Regulators are too focused on investor costs, unclear on how to act in a client’s best interest and off the mark with disclosure, industry associations said in submissions to CSA’s client-focused reforms.
Comments on CSA’s proposed amendments to rules around KYP, KYC, suitability, conflicts of interest and relationship disclosure were due Friday.
Advocis calls out regulators for emphasizing low cost such that it becomes the “de facto proxy” in determining whether a product is in a client’s best interest. Such a focus ignores advisors’ skill to make qualitative judgments, it says. Focusing on low cost also contributes to a race to the bottom, whereby firms cut services not tied to cost.
Instead, regulators should focus on value, says Advocis in its letter. The appropriate question is, how does the value investors receive from advice compare with the associated cost?
“The best investor outcomes occur when [clients] achieve their personal financial objectives, whether that means saving for retirement, buying a home or being financially protected from life’s unexpected shocks,” says Advocis.
Similarly, IFIC says in its letter that the proposals’ focus on cost implicitly suggests client outcomes aren’t achieved through savings and wealth accumulation. “The overemphasis on costs does not ascribe value to the advice clients receive and may have the unintended outcome of reducing investor choice” by indiscriminately focusing on only low-cost products, it says.
Likewise, IIAC recommends in its letter that cost considerations be balanced with other factors such as consistent returns, diversification of holdings, stable fund management and the potential benefits of a more expensive managed account.
Further, regulatory emphasis on cost is inconsistent, since the cost of implementing CSA’s reforms will be passed on to clients—as regulators have acknowledged. As a way forward, IFIC suggests the proposals “achieve a better balance between the valuable advisory services provided by registrants, who must remain profitable, and the desire for lower-cost products and services.”
Best be clear about best interest
The reforms require advisors put clients’ interests first when making a suitability determination and also when addressing conflicts. The industry associations critiqued what they consider ambiguous in the proposed reforms.
For example, while IFIC mostly supports suitability enhancements, it notes a lack of guidance on how advisors demonstrate that an investment decision puts the client’s interest first.
To address this lack, it recommends introducing a regulatory safe harbour for advisors as a way to provide regulatory certainty on compliance. Safe harbour would protect advisors who meet suitability obligations and manage material conflicts of interest, it says.
IIAC makes the same suggestion, and strongly supports the litmus test of the reasonable advisor. Its letter suggests a clearly articulated and defined best interest standard be included in the proposals, and that the proposals make explicit that best interest is not a fiduciary duty.
IIAC also takes exception to the reforms’ focus on proprietary product sales as an example of a conflict. For example, a client account heavily weighted to proprietary products could indicate a firm has developed products well suited to its clients, it says.
The only way to make the client-focused reforms’ best interest principles workable is to professionalize advice, says Advocis. It suggests establishing a professional college of advisors that would judge its peers’ actions.
“We are opposed to a best interest duty that is interpreted and enforced by existing regulators that are not connected with the client-facing work of advisors and are therefore not positioned to understand the nuances of an advisor’s real-world practice,” says Advocis in its letter.
Advisors can also judge when to make appropriate disclosures, it adds. Excessive information overwhelms investors, it says.
Sometimes, disclosure alone is sufficient, says IFIC, such as for fees and referral arrangements. Like Advocis, it says advisors must exercise their professional judgment to determine which conflicts can’t be addressed through disclosure alone and then implement appropriate controls.
Industry associations further say disclosure should be limited to material conflicts, not all conflicts. “Where a conflict is not material, by definition, it would not negatively impact investors,” says IIAC.
Along with information overload, IFIC says disclosing all conflicts would serve to dilute disclosure related to material conflicts.
Concern with KYP reforms centres on a narrowing of dealers’ shelves and the challenges these reforms present for smaller independent firms. “It is not realistic to expect dealers to complete a review of literally thousands of products on the market,” says Advocis.
Further, the reforms would likely favour prioritizing products for high-net-worth clients or the greatest number of clients, so unique client needs would go unmet. The reforms could also serve to limit the addition of new products to shelves, like liquid alts, says Advocis. It suggests advisor proficiency, not a blanket KYP policy on dealers, could help avoid costs and obligations arising from KYP reforms.
IIAC notes the prescriptive nature of some the reforms, including for KYC and KYP. For example, the prescriptive list of factors to analyze products doesn’t suggest flexibility, which is needed for product shelves to remain “vibrant.” Without clarifying language, firms will interpret regulatory suggestions as mandatory, and will develop policies and procedures to comply, it says.
IFIC says changes and clarifications to the reforms are required to make implementation costs more manageable.
While Advocis is overall supportive of the client-focused reforms, it says they’re “necessarily incomplete” because they’re layered atop a “product-based framework that doesn’t reflect modern advice-giving or the way that modern consumers see their advisors, or access financial advice, today.”
Instead, Advocis calls for professional recognition of advisors—“detached from product sales, with higher proficiency standards.”
For all comments, see the comment letters.