Dealers urged to rein in direct trading

By Bryan Borzykowski | October 3, 2007 | Last updated on October 3, 2007
3 min read

Despite the digital revolution that has swept through the mutual fund industry, many advisors are still doing things the old-fashioned way — faxing in their trades. Making matters worse, many of these advisors are bypassing their dealers and sending redemption requests directly to their fund companies.

At the IFIC Annual Leadership Conference on Tuesday, Scott Sinclair, president and CEO of MRS Security Services, told advisors, dealers and regulators that a lot of advisors don’t know that direct trading is wrong. “Why are these advisors doing it?” he asked. “They’re doing it because they don’t know better. They don’t know their dealer has a policy. There’s lots of misinformation in the heads of advisors.”

Sinclair said it’s up to the dealers to help educate their advisors, though many are not willing to take responsibility for the problem. “Dealers as a group were a little too prepared to blame everyone else,” he said. “It’s not the fund company who is in a place to control and police the advisor; it’s the dealer.”

While some advisors might not be familiar with the rules, others fax their requests to their fund companies because a faxed trade is executed much faster than one send through proper, electronic channels. A regular trade takes three days (T+3) to go through, while a direct trade can be carried out in as little as 24 hours. “Unfortunately, there’s a benefit for many advisors to send orders directly to fund companies,” said Sinclair. “That’s a bona fide problem associated with direct trading.”

Direct trading could be curbed if the mutual fund companies simply stopped accepting trades from advisors. But, Sinclair said, fund companies want the business. “It’s not the fund company’s problem; it’s the dealer’s,” he said. “The advisor is the fund company’s customer, and they’re not responsible for supervising advisors — dealers are.”

Possibly confusing advisors is NI 81-102, the regulation surrounding direct trading. It does not specifically say advisors cannot send trades to mutual fund companies, though it also does not say they can. “For all intents and purposes, it says to us that regulators were not looking to facilitate advisors going directly to fund companies,” said Sinclair.

The only way to control this activity is for the dealer to identify who the problem advisors are and then take action, either in the form of more education or sanctions, Sinclair said.

If dealers can convince advisors to use the proper, electronic trading methods, MER costs will come down and companies can hire fewer staff. But so far, dealers seem apathetic to the problem. “Dealers haven’t generally been proactive enough about managing their advisors,” said Sinclair, “and they have been even less proactive about coordinating with fund companies.”

In 2000, Sinclair’s own company implemented a web-based order system, but by the start of this year, it was still receiving 70% of all mutual fund orders by fax. He said the company tried to get advisors to file electronically, but nothing worked. MRS even asked other dealers to sign on to a program where the company would send an e-mail to advisors saying it would reject any trade delivered by fax. Out of 169 dealers, only two asked to be a part of this initiative. “Yet all complained that we were a facilitator of direct trading,” he said.

MRS was forced to implement a $5 fee, on January 1, for any faxed order. Finally, the number of faxes declined from about 3,000 a day to about 200. “As a service provider, you hate to use the stick instead of a carrot, but we felt we had gone to the end of the world to encourage people to use our electronic service,” Sinclair explained.

“Ultimately, we cracked the code on how to deal with the problem, and it was a stick.”

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Bryan Borzykowski