Could a best-interest regulation boost firms' profit?

A push to protect consumers’ interests is proving beneficial for certain finance firms

Could a best-interest regulation boost firms' profit?
The proposed best-interest standard in Canada continues to stoke heated debate among advisors, industry groups, and investor advocates, all of whom have different forecasts on its consequences. But to get a glimpse of what’s ahead, they might want to look south.

In the US, a fiduciary rule promoted by the Department of Labor (DOL) is proving to be a gift to financial firms, according to the Wall Street Journal.

To comply with the rule, which requires that brokers act in the best interests of retirement savers, firms have started pushing customers toward fee-based accounts — a move which has proven lucrative for the industry, especially since the model offers more predictable revenue. 

Fee-based accounts can be twice as costly for clients compared to commission-based ones, according to Stifel Financial CEO Ronald Kruszewski. But such accounts can also come with more services, and they theoretically align brokers’ and clients’ interests better.

“Whether it’s in clients’ best interest is unclear,” Nomura Instinet analyst Steven Chubak told the Journal, although he acknowledged that “the amount charged on a fee-based account versus a [commission-based] brokerage account is higher.”

Based on data and what industry executives are saying, some customers are moving to lower-cost firms. Others are negotiating discounts on their fees.

According to the Obama administration, under which the fiduciary rule was crafted, conflicted advice was costing individuals US$17 billion yearly and 1% in annual returns — numbers questioned by the rule’s critics.

The rule hasn’t been fully enacted yet, as the current Trump administration is considering changes, including ones that would lower compliance costs for firms. The DOL has also proposed that the compliance deadline for the rule be pushed back 18 months.

Major firms that have already taken steps to comply are seeing increases. Bank of America’s global wealth unit, which includes Merrill Lynch, reported a 19% year-on-year increase in fee-based assets in the second quarter; they now amount to US$991 billion, or 38% of client assets. At Morgan Stanley, fee-based assets rose 17% year on year to reach US$962 billion, or 43% of the money in the wealth unit.

But according to observers, market performance has also contributed to increases in assets, regardless of account type. Discount brokers that offer consumers the chance to manage their own investments and pay per transaction also stand to gain business, as can lower-cost index funds, as a result of the rule.

And the fiduciary rule may cause pain in the long run. JMP Securities analyst Devin Ryan told the Journal that compliance costs, increased potential liability, and competitive pressures against mutual funds could eventually erode the profitability of fee-based accounts.

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