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Dear "Financial Consultant": Do You REALLY Act in My "Best Interests"?

August 20, 2015

Dear (Financial Consultant Name):

I have truly appreciated our relationship over these past years. I don’t know how you did it, but you earned my trust quickly. And, while I don’t understand much about “the market” or what you do, it appears you are doing well for me.

I remember that shortly after I first me you, I signed what seemed to be dozens of forms when I opened accounts with you. However, I don’t recall much of what I signed. When I questioned you about it recently, you told me not to worry – that you were legally obligated to act in my “best interests.” In fact, you said that FINRA, your regulator, requires that you do so.

Still, I must confess, I don’t understand what you do, or how you get paid. I’ve never received a bill from you, for everything you’ve done for me. I appreciate that, but it also got me to wondering.

I recently came across this set of questions, from Professor Ron Rhoades, who writes a lot about financial advisors and trust. In fact, I think he uses the word “fiduciary” a lot, though I don’t understand what that means, etiher.

But what Prof. Rhoades does suggest is that I, as your client, and at a minimum, fully understand any conflicts of interest you possess, whether you properly manage those conflicts in my best interests, how you get paid, and all of the fees and costs associated with the investments I possess. Hence, I thought I would ask you the following series of questions, as he suggests.

Can you answer these questions for me? Also, can you put your answers in writing? (Prof. Rhoades strongly suggest that I get all of your answers in written form, so that I can contemplate your answers and, if advisable, seek a second opinion.)

Here’s the “short list” – as he calls it, designed to test whether you deserve the trust I place in you:

(1) Do you possess the legal obligation to act in my “best interests”? 

        a. Is this the “acting in the client’s best interests” requirement you adhere to arising out of a fiduciary-client relationship? I feel I am in a relationship of trust and confidence with you. Prof. Rhoades advises that, if this is the case, I should ensure that you possess broad fiduciary duties of due care, loyalty, and utmost good faith toward me. Do you? If your written answer to both of these questions is “yes” – please proceed to questions 2, 3 and 4.

         b. Or, is this only FINRA’s “best interests” standard? Prof. Rhoades advises that under FINRA’s “best interests” standard, your duties to me are very low – and that the extremely low standard of “suitability” applies. If your answer to this question is in the affirmative, please go no further in providing answers to me. Prof. Rhoades advises me to obtain a second opinion about my investment portfolio, from an expert, objective, independent fiduciary investment adviser – preferably a “fee-only” advisor. [For more about the failure of the “suitability” standard and how FINRA’s “best interests” standard – including one now proposed – does not REALLY protect me fully, please review this prior blog posting by Professor Rhoades.]

(2) With respect to each conflict of interest you may possess, in our relationship, arising from your activities or the activities of your firm, please explain to me how you have, in the past, ensured that you have observed the following procedures to properly manage each conflict of interest in order to ensure that no harm comes to me:

           (A) Did you previously disclose the conflict of interest to me? Specifically, so that I can discern whether I remember your disclosures to me, please explain to me all material facts regarding the conflict of interest. Also, please discuss in your answer what potential ramifications this conflict of interest may pose for me, if it is not properly managed.

           (B) What steps have you taken to ensure that I fully understand the conflict of interest you possess, and its ramifications? (Prof. Rhoades states that you possess the burden to ensure that I understand any conflicts of interest you may possess. Prof. Rhoades also states that my complete understanding of each and every conflict of interest you possess, including the ramifications of each conflict of interest, is a prerequisite to my providing “informed consent” as set forth below.)

           (C) Please indicate where and when I provided “informed consent” to the conflict of interest. Did you record my “informed consent” – which I understand may be verbal or in writing (as to most conflicts of interest).

(3) With respect to each conflict of interest you may possess, in our relationship, arising from you activities or those of your firm, is each transaction you recommended that I undertake (as to those transactions which might be affected by such conflict of interest) also “substantively fair” to me, as is required under a true fiduciary “best interests” standard?

(4) As a further test of your ability to properly manage any conflicts of interest you may possess, please provide your answers to the following questions, in detail:

      (A) What are the total fees and costs associated with each investment product I have purchased as a result of your recommendations. Please list the total fees and costs associated with the first year (such as sales commissions), along with any ongoing fees (in the first and subsequent years). Please express, for each product, the total fees and costs as both a percentage of the amount invested, and as a dollar amount, for the first year of the investment and each calendar year since then. If you are estimating any of these fees and costs, please let me know. And, if certain fees and costs cannot be quantified, please explain why.

     (B) Please set forth the compensation received by your firm as a result of any recommendation from you which I have implemented. Please specifically indicate, for each investment product:
              1. Any front-end sales load or commission paid
              2. Any contingent deferred sales charge or redemption fee that I may have incurred
              3. Whether any contingent deferred sales charges or redemption fees may still be incurred by me, if I decide to sell any investment you have recommend to me.
              4. The amount of ongoing, annual compensation your firm receives from the product provider, such as:
                    a. 12b-1 fees
                    b. Payment for shelf space, or any other revenue-sharing payments
                    c. Brokerage commissions paid to the firm by the investment product provider, as a result of your firm acting as broker for transactions within the product, and whether any of such brokerage commissions were “soft dollar” compensation
                    d. An estimate of any “payments for order flow” your firm may have received
             5. The amount of any investment advisory fees I have paid to your firm each year
             6. Any other payments your firm may have received as a result of recommending the investment product to me
             7. Please also state whether any of the compensation your firm received was potentially higher due to sales by your firm of how much investment product was sold, and if so please describe the arrangements in detail.

     (C) Please also set forth whether you received any material compensation as a result of your recommendations to me. 
            1. Please indicate the amount of such compensation, for each year of our relationship.
            2.  Also, please indicate if you possessed any incentives, which would have resulted in higher commissions or other payments or bonuses, gifts, treatment to trips, or any other material compensation, in connection with the investment recommendations you made to me. Please discuss in your answer the particulars of such incentives.

I know this is a long list, and it may take you several days to compile this information. But, Professor Rhoades notes how very important it is to obtain answers to these questions.

Thank you.

P.S. – Prof. Rhoades suggests other questions I may need answers to later, in this other prior blog post. Hence, I may be asking you more questions, later, as I continue my research and seek to ensure that you are truly acting in MY “best interests,” and not your own.

My ETF picking is working better than my stock picking

August 14, 2015

Michael James’ tongue in cheek The Stock Picker’s Checklist prompted me to look at one of my accounts at TD where I have bought individual stocks as part of my overall Canadian equity allocation.

On first glance, the screenshot below of my account return against the TSX Composite Index Total Return (which is the appropriate benchmark since the account is entirely Canadian equity holdings and all the stocks, and the holdings of the one ETF, are part of the TSX Composite) makes me look like a rival to Warren Buffett and Charlie Munger.

(click to enlarge)

… but the sudden divergence of the lines around September 2014 made me look a bit closer and the source of the marked difference is the sole ETF in this account, BMO’s Low Volatility Canadian Equity fund (TSX: ZLB). ZLB contains much less weight in energy and materials by virtue of its criteria to select low volatility stocks.

The following chart from Yahoo Finance shows ZLB against the TSX Composite and a couple of other ETFs – iShares’ XIU, which tracks the TSX 60, and Powershares’ PXC, which is a fundamentally-weighted Canadian equity fund. PXC has closely tracked the pattern of the TSX while doing appreciably worse. Meanwhile ZLB works completely differently.

(click to enlarge)

The TD account balance screenshot (edited to remove dollar amounts of my holdings, which unfortunately are nowhere near rivalling those of Buffett and Munger) confirms this. ZLB is about half the holdings and its gain is far ahead of anything else. Its return has dominated the account.

(click to enlarge)

My takeaways:
1) My stock picks so far have been doing about the same – no better but no worse either – than their benchmark. Not much benefit or harm either way.

2) ZLB’s low correlation with PXC and the TSX Composite indicates that a portfolio built to include non-cap-weight components (like the Smart Beta described here on my other blog) makes sense. The last three years, market conditions have been such that ZLB is powering ahead. At some point, it will be PXC’s turn. All along my portfolio is more stable / less volatile.

How safe is an annuity in Canada?

August 6, 2015

Handing over a large lump sum out of your life savings to an insurance company to buy a lifetime stream of income in an annuity is a sobering step. It is irreversible. A critical question, considering that your retirement can easily last 30 years or more, is whether the insurance company will be able to carry out its promise to pay. How sure can we be of actually getting those payments?

Protection level 1: Assuris – the backstop for failed insurance companies
As the Assuris website explains in more detail, all companies selling annuities in Canada are required to be members of Assuris, which does a very useful thing. It guarantees up to $2000 per month (or equivalent quarterly or annual amounts) in annuity income, or 85% of income, whichever is higher. It is on a per company basis so it is wise to pick different insurance companies for income above $2000 per month. Thankfully, one of the Assuris FAQs advises that if companies subsequently merge the guarantee continues on the previous basis, i.e. independently and not combined.

The ability of Assuris itself to carry out its guarantee is based partly on keeping a $100 million fund. That’s not much at first glance considering the amount of outstanding annuity obligations – e.g. even a small player like Equitable Life had $456 million in outstanding annuity contracts in 2013 per its Annual Report. However, the $100 million fund is importantly supplemented by Assuris’ power to levy all its insurance company members for any shortfall. Given that a failing insurance company would most probably still have considerable assets to pay a good chunk of its annuity obligations the net shortfall from the fund and the levy would seem fairly limited.

Assuris has been effective so far in its 25 years of existence. The four insurance company insolvencies in that time resulted in no losses to Assuris-covered customers and only miniscule losses to some non-covered customers.

Protection level 2: OSFI Regulation – a strict culture of caution
The second reason that annuity holders can find considerable comfort is the strict regulatory regime for insurance companies in Canada, as carried out by the federal government’s Office of the Superintendent of Financial Institutions. There are requirements for companies to maintain high levels of capital to withstand financial shocks. All the major insurance companies exceed the OSFI recommended level by a large degree, let alone the legal minimum. A recent International Monetary Fund Review of the effect of the harmful low interest rate environment on Canadian insurance companies notes that the regulatory regime in Canada has forced the companies to make required adjustments. Various standards are being revised to improve safety. In the IMF’s words “The regulatory regime has served Canada well in the adjustment to a low rate environment“. Any future rise in interest rates will benefit companies.

It is reassuring to remember that though insurance companies suffered in and after the 2008 financial crisis, they weathered the storm. One failed but the Assuris guarantee worked. The current solidity of the Canadian insurers is reflected in their high credit ratings shown in this February 2015 compilation of the annuity issuers by McGill University. Some, like Canada Life with AA ratings, are higher rated than a weaker province like New Brunswick with only A(high) from DBRS. A culture of caution in Canada, that seems to be continuing, reassures for the future.

Protection level 3: Politics, a possible potent wildcard
“Too big to fail” and “too many voters” adds another dimension, possibly the most powerful of all, to the likelihood that annuity holders will not be left high and dry by insurance company failure. It is hard to imagine that, in the face of a single company failure that Assuris could not cope with, which would entail one of the huge companies such as Manulife or Sun Life, the federal government would not step in to bail out the millions of life insurance holders. Systemic risk domino effects on other companies and on banks might force the issue.

All in all, it seems that the safety of annuities in Canada is pretty darn good. There’s no certainty that things cannot or will not change (is there ever?) but the situation looks very solid at the moment. It’s one worry I will not have about my annuity purchase.

How much does the average Canadian financial advisor earn? You will be shocked….

July 31, 2015

2014 was an outstanding year for Canadian financial advisors according to PriceMetrix. It could be termed the year of the Yacht (making reference to the classic takedown of Wall Street Where are the Customers’ Yachts? by Fred Schwed) for advisors. That’s not just figuratively true, it is literally true. Anyone who makes $655,000 in a year is into yacht territory. Yes, that’s right, the PriceMetrix press release crows about that being the average advisor income, not the top 1% or 10%, the average!

Advisors are doing well indeed – their 13% rise in revenue over the previous year contrasts with only an 11% increase in average client assets under their management, all this while advisors have been reducing the number of clients each deals with, i.e. the advisors have been firing clients, and it doesn’t take a rocket scientist to know it is the clients with low assets who provide less revenue bang for each advisor time buck.

There is an increasing shift to fee-based revenue (which probably means a separate charge for assets under management but might include trailing commissions on mutual funds), as opposed to transaction revenue (one-time commission). It’s hard to tell exactly what types of charges are being described – see Preet Banerjee’s more detailed run-through of various terminology for various charges on MoneySense – but the end result is clear, clients of advisors got dinged for more per dollar of invested assets in 2014.

Another interesting figure in the PriceMetrix report is that each advisor served 150 clients on average. In a typical year of 236 on-the-job days (251 working days minus 15 for holidays on the yacht), that gives each client 1.6 days of advisor time per year, discounting anything else the advisor does in his/her business. No wonder $20,000 client accounts don’t pay and advisors want to get rid of such clients (1% of $20k provides only $200 and 150 of such clients is $30,000 of annual revenue).

Finally, perhaps robo-advisors really are the way of the future. The report says advisors and their clients are getting older. Advisors are making no efforts to attract younger clients, who may not be interested anyway since they can get all of what typically passes for financial advice (10 simple questions and your portfolio is determined) plus automatic rebalancing for a lower cost (using lower MER ETFs plus lower robo charges on assets) from the robos.

CEO Pay – Benchmark this, corporate Canada

July 24, 2015

The 2015 version of the Canadian Centre for Policy Alternatives report on CEO pay by Hugh Mackenzie revealed a substantial increase in average pay from the year before. The comparison to the pay of employees and all Canadians, who own shares in all these companies through their pension plans, mutual funds ETFs or directly, is shockingly out of whack. Companies justify this through incredibly complex schemes (got to and download a sample Management Information Circular aka Proxy Circular) that basically use peer comparison to benchmark.

So … let’s benchmark this:

  • BBC reports that in 2014 Apple CEO Tim Cook received total compensation of $9.2 million. Apple is the world’s largest company (by far ahead of #2 Exxon), with a market cap of $659.21 billion. His pay was 9.2/659210 = 0.0014% of market cap. Cook is not exactly working for peanuts by CEO standards though. in 2013 he earned $73.9 million US, which is about $81.3 million CAD (mostly from stock options), or 0.0123% of market cap.
  • According to the Mackenzie report, the top CEO earner in Canada, Gerry Schwartz of Onex, took in $87.917 million in 2013. Onex’s market cap is $7.67 billion. If we apply the Apple Cook percent as benchmark, Schwartz should have earned roughly 0.0014% x $7670 = $107,000 in 2014. Even at 2013 rates for Cook, Schwartz would deserve only $938,000. We’ll be watching with high expectations in early April when Onex’s 2015 Proxy Circular is filed with 2014 actuals.

Mackenzie is coming at the issue from from an ideologically leftist viewpoint, so those who merely want to invest profitably may want to read investment author and industry insider James Montier’s investor-centered case against CEO pay run amok, which he ascribes to a faulty corporate philosophy of shareholder value maximization. One of his conclusions: “

Shareholder’s Lesson
Firstly, SVM has failed its namesakes: it has not delivered increased returns to shareholders in any meaningful way,
and may actually have led to poorer corporate performance!”

Disclosure: I own zero Onex shares and won’t be buying any soon, given the pathetic earnings history of the company. I own Apple shares inside the PRF ETF.

Shout Out To All The Moms

July 16, 2015
by Bill Sweet

Wanted to take a moment to wish a Happy Mother’s Day to all of the proud moms out there.

Two stand out in particular – my mom, Cindi, whose love and sacrifice made me into the person that I am today, and Patte, my incredible mother-in-law who does so much to keep our family business in-line, organized, and pleasant for everyone who walks in the door.

Happy Mother’s Day!

– Bill

Receiving the Odom Visionary Leadership Award

July 10, 2015

I received the William E. Odom Visionary Leadership Award last Tuesday, April 23, at a ceremony hosted by the Jump$tart Coalition for Personal Financial Literacy. I was a very special evening which will stay forever in my memory.

I had prepared a speech to deliver at the dinner and I provide the text below. Thank you all for your support and for supporting financial literacy.

I am delighted to be here this evening to receive this wonderful honor. When Laura Levine called to tell me about the Odom Award, I was very happy. And contrary to the findings reported in the studies about happiness, I can tell you that my happiness lasted for days and days.
In fact, that happiness lasted until I realized I’d have to give a speech. I was at this event two years ago… sitting at the table of Carrie Schwab when she sang for her award. And I know that John Rogers gave a wonderful speech last year. How do I follow that?   
Like every good Italian, I called my mother. Her first recommendation? No singing or dancing on the stage. That killed my plans for arias from Tosca or any pirouettes. But my mother had some good suggestions. She said, “Why don’t you speak about that PISA project you always tell us so much about? Why don’t you talk about your passions, for example the new center that takes so much of your attention?”
So let me start with PISA, the Programme for International Student Assessment. As most of you know, in 2012 PISA added financial literacy to the topics it measures, together with math, science, and reading. I chaired the group of experts that the OECD brought together to design PISA’s new financial literacy assessment module.
It was a challenging assignment to design questions to measure financial literacy among 15-year-olds in many different countries. But the group brought a rich level of expertise to the task. We had representatives from Treasury departments and from central banks. We had regulators and representatives from the institutions in charge of financial literacy in their countries.
I want to read to you what PISA gauges:
Are students well prepared for future challenges? Can they analyze, reason, and communicate effectively? Do they have the capacity to continue learning throughout life? Every three years the OECD Programme for International Student Assessment answers these questions and more. It assesses to what extent students near the end of compulsory education have acquired some of the knowledge and skills essential for full participation in society.
This could as well serve as a brief description of financial literacy, a skill essential for full participation in society. And as PISA treats it, it is like the other topics we teach in school, math, reading, science.
Over the last 3 years, the Financial Literacy Experts Groups has met in different cities around the world. Our first meeting was in Boston and since then we have been to Paris, Budapest, Melbourne, and Heidelberg. I’d like to say it was a happy project marked by exotic global travel … but in truth it was one of the hardest projects I have ever undertaken. We spent days locked up in hotel conference rooms designing the Financial Literacy Framework. We wrote – and rewrote – the assessment questions many, many times.
Just so you have a sense of how committed we are: We are the only PISA group that asked for an additional meeting so that we could take a final look at the data, examine the findings and, most importantly, discuss how to disseminate this work. Once the data is out, we hope it will drive a big push for financial literacy in schools. Financial literacy makes a difference in the life of young people and we hope we can make a difference with our work and equip the young generations with the skills they need to for full participation in society.
One good feature about working in financial literacy is that it is not hard to be passionate about it. Working with other people who have a passion for this subject is the most rewarding part of what I do. 
My family teases me about the PISA project. I first mentioned it to my parents – and the measurement issues associated with it – during a rather quick phone call while I was on my way to the airport to catch my flight to a PISA meeting. The next day I got two e-mails. My little sister congratulated me … then commented that we are in trouble if an economist is being asked to take measurement of the leaning tower. My older sister, the more pragmatic one, asked if I could please arrange a visit to the tower. They were clearly thinking of a different PISA!
I hope it is clear that in the eyes of my parents I can do anything, even studying or fixing the leaning tower. I think I ended up on the PISA project that was better suited to my skills/talents, but I do believe that one of the reasons why I am here on the podium today is because I was raised in an Italian family with very supportive parents.
And I am grateful to my parents for encouraging me to seek my passion. I found it in financial literacy. I have been working on financial literacy issues for the past 10 years… not only research but also trying to disseminate the results of the research to a much wider audience than academics. I am very proud of the Global Center for Financial Literacy that I am building at the George Washington University School of Business. My collaborators are here today and we are united in this mission to spread financial literacy.  I am also working with many people and institutions who are here today, FINRA Investor Education Foundation, the Council for Economic Education, and the Jump$tart Coalition for Personal Financial Literacy.
I received an e-mail a few weeks ago from a bank in Arizona asking for material we have written. I had no idea who these people were. It turns out that the mother of my colleague, Kristen, had been talking about our center to her friends and one of these friends was contacting us to ask how to help.
When your parents talk about what you do and can relate to what you do, I think you are in a good job! And I don’t just mean Italian parents but also American parents.  
But we need more than passion for our research. We also need funding. Back in 2005, I submitted a letter of interest to a foundation for a new project on financial literacy. One afternoon, while in my office at Dartmouth, I received a phone call. It was the CEO of that foundation. In all of my time as a professor and in the many grants I had submitted, the CEO of a funding agency had never called me. I thought, “This is an organization I want to work with.”
My wish came true. I have been working with the National Endowment for Financial Education and Ted Beck ever since. We turn to him not just for funding, but also for his advice and wisdom. In keeping with my Italian tradition, I think of him as our godfather!
Thank you very much for this award … and for allowing me to take the stage. It was a good thing that I followed my mother’s advice and did not sing and dance. But, if you are interested in the other PISA, please let me know. I’m pretty sure I can arrange a tour.

Use of "Fee-Only" Inappropriately or Any Use of "Fee-Based" Can Violate Federal/State Laws

July 2, 2015

A reader asks: “Can a series 7/66 rep who works for a regional dually registered (broker-dealer and RIA) firm claim to be fee-only, fee-based, and commission-based at the same time?”
Short Answer: No. The terms “fee-only,” “fee-and-commission” and “commission-and-fee” should be used properly. If a person claiming to be “fee-only” or the person’s firm receives material third-party compensation (in the form of commissions, 12b-1 fees, payment for shelf space, etc.), then the use of the term “fee-only” likely violates one or more federal or state securities laws or other consumer protection laws. Additionally, the term “fee-based” should never be utilized to describe an advisor, as it is inherently misleading.
The term “fee-based” apparently arose to describe “fee-based brokerage accounts” – which were permitted for nearly a decade by the SEC under the ill-fated “Merrill Lynch Rule.” The SEC’s rule was overturned in 2007 by the D.C. U.S. Court of Appeals in Financial Planning Ass’n v. SEC, as violative of the “no special compensation” requirement for brokers to be exempt from registration under the Advisers Act.
Following that 2007 decision time was permitted for brokers to change the fee-based accounts to either commission-based brokerage accounts or to investment advisory accounts. Many registered representatives (RRs) of broker-dealer firms converted the accounts to investment advisory accounts, and many of these representatives secured their Series 66 (or 65) licenses in order to be qualified to be an “investment adviser representative” (IAR).
Unfortunately, during this time the term “fee-based” became more widely used to describe the dual registrant (RR/IAR), rather than the account. Some speculate that this was in response to the marketing success fee-only advisors possessed. In particular, hundreds of thousands of consumer inquiries proceed each year through the find-an-advisor web site hosted by the National Association of Personal Financial Advisors (, resulting in many referrals of consumers to its 2,500 or so fee-only members.
The term “fee-only” was apparently coined by NAPFA many, many years ago. Currently NAPFA’s definition of “fee-only” states: “NAPFA defines a Fee-Only financial advisor as one who is compensated solely by the client with neither the advisor nor any related party receiving compensation that is contingent on the purchase or sale of a financial product. Neither Members nor Affiliates may receive commissions, rebates, awards, finder’s fees, bonuses or other forms of compensation from others as a result of a client’s implementation of the individual’s planning recommendations. ‘Fee-offset’ arrangements, 12b-1 fees, insurance rebates or renewals and wrap fee arrangements that are transaction based are examples of compensation arrangements that do not meet the NAPFA definition of Fee-Only practice.”
In contrast, the Certified Financial Planner Board of Standards, Inc. defines a fee-only certificant (i.e., Certified Financial Planner™) as follows: “A certificant may describe his or her practice as ‘fee-only’ if, and only if, all of the certificant’s compensation from all of his or her client work comes exclusively from the clients in the form of fixed, flat, hourly, percentage or performance-based fees.” It should be noted that the CFP Board’s application of this definition takes into account the specific facts and circumstances of the certificant.
While the major online dictionaries don’t apparently yet provide a definition for “fee-only,” “The Free Dictionary by Harlex” defines “fee-only compensation” as “Payment to a financial adviser of a set hourly rate, or an agreed-upon percentage of assets under management, for a financial plan. Under this arrangement, the adviser receives no commissions on any transactions to implement the plan.”
What is the perception of consumers? This is important, because a commonly held understanding by consumers could establish a definition of the term that could result in a securities law violation if the term was misused. However, it is unclear, in my mind, whether consumers would even recognize the “fee-only” term and know what it means, the majority of the time.
But some consumers, whether through readings about fee-only advisors (consumer media writers often caution their readers to seek out “fee-only advisors”) or just through commonly accepted meanings of “fee” and “only” might achieve a understanding of the term “fee-only” in alignment with the definitions provided by either NAPFA or the CFP Board, or both.
(Of course, we must ask how many consumers can articulate the difference between a stock, a mutual fund, and a bond. A low level of financial literacy among consumers excuses neither deceit nor fraud.)
Consumer understanding is not the sole test of the proper use of a term. A commonly held use of the term “fee-only” within the securities industry itself, with dissemination of the term to consumers through marketing and promotional efforts, could also provide the foundational meaning of the term. Any subsequent misuse of the term could then be the foundation for a securities law violation.
Michael Kitces, a widely-respected financial planning industry commentator, summarized past controversies over the term “fee-only” in his recent Nerd’s Eye View blog post (found online at
Nonetheless, the fact that the companies acknowledged the existence of the commissions and disclose them in the Form ADV means, almost by definition, these firms are not fee-only! In fact, holding out as a “fee-only” advisor while the advisor (or his/her parent firm) has a related entity that is an insurance agent is the exact issue that brought about the complaint with the CFP Board against Jeff and Kim Camarda, and the subsequent Camarda vs CFP Board lawsuit that has ensued. Similarly, an advisor holding out as being “fee-only” while working for a company with a related entity that generates commissions was what led to the resignation and subsequent public admonition of former CFP Board chair Alan Goldfarb. And after an article on this blog pointed out that under the related-party rules, any advisor working for a broker-dealer is in violation of the “fee-only” rules simply by the fact that they work there, the CFP Board had to reset the compensation disclosures on its own website after a follow-up story in Financial Planning magazine revealed hundreds were in violation of the “fee-only” disclosure rules.
As Michael Kitces’ blog also pointed out, the term “fee-only” continues to be a point of controversy and continues to snag advisors and firms, sometimes through no fault of their own. As James Dornbrook reported in the Kansas City Business Journal on June 10, 2015:
Leawood-based Creative Planning was recently named as the nation’s No. 1 fee-only wealth management firm by CNBC for the second year in a row. Creative Planning didn’t apply for the award. It was thrust upon the firm unknowingly, and it ended up in the national media.
Soon after CNBC announced its list, Michael Kitces, a well-known commentator and editor of the Journal of Financial Planning, skewered it by questioning whether nine of the 10 firms recognized truly have a fee-only structure. His criticism included Creative Planning, which Kitces said refers clients to insurance affiliates the firm owns, so it shares in those insurance commissions.
Creative Planning founder Peter Mallouk said that when it comes to making any types of investments, his firm is certainly impartial and fee-only, focused entirely on getting clients into the best investments that fit their risk profile and goals.
That said, Creative Planning does have affiliates that offer insurance coverage. However, most of the coverage is group coverage, such as health insurance and property and casualty insurance for businesses. The company does offer insurance policies for individuals, such as term life, health, home and auto, but the offerings do not include any insurance that could be considered an investment vehicle, such as variable life or variable annuities.
The CNBC list required that all firms be fee-only when it comes to investments. It also required that the firms on its list be able to advise on insurance because it wanted to recognize firms that offered a full suite of wealth management services. Creative Planning offers money management, financial advice, legal and tax services, and insurance. So it’s got the full package and serves clients well in each area, which is why it got recognized.
Should Creative Planning and similar firms be considered a pure “fee-only” firm when only a small part of their business makes commissions on clients for insurance sales? CNBC thinks so …
It should be noted that in a 2007 state securities administrator proceeding involving an investment adviser representative who also sold insurance products, the use of the term “fee-only” was found to be misleading and violative of state securities anti-fraud laws. See IN THE MATTER OF: MICHAEL G. GRIMES; and FINANCIAL SOLUTIONS & ASSOCIATES, INC., Case No. AP-07-04 (State of Missouri, Office of the Secretary of State) (available at The State Securities Administrator’s sanctions were upheld on appeal to the Missouri Court of Appeals (Financial Solutions and Associates v. Carnahan (Case No. WD71332 (July 20, 2010). I provide this extended excerpt from the appellate decision:
At the time of the investigation, Grimes [licensed as an insurance agent, not as an investment adviser representative] was acting as a solicitor for Barrington and had his own business, FSI. Grimes was licensed to sell life insurance, variable contracts, accident, and health insurance coverage.   Barrington was a federally covered investment adviser. Between March 31, 2005, and June 30, 2006, Grimes received over $150,000 in compensation from Barrington. FSI’s website, maintained by Grimes, contained a section called “Fee-Only Planner.” That section clearly stated:
 “[FSI] is a fee-only planning firm committed to assisting client[s] to reach their financial goals.   Fee only planners, like us, are compensated solely by fees paid by their clients and do not accept commissions or compensation from any other source.”
“The main difference between a Stockbroker and us is that they make a living by charging their clients commissions.”
“We do not earn any money from commissions, trailers, or markups.”
At the hearing before the Commissioner, Janet Ellingson, an account manager for LiveOffice, who Grimes used to build and house his website, testified that when Grimes gave the information for his initial questionnaire, he stated that he was a fee-only investment advisor. Grimes testified that it was his responsibility, knowing what licenses they had, to build the site and select the proper pages that would equal the services they were licensed to offer.   Grimes also admitted that he was a solicitor for Barrington at the same time he maintained his website and would receive 60% of the management fee that Barrington received when they managed the clients Grimes brought to them.
After a review of the record on appeal, particularly the evidence presented regarding the website and the commissions the Appellants received at the same time the website proclaimed they were “fee-only,” we conclude the Commission’s finding is supported by competent and substantial evidence.
Moreover, to the extent Grimes contends that the Commissioner erred in finding the statements constitute fraud or deceit under § 409.5-502(a), that argument also fails … “[i]t is recognized in Missouri, as well as generally, that the primary purpose of legislation similar to that of the Missouri Uniform Securities Act is that of protecting the buyers of securities.” Garbo v. Hilleary Franchise Sys., Inc., 479 S.W.2d 491, 499 (Mo.App.E.D.1972) (internal quotation and asterisks omitted). To fulfill that purpose, we “embod[y] a flexible rather than a static principle, one that is capable of adaptation to meet the countless and variable schemes devised by those who seek the use of the money of others on the promise of profits.”Id. (internal quotation omitted). As noted supra, under § 409.5-502(a):
It is unlawful for a person that advises others for compensation, either directly or indirectly or through publications or writings, as to the value of securities or the advisability of investing in, purchasing, or selling securities or that, for compensation and as part of a regular business, issues or promulgates analyses or reports relating to securities:  (1) To employ a device, scheme, or artifice to defraud another person;  or (2) To engage in an act, practice, or course of business that operates or would operate as a fraud or deceit upon another person.
The Appellants contend that fraud and deceit under the Missouri Securities Act require the making of a false or misleading statement of material fact, or the failure to disclose a material fact necessary to avoid making another statement not misleading. They contend that the statements from FSI’s website do not meet this definition. Fraud and deceit are not defined in the Missouri Securities Act. However, the terms “ ‘[f]raud,” “deceit,” and “defraud” are not limited to common law deceit.” § 409.1-102(9).
When interpreting the meaning of words used in the Missouri Securities Act, we look to other states’ interpretations of their securities law as well as federal interpretations. Moses, 186 S.W.3d at 904 (“Missouri courts have often looked to cases decided by courts from other jurisdictions to aid in comprehending the definitional limitations of the Act, particularly when the language of the federal and state securities statutes involved is nearly identical.”);  State v. Dumke, 901 S.W.2d 100, 102 (Mo.App.W.D.1995) (“[W]hen construing uniform acts, it must be remembered that the fundamental purpose of a uniform law is to eliminate uncertainty and provide plain and certain the controlling rules of law. It is fitting, therefore, to turn to our sister jurisdictions and examine their solutions to the problem.” (Internal citation and quotation omitted)).
Similar to federal securities legislation, Missouri securities legislation makes it unlawful for persons to engage in practices or a course of business that “operates or would operate as fraud or deceit.” § 409.5-502(a) (emphasis added);  cf.  17 C.F.R. § 240.10b-5(c). This language “quite plainly focuses upon the effect of particular conduct on members of the investing public, rather than upon the culpability of the person responsible.” Aaron v. Sec. & Exch. Comm’n, 446 U.S. 680, 697, 100 S.Ct. 1945, 1955, 64 L.Ed.2d 611 (1980). This same approach has been followed in other states, as these states have also relied on the Aaron decision. See, e.g., Secretary of State v. Tretiak, 22 P.3d 1134, 1141 (Nev.2001).
Moreover, when a definition is not present in the statute, “the plain and ordinary meaning is derived from the dictionary.” Cox v. Dir. Of Revenue, 98 S.W.3d 548, 550 (Mo. banc 2003).  “Fraud” is defined as “[a] knowing misrepresentation of the truth or concealment of a material fact to induce another to act to his or her detriment.” Black’s Law Dictionary731 (9 th ed.2009). “Deceit” is defined as “[t]he act of intentionally giving a false impression.” Id. at 465. It is also defined as “[a] false statement of fact made by a person knowingly or recklessly with the intent that someone else will act upon it.” Id. The evidence presented in the record on appeal demonstrates that the FSI website’s language meets these definitions.
The Commissioner did not err in determining that Grimes’s statements on the FSI website constituted fraud or deceit under the Missouri Securities Act. The Commissioner’s decision is in line with other state and federal decisions and meets the definitions given to these terms. We attempt to construe the Missouri Securities Act in a manner that is consistent with the Commissioner’s interpretation, Moses, 186 S.W.3d at 899, and we do not find that the Commissioner’s interpretation was unreasonable or arbitrary.   Point denied.
The Commissioner’s decision finding that Appellants engaged in an act, practice, or course of business that operated as fraud or deceit upon persons under § 409.5-502(a) is affirmed.
As seen, representations regarding “fee-only” by a person who does not meet the generally accepted definition of that term (whether such definition is promulgated by industry organizations or has achieved more widespread use in the public jargon) is likely to constitute “fraud” or “deceit” under federal and state securities laws.
Permit me to offer my own opinion as to the likelihood of organizational rules or securities / insurance law violations. Of course, each situation is fact-specific; nevertheless, some general legal conclusions can be offered.
If a Certified Financial Planner™ or her/his firm receives any commission-based compensation, 12b-1 fees, or other material third-party compensation, and the certificant uses the term “fee-only” (either on the CFP Board’s find-an-advisor web site, or in any other marketing or promotional materials, or verbally) to describe either: (1) the certificant; (2) the nature of the certificant’s practice; or (3) the nature of her or his firm, then the certificant has probably violated the CFP Board’s rules. If you, the reader, spot such occurring, I would urge you to first contact the certificant, suggest that she or he review the CFP Board’s rules, and permit a reasonable time for corrective action to occur. The appropriate characterization of the practice and/or the advisor and/or the firm should be either “fee-and-commission” or “commission-and-fee” (depending upon which predominates, as a percentage of total revenue). If corrective action by the certificant or the certificant’s firm does not occur, I would urge the reader to file a written complaint with the CFP Board about the certificant.
Regardless of whether the dual registrant (RR/IAR), or perhaps an IAR with an insurance license, possesses status as a CFP®, another issue is whether fraud is occurring under the federal or state securities laws, or common law fraud occurs under state common law. Given the long-standing use of the term “fee-only” within the industry, by both NAPFA and the CFP Board, and given that a significant minority of consumers would likely understand the term “fee-only” as connoting arrangements other than third-party compensation, I would opine that the use of the term “fee-only” would be fraudulent to describe the individual Series 65/66 license holder if that license holder received third-party compensation (such as commissions, 12b-1 fees, etc.).
If the advisor is a registered representative, then FINRA Rule 2210(d)(1)(B) prohibits a firm from making any false, exaggerated, unwarranted or misleading statement or claim in any communication, and prohibits the publication, circulation or distribution of any communication that the firm knows or has reason to know contains any untrue statement of a material fact or is otherwise false or misleading. I would opine that the inappropriate use of the term “fee-only” by a registered representative who also receives commissions or other material third-party compensation, whether from sales of securities or insurance products, is not “fee-only” and that any use of the term “fee-only” would likely violate of FINRA Rule 2210(d)(1)(B). Again, I would urge the reader to contact the registered representative and or her/his firm, and seek that they undertake corrective action within a reasonable period of time. If appropriate action is not appropriately undertaken, I would urge the reader to file a written complaint with FINRA.
If the advisor is not a registered representative, but holds as Series 65/66 license and an insurance licenses, and if the advisor inappropriately use of the term “fee-only” due to receipt of commissions or other material third-party compensation from insurance products, whether through the same firm or through an affiliated insurance firm or even a non-affiliated insurance agency, then I would opine that the advisor is again not “fee-only.” I would note that any use of the term “fee-only” would likely be considered an “advertisement” (any communication addressed to more than one person that offers any investment advisory service with regard to securities) under “the Advertising Rule” — Rule 206(4)-1). Note that an advertisement could include both a written publication (such as a website, newsletter or marketing brochure) as well as oral communications. Under the Advisers Act, advertising must not be false or misleading and must not contain any untrue statement of a material fact. Regardless of whether an “advertisement” exists, all statements made to advisory clients and prospective clients, is subject to the general prohibition on fraud (Section 206 as well as other anti-fraud provisions under the federal securities laws). Again, I would opine that it is likely that a Sect. 206 violation has taken place. I would urge the reader to contact the investment adviser representative and or her/his firm, and seek that they undertake corrective action within a reasonable period of time. If appropriate action is not appropriately undertaken, I would urge the reader to file a written complaint with either the SEC (if the advisor’s firm is registered with the SEC) or with the home state of the advisor’s firm (if the advisor’s firm is not “SEC-registered”).
If the advisor is only an insurance agent, and advertises as a “fee-only” financial or investment advisor, then violations of the anti-fraud provisions of state insurance laws, and/or state consumer laws against unfair or deceptive practices, may have occurred. While this will depend upon that state’s laws, again I would urge the reader to seek corrective action by contacting the insurance agent first, then if correction action is not timely undertaken then filing an appropriate report with either the state insurance commissioner’s office, or the state trade commission, or both.
I believe the term “fee-based” to describe an advisor is intentionally misleading, when utilized. Where both fee revenue (AUM, fixed fees, hourly fees) or commissions (or other third-party compensation) is received, an advisor is properly characterized as either “fee-and-commission-based” or “commission-and-fee-based,” depending upon where the majority of the revenue of the advisor is derived. The omission of “and-commission” in either instance, an attempt to obfuscate and gain the consumer’s trust inappropriately, and hence in my view constitutes deceit under federal and state securities laws.
These are my conclusions only. Again, these conclusions are based upon the general understanding of the law, and varying sets of facts might lead, in particular cases, to different results. Additionally, while one reported decision exists as to the use of the term “fee-only,” other decisions may exist, and/or new cases may arise, which result in different decisions. Nevertheless, I would caution that only advisors which meet the definition of “fee-only” use that term to describe themselves in any communications with any client or any group of clients, or in any other communication.

Vote for financial education

June 24, 2015

The Economist posted a recent “Where Do you Stand?” feature that goes like this:

Here is a question: Suppose you had $100 in a savings account that paid an interest rate of 2% a year. If you leave the money in the account, how much would you have accumulated after five years: more than $102, exactly $102, or less than $102. . . . A survey found that only half of Americans aged over 50 gave the correct answer. . . .  The solution seems obvious: provide more financial education. . . . A survey by the Federal Reserve Bank of Cleveland reported that: ‘Unfortunately, we do not find conclusive evidence that, in general, financial education programmes do lead to greater financial knowledge and ultimately to better financial behaviour.’  So should we give up on financial education? Please vote.

A friend had forwarded me the link to this feature (, and when I read it, I had a good laugh. What a way to frame a question: Here is some medicine that does not work. Would you take it? Please vote, because we are really interested in publishing your opinion.

I was nevertheless very pleased with the feature. The question that was cited was one that I designed (with Olivia Mitchell) for the Health and Retirement Study, a US survey that covers respondents 50 and older. However, it appears that whoever authored the feature forgot to read my paper because the statistic that is reported is, in fact, wrong. Not half but 67% of older Americans gave the correct answer. This does not mean that financial literacy is high. Nevertheless, it is good to check sources.
I went and searched for the Federal Reserve Bank of Cleveland survey to check it out. The link to the survey report is noted below. I mean this in a friendly way, but it’s worth noting that the Economist’s citation is from an unpublished paper written five years ago and covering only a handful of financial education programs. While the title of the paper may look attractive, I am not sure I would consider it the authoritative source on financial education. (I Googled the authors and it appears they have not written any other papers on this topic nor published that paper.) There are more recent and published papers, some of them pointing to the same result. I would have quoted those.

I voted, of course. (In case you want to know, I voted that we should not give up on financial education; I have read a lot more papers on financial education than the one reported here.) After casting my vote, I was able to see percentage of votes in favor of and opposing financial education. Even before seeing the result, however, I could have made an educated guess as to the outcome. The ING Financial Competence Survey asked “Do you think financial education should be taught in school?” In all of the 11 countries that were surveyed, about 90% of respondents answered yes (the report’s link is noted below). Notably the UK ranked second, with 94% of respondents answering yes. After I voted on the Economist’s question, I could see that 84% had voted in favor of financial education.

By the way, methodologically it is not very useful to ask about choices without mentioning costs. Decisions depend both on preferences and budget constraints. Would I give up cable? No. Would I give up a land-line phone? No. Would I give up on financial education? No. Why should we give up on anything without knowing the costs of doing so? We cannot learn much from asking these types of questions. It is Economics 101.

Athletes going bankrupt: We can stop it

June 18, 2015

I read the obituary of Ray Williams in the March 25, 2013, issue of the New York Times.  A talented basketball player, Ray Williams started his career playing for the New York Knicks and later for the New Jersey Nets. He also played for the Celtics, the Atlanta Hawks, and the San Antonio Spurs. As the article mentioned, “he had an outstanding shooting touch, he possessed superb body control, and had dazzled the crowds at Madison Square Garden in the late 1970s and early 1980s.” By the time his NBA career ended, he had accumulated impressive statistics.  His private life after he stopped playing is another story. While Williams had earned millions during his career, he declared bankruptcy in the mid-1990s, his marriage broke up, and by the summer of 2010 he was homeless, living in his car in Florida. After he talked about his problems in an interview with the Boston Globe, he received an offer from the mayor of his native Mount Vernon, New York, to work with youngsters at a recreational center. A former teammate interviewed for the article noted that “Williams flourished on the court but, like many athletes, was not prepared for life after the game.”

Williams’s story is surprisingly similar to that of many other athletes. Successful, skillful, and with impressive records, many athletes end up in bankruptcy courts, sometimes as soon as two years after they stop playing. Money mismanagement seems to be the norm, even if players, as in the case of Williams, had earned millions of dollars in their career. But the career of a professional athlete is short; they are lucky to be active past age 35. Their professional skills are many but do not necessarily translate into opportunities for jobs after they stop playing.
There are powerful lessons in these stories. First, skill, talent, and intelligence are not enough to manage finances. Incredibly successful athletes are able to do things that are unimaginable for the rest of us (I, for one, am so inept in basketball that I once fell on my face while trying to dunk a ball; I was alone on the court, so I could not even blame a teammate!) but they cannot necessarily be expected to be as skillful at managing money. While many people believe managing money is not rocket science (I am afraid it is), we need more than general skills to deal with high earnings, especially when those earnings last for only a few years. Second, while we recognize the importance of training to success in the game (and in any job, really), we tend to give less thought to how be successful in other parts of our life, such as managing our finances, which is equally important given that at a certain point we will stop working at our successful (or unsuccessful) jobs and need to support ourselves. 
There is a little bit of Ray Williams in all of us. How many of us have planned for the future so as to be able to support ourselves after we stop working? This is something that most people don’t start to think about until they reach middle-age. Fortunately, regular jobs last for a long time and we can earn income over a long career. But for professional athletes whose careers are very short, a lot more preparation is needed for “life after the game.” Three suggestions come to mind. Let’s make sure that athletes graduate from college so they have a degree they can rely on after they stop playing (Ray Williams did not graduate from Minnesota, where he studied after a year at San Jacinto Junior College in Texas). Let’s add money management to their courses before they go pro. We all need those courses, but the athletes even more! Finally, let’s create programs for professional athletes so that when they stop playing they can use their fame, skills, discipline, outstanding shooting touch, and superb body control to dazzle in their new jobs. 
All of us who cannot dunk without being hurt would enjoy seeing our heroes do well both on andoff the basketball court.