Tuesday, November 24, 2009

Financial Services Reform Must Remove Conflict Of Interest

EDITORIAL TUESDAY 24.11.09.
Amidst all of the attention on the proposed carbon pollution reduction scheme, the report by the parliamentary committee examining the collapse of Storm Financial has been overshadowed. That’s unfortunate because there are significant issues arising from the report, and the events with which it deals, which deserve some attention. While the emissions trading scheme will have an effect on all of us and the way we live our lives, the way that the financial services industry does business also directly affects everybody who has investments. And thanks to compulsory super, that means pretty much all of us.

One of the central concerns of the report was expected to be commissions paid to financial advisers by the originators of investment products. Such commissions could be reasonably presumed to have some influence over which financial products an advisor might recommend, rather than simply considering the best interests of the investor. The simple solution would be to abolish the commissions altogether and replace them with a fee for service model, where the customer might perhaps pay an hourly rate for advice, rather like a lawyer or an accountant. The committee however did not make that recommendation.

Instead, while calling for an examination of possible alternative methods of payment, the committee recommended the creation of a fiduciary duty for financial advisors, which would legally require them to place the interests of their clients first. It also recommended that a professional standards board and a compensation scheme should both be established to help protect the best interests of investors. But as long as financial advisors are being paid by the companies which provide the investment products there will continue to exist the potential for a conflict of interest.

The fact is that many people who are employed as so called financial advisors are really just salesmen for the products that they recommend. They are primarily answerable to the companies that pay them, as any other employee would be. Even if they believe that a product is not necessarily the best choice for their client, they remain under pressure to recommend it anyway. Many finance professionals in such a position would welcome the clarity provided by a legal obligation to put the customer’s financial best interests first.

There are also broader questions about the impact of trailing commissions and management fees on the long term value of investments. That is something which directly impacts all of us through our superannuation, and over the lifetime of our investment can make a dramatic difference to the final result. That question is subject to another review currently under way, but until there is fundamental change in the way investment services are sold, the best interests of the customer will continue to come second.

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