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Letter from the US: Further uncertainty

The US retirement industry faces uncertain times after the Department of Labor decided in March to delay by 60 days the implementation of the so-called fiduciary rule. This was supposed to become effective on 10 April. But many companies have already executed the new rule and will not go back, because they are under pressure from low-cost exchange-traded funds (ETFs) and index funds.

The delay comes after President Donald Trump ordered a review of the rule’s economic impact on business and investors. According to estimates by AT Kearney, a management consulting firm, the rule would have resulted in as much as $20bn (€18.9bn) in lost revenue, about 7% of total revenue in 2015. On the other hand, the Obama administration – which introduced the rule – said conflicting financial advice costs American families $17bn a year and reduces annual returns on retirement savings by a percentage point.

Under the fiduciary rule, advisers overseeing tax-advantaged retirement savings – such as IRAs (individual retirement accounts) – would be required to work in their clients’ best interest and avoid the conflicts that can arise with commission-based compensation. So far, those advisers have only been required to recommend products that are “suitable”, even if they cost more and therefore more profitable for them.

“Trump is fighting yesterday’s rule,” says Paul Smith, chief executive of the investment professional group, CFA Institute. “A significant part of the industry has already put in place policies that comply with the fiduciary rule. A lot of companies knew that the commission-based business model was outdated, that upfront commissions and hidden costs would go away

no matter what, and that they had to improve the way clients are treated. So, they used the fiduciary rule to clean house, upgrading their services. They have invested a lot of money to implement the new business model and will not go back.” 

One big brokerage firm that has already adapted its business model is BofA Merrill Lynch. It no longer offers IRAs that charge commissions, instead favouring charging savers a fee based on a percentage of their assets. Last February, it launched a robo-advisory service – Merrill Edge Guided Investing – for clients with balances below its $250,000 brokerage threshold. This charges an annual fee of 45bps on assets, well below the 1% it charges for brokerage.

Another ongoing industry trend regardless of the fiduciary rule concerns these robo-advisers. 

Todd Rosenbluth, director of ETF and mutual fund research at CFRA says: “As the industry moves to a fee-based approach, some clients with small accounts risk having to pay more in fees than they have paid in commissions. For them, tech-based platforms are appealing. The robo-advisers are already fee-based, but they have much lower costs, because they provide a less customised asset allocation.”

Nothing changes at Vanguard, which offers Personal Advisor Services that cost 30bps of assets annually. “Our advisors are salaried, not commissioned based, and accept fiduciary responsibility to put the client’s interests first,” stresses Emily Farrell, a spokesperson for Vanguard.

Andrew Oringer, a partner at Dechert, a specialist law firm, says the delay of the fiduciary rule can give Congress or the Securities and Exchange Commission (SEC) an opportunity to produce “a more principles-based and less complicated alternative, a standard that would apply to all accounts, not just retirement accounts. The current rule puts people in specific ‘boxes’. A different approach would let the market decide what’s best for investors.”

The current situation is indeed tricky, says Barbara Roper, director of investor protection at the Consumer Federation of America. “The SEC has allowed brokers to market themselves as advisers while regulating them as salespeople, who must make suitable recommendations but remain free to recommend, among the many investments that might be suitable, the investment that is most profitable for them.”

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