In what should have been a historic day for Canadian investors, the Canadian Securities Administrators (CSA) instead disappointed with watered down reforms that skirt around the edges of true investor reform.
What investor advocates wanted was a ban on embedded commissions charged from mutual fund sales, and for the industry to adopt a best interest standard of care for its clients.
What we got instead was a ban on the already declining deferred sales charge option on mutual funds, a ban on trailer fees charged by discount brokerages (which shouldn’t have been allowed in the first place), and a ‘beefed-up’ suitability standard and disclosure on conflicts of interest that will surely be ignored. Pathetic.
The long awaited decision came after, and I’m not making this up, five-and-a-half years of consultation on mutual fund fees. The CSA knew then there was a problem when it stated:
“We identified how embedded commissions give rise to conflicts of interest that misalign the interests of investment fund managers, dealers and representatives with those of the investors they serve.”
The regulator then gathered compelling evidence that this type of compensation model for financial advisors leads to inherent conflicts of interest which leads to poorer outcomes for investors.
So what happened? Why did the CSA deliver such weak investor reform when the evidence clearly supported a ban on embedded commissions, as was done in Australia and the U.K.?
Score one for the industry: No ban on embedded commissions
Enter the powerful investment industry and its lobbyists, which have $1.49 Trillion reasons to maintain the status quo. The industry argued that unintended consequences would arise from the banning of commissions, namely that it would create an “advice gap” for smaller investors who could not afford to pay directly and upfront for financial advice.
It’s a bogus argument, and one that was proven wrong after the U.K. conducted a post-implementation review that found “the ban had reduced product bias from advisor recommendations and led to better investor outcomes.”
Industry lobbyists said advisors would leave the industry because their business model could not be supported without ongoing commissions from trailer fees. To that I say, “good riddance.”
The proliferation of online investing platforms (robo-advisors) and improved DIY options for investors have already started to fill any perceived gap. And are we really to believe that small investors are getting actual financial planning advice from their advisor? No, an annual phone call to make their RRSP contribution doesn’t cut it.
Finally, the industry wants to raise the professional standards for its advisors to their highest possible level through ongoing proficiency standards, continuing education requirements, and adhering to a code of professional conduct.
That’s commendable, but if the industry wants to be put on the same playing field as other professionals such as lawyers and accountants, then surely it wouldn’t object to a similar compensation model that would have advisors charge clients directly for advice. Right?
A letdown for Canadian investors
The CSA’s decision today is a huge letdown for Canadian investors. Advocates expected real reform, and instead the regulators caved-in to industry pressure and delivered half-measures at best.
Here’s what we get:
- Enhanced conflict of interest rules for dealers and representatives requiring that all existing and reasonably foreseeable conflicts of interest, including conflicts arising from the payment of embedded commissions, either be addressed in the best interests of clients or avoided. (More regulations around the Know Your Client and Know Your Product forms)
- Prohibit all forms of the deferred sales charge option and their associated upfront commissions in respect of the purchase of securities of a prospectus qualified mutual fund. (They’re banning DSCs)
- Prohibit the payment of trailing commissions to, and the solicitation and acceptance of trailing commissions by, dealers who do not make a suitability determination in connection with the distribution of prospectus qualified mutual fund securities. (They’re banning trailing commissions on mutual funds sold through discount brokers, since these brokerages cannot give advice)
Why it doesn’t go far enough?
The deferred sales charge option is already disappearing from the industry (13 percent of total fund assets last year). Even Investors Group discontinued the DSC purchase option for its mutual funds on January 1, 2017.
Trailer fees should have never been applied to mutual funds sold through discount brokerages and, while this looks like a small win for investors, a proposed class action lawsuit filed against TD in April might have squashed this practice anyway.
The conflict of interest disclosure and amendments to Know Your Client and Know Your Product sound great on the surface, but without a fiduciary duty to look out for clients’ best interests these reforms lack any teeth and will continue to be ignored in practice.
All in all, it’s a sad, disappointing day for Canadian investors and investor advocates who were hoping to finally shake-up an industry that’s become all too powerful and complacent. Maybe in another five-and-a-half years?