Several years ago, after I had just finished giving my talk to 401(k) fiduciaries at a national conference in Washington, D.C., a man came up to me.
“Great presentation, Chris,” he said in lieu of introducing himself.
My speech was on the dangers to fiduciaries who offer only index fund options to 401(k) participants. This fellow took to heart what I had said. He had been limiting his recommendations too – he was a broker, it turns out – and creating plans with only index funds and, after hearing the points I made, he wanted to protect his fiduciary hind side.
But what he told me next showed he had far greater fiduciary liability concerns.
As our conversation developed, he gained greater confidence and trust, until he finally blurted out his main concern was justifying the higher fees with actively traded funds. I explained he could just be sure to go with no-load funds. He shook his head and said, “No, I’m talking about the expense ratios.”
I reiterated my point, “expense ratios are already incorporated in fund performance so you’d be double counting them if you include them as fees.” Then I asked him how much he charged. That’s when he shocked me.
“I get a one percent commission,” he said with a wry, and maybe even a proud, smile.
Immediately my mind raced. I was only charging an asset-based fee of 30 basis points and that was for placing mostly active and some passive funds into 401(k) plans. Had this broker been in my territory, I would eat his lunch on fees and provide a better service (merely by offering a greater diversity of funds).
Flash forward to a couple of weeks ago. A bipartisan Congress, echoing the complaints of those against requiring all advisors to operate under the same fiduciary standard, claimed the DOL should do a cost analysis on the impact of their proposed new definition of fiduciary.
Immediately my mind raced. There’s no need for more study. We can test this hypothesis right now. In fact, we did just that in a recent Fiduciary News article (“Which Fiduciary ‘Cost’ Matters Most: The Broker’s or the Retirement Investor’s?” Fiduciary News, August 9, 2011). This piece explains the business cost to brokers transitioning to a true fiduciary advisor will naturally increase – at least during the transitionary phase. If, once this transitionary phase is complete, the ongoing costs of providing fiduciary services remain higher than the current ongoing costs of merely acting as a broker, then we should see this right now.
How? Because we currently have businesses providing fiduciary services – they’re call Registered Investment Advisors. If the broker business model has lower costs than the RIA business model, then brokers should be able to underprice RIAs right now.
In fact, as the above anecdote implies and as the Fiduciary News article shows, actual market experience indicates the opposite is true. It appears in many if not most cases, RIAs are able to beat brokers on price alone (i.e., before we even consider the increased level of service that comes with acting as a fiduciary).
But, wait! There’s more. It also turns out, and academic studies have now shown this, broker-sold mutual funds exhibit significantly poorer investment performance compared to no-load mutual funds.
So, we can conclude, should the DOL move forward with its broader definition of fiduciary, broker firms may have their business costs increased in the short term, but it’s more likely retirement investors will see both lower fees and better investment performance immediately and through the long-term. One might ask who the DOL is charged with protecting, the broker or the retirement investor?
Of course, if you’re a retirement investor, you might ask the DOL “What took you so long?”