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So these changes in the brokerage business represent
a win-win for brokers and consumers alike, in the rose-colored analysis
of those in the securities industry. It's an especially big win
for brokerage firms, which have attracted nearly $269 billion of
assets into fee-based accounts, double the amount five years ago,
according to Boston research firm Cerulli Associates.
That's not to say that the SEC
is unconcerned about the trouble consumers have in distinguishing
between investment advisers and brokers. To that end, the SEC will
require brokerage firms to disclose in plain English that they offer
brokerage accounts -- not advisory accounts -- and also the fact
that brokers' interests may not be the same as those of clients.
Will consumers recognize these red-flag statements
and run? Probably not.
In sheep's clothing
My educated, intelligent friend Pam learned the hard way about how
divergent such interests can be. She opened an account with a broker
in the mid-1990s, during one of those downdrafts in the midst of
a roaring bull market. She's a trusting soul, so she went along
with her broker's recommendations. Within three months he decimated
her account, shorting stocks that went up, going long on stocks
that crashed, until it became a mere shadow of its former self.
He was slick, came up with reasons for the failures, kept offering
solutions to get the money back. She closed the account after losing
90 percent of her assets.
Another friend, Tom, once worked for a small full-service
brokerage firm in New Jersey. He now works for a discount broker
that hires certified financial planners and does business with investment
advisers, and says the difference in the way clients are treated
is stark.
He explains that when you see a broker, you normally
fill out an application, outlining general parameters, such as your
income, risk tolerance and investment goals. Armed with this information,
a broker still has a wide range of flexibility with what he or she
can sell you.
"They can't do something egregious. If an investor
is conservative, they probably wouldn't push penny stocks on him.
Most wouldn't do that. But there's a lot of gray area in the middle
where a disservice could be done to a customer."
Pressure to sell vs. option
to sue
For example, brokers may be pressured to sell particular products,
and whether these products are appropriate for their clients is
open to interpretation.
"You get better incentives, better commissions
on some mutual funds than on others, and that could cloud someone's
recommendations a little bit."
Meanwhile, Tom says, investment advisers must be upfront
about what they do. "There's a lot more two-way communication
before any advice is given at all. Their guidelines are lot more
strict. Brokers are held to less account. It's not necessarily their
fault, just a result of their pay structure. They get focused on
selling product and not seeing the bigger picture."
So the main difference is that brokers are under pressure
to sell (the top producers are in big demand), while advisers are
obligated by law to serve your best interests. Of course, that's
not to say that all brokers are ruthless, or that all investment
advisers are ethical. Any financial professional can break the rules
and do a disservice to the consumer.
But if you get into a dispute with an adviser, you
can sue. With a broker, you have no choice but to settle the matter
in an arbitration hearing. Investors waive their rights to sue thanks
to standard clauses in their brokerage account contracts.
Brokerages in the news
In recent months we've seen the SEC and the NASD take action against
brokerage firms for a wide range of misconduct. Some of it had to
do with cozy revenue-sharing agreements between mutual fund companies
and brokers who push their funds. Some of it had to do with brokers
selling inappropriate (meaning more expensive) share classes of
funds to investors.
Citigroup, American Express, Edward D. Jones &
Co., and J.P. Morgan Chase were among firms paying fines to settle
such charges. Of course, as is standard practice, none of these
companies admitted or denied wrongdoing.
SEC chairman William Donaldson has publicly
stated that the agency continually strives to inform investors about
broker conflicts and compensation. I hope that message will seep
through to consumers.
Longtime financial journalist Barbara
Mlotek Whelehan earned a certificate of specialization in financial
planning.
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