" (perhaps of the type promoted by The Committee for the Fiduciary Standard) might be undertaken.

If third-party exams are required, the non-profit organization should be positioned to offer such exams, both to satisfy regulatory requirements for exams as well as ensuring that its members adhere to the organization's Standards of Professional Conduct.

If one of the current organizations is not willing to step up to accept this challenge, then (as Bob Veres has recently opined may be necessary) a new non-profit professional organization might be formed.

This new professional organization could start small, and slowly build. It would offer a meaningful designation, enabling members to clearly differentiate themselves from those who won't subscribe to the organization's Standards of Professional Conduct. Members should possess a high degree of expertise, evidenced by passing one of 3 or 4 certification exams - and perhaps more.

Then, if the SEC moves forward with third-party exams, this professional organization can step in to serve - perhaps as one of several competing organizations in the third-party exam space. The existence of this organization might, over time, result in a "rush to the top" as to standards of conduct, as other organizations seek to emulate it.

And, as a non-profit organization, the fees for third-party exams would be driven down to be as low as possible.

Additionally, the organization might work with the SEC and state securities administrators to foster the promulgation of education surrounding compliance with laws, regulations and standards. The organization could seek to reduce the (costly) compliance burdens of its members by providing up-to-date compliance policies and procedures. And the organization may well advocate to reduce some of the "dot the 'i', cross the 't'" burdens that investment advisers are subject to (unlike CPAs and attorneys), and to reduce the frequency of exams for low-risk firms (always, however, undertaking limited-scope and frequent exams regarding asset verification - custody - of client assets, as a means to deter and detect actual fraud).

Additionally, the organization could promote, through education, higher levels of due diligence as to investment and insurance product and investment manager selection. Academic research regarding MPT, asset allocation, asset class selection, portfolio design and construction, portfolio management, retirement rates of withdrawal, and behavioral finance could be much more heavily emphasized in educational sessions - which could be produced and made available at lower costs to its members.

The organization could provide real-life examples of how to comply with the Standards of Professional Conduct so adopted, by maintaining an online, searchable library of actual cases, commentary, and advisory opinions.

The organization might issue advisory opinions, when called upon. So that members who confront situations can find out the proper course of action, rather than guess.

The organization might work with the SEC and state securities administrators to foster peer review. The first form of peer review would be of a voluntary manner, designed to examine and improve the processes of a firm. This peer review process would be informative, and proactive, and helpful - and not requiring any report to a securities regulator (unless theft of client funds was discovered, or some other similarly egregious violation).

The second form of peer review should be of a mandatory nature, so that whenever a member's conduct is called into question by the filing of a complaint, a panel of his or her peers determines whether there is probable cause to proceed with a hearing, and then, later, determines whether a violation has occurred. Because, except in cases involving actual fraud (and certain other clear violations), only expert professionals can opine on whether another professional's conduct adheres to the duties that exist. It is far better for professionals to judge the conduct of other professionals.

Is it time?

As an emerging profession, is it time to shed the "sales" roots of financial planning?

Is it time to become trusted advisers to our clients through non-waivable core fiduciary duties?

Is it time for each and every financial and investment adviser to train to become a true expert, and then to maintain that high degree of expertise through ongoing education?

Is it time for every financial and investment adviser to be, at all times, completely candid and honest with their clients. Even at the risk of termination of the adviser-client relationship?

Is it time for every "financial consultant" or "financial advisor" or "wealth manager" or "investment advisor" or "estate planner" or "financial planner" or "Certified Financial Planner(tm)" or "Chartered Financial Consultant" or "Personal Financial Specialist" (or whatever other term is utilized that, by its very nature, denotes a relationship of trust and confidence) to use those terms only if they agree to act as fiduciaries at all time?

Is it time for financial planners and all who provide investment advice to act, at all times, not as representatives of some investment product manufacturer, or product distribution company, but rather as a representative of the client?

Is it time for us to treat each and every client as if that client were our parent, sibling, child, or aunt, uncle, niece of nephew? To keep the best interests of our clients paramount at all times.

Is it time for our profession to move to fully embrace business models which avoid conflicts of interest wherever possible. Because mere disclosure of a conflict of interest does not fulfill the fiduciary duties of due care, loyalty, and utmost good faith?

Is it time for us to embrace the call for a true profession?

What do you think?