The pros and cons of state fiduciary rules

What are brokers and advisers to make of all this? We may be a long way from knowing, but there's a lot to watch while we wait.

Just as one state this month announced its intention to pursue a fiduciary rule, another postponed its efforts amid industry pushback.

It’s been a series of starts and stops in states since threats to the Labor Department’s fiduciary rule for retirement accounts grew in 2017. Although broker-dealer common-law standards of care have differed among states for decades, specific fiduciary laws and regulations have been initiated by several states in the last few years and remain in varying degrees of progress.

Nevada passed a bill in 2017 revising its standing fiduciary law that applied to “financial planners” to include brokers and investment advisers. The Nevada Securities Division released its proposed regulations to implement the law this January, after which it took comments. The industry now awaits the final rule.

Other states — such as Maryland, New Jersey and New York — have waded in at differing depths. New Jersey, previously on the fast track, has now extended its comment period (to July 18) and scheduled a hearing (for July 17). The Maryland bill was rejected in committee in April. As to New Jersey, InvestmentNews senior reporter Mark Schoeff Jr. reported last week on an effort by industry groups to scuttle that state’s fiduciary requirement, which resulted in about 70 letters opposing the measure. That campaign seems to have had its intended impact — at least for now.

But in comes Massachusetts on June 14 with its own notice of intention to propose a fiduciary rule. Now that the Securities and Exchange Commission’s advice reform package has passed, and doesn’t meet Secretary of the Commonwealth William Galvin’s criteria for toughness, the state is ready to act.

So what are brokers and advisers to make of all this?

Certainly, brokers and firms that do business in multiple states will find what the industry calls a “patchwork of rules” challenging to meet. But as presidential administrations change, and with them rules finalized by previous agencies, confidence in even one set of federal rules becoming long-standing could be misplaced.

And, whether broker-dealers or investment advisory firms like it or not, states have the right to propose such rules. As the SEC explains on its website, states’ “blue sky” laws: “cover many of the same activities the SEC regulates, such as the sale of securities and those who sell them.” The Uniform Securities Act, a model statue from the 1950s meant to guide state efforts, includes language indicating it is unlawful for those giving advice “to engage in dishonest or unethical practices as the Administrator may define by rule.” Emphasis here has been added to highlight the fact that determination of what is dishonest or unethical may lie with a state’s chief regulator, if the state passes such a law.

But getting past the burden on firms, could investors of a particular state benefit from its higher advice standard? Some states fear that the information asymmetry inherent in financial advice relationships combined with some pay incentives that encourage actions removed from considerations of a client’s best interest render state fiduciary standards helpful. The industry counters that investors are harmed by such standards that impose greater costs on firms and eventually wind up pricing less-wealthy clients out of the financial advice market. This was the same argument made against the DOL fiduciary rule.

But would that happen?

It’s hard to say in advance, and these state efforts may actually prove a useful testing ground. A study conducted by academics Michael Finke and Thomas P. Langdon in the Journal of Financial Planning in 2012 took advantage of variations in state common-law fiduciary advice standards to gauge whether stricter standards within states resulted in fewer registered representatives doing business in those states, and whether reps there felt constrained in their ability to offer services to lower-wealth clients. In both cases, the researchers found no statistical differences among states, no matter the advice standard.

Would it be different for statutory law or regulatory law? Maybe. We’d certainly find out if a state actually makes it through the entire process of getting a fiduciary rule on the books and after firms had time to adapt to its requirements. Then we would discover the true, lasting impact of a heightened investment advice duty on firms and investors.

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