Book-loss calculations panned as ‘blind spot’ in complaint handling

Compensation of harmed investors should consider opportunity costs of unsuitable advice, argues advocate

Book-loss calculations panned as ‘blind spot’ in complaint handling
complaint handling, regulatory enforcement,

Financial services firms must be held to a higher standard when it comes to compensating investors who were found to have been harmed by unsuitable advice, and that should include calculations of investor losses.

That was the argument put forward by Kenmar Associates in a letter addressed to the Investment Industry Regulatory Organization of Canada (IIROC) and the Mutual Fund Dealers Association of Canada (MFDA).

“[W]e continue to advocate for a better complaint handling process by regulators and industry participants,” the letter said. “One of the core components of fair complaint handling is the loss calculation approach used to compensate harmed investors.”

Kenmar maintained that when a firm has been determined to be accountable for an investor’s losses due to negligence or unsuitable advice, the compensation recommendations under an advised relationship should put the wronged client’s interest first, in line with rules and principles set out under the client-focused reforms. In other words, the compensation should be calculated to put the investor in the position they would have been in if not for the negligent conduct or incorrect advice they received.

“This approach helps ensure that losses due to flawed advice will not impair a client’s retirement income security,” it said. To achieve this objective, Kenmar said firms should go beyond book losses in their calculations and include opportunity costs, which may increase or decrease the assessment of an investor’s financial harm.

“Just focusing on book loss implies a rudimentary system that fails to reflect the available technology, knowledge, processes, expertise, competencies and standards within the financial services industry,” the letter said. “This is a huge regulatory blind spot much more important than even abusive low-ball settlements.”

Nothing less than an opportunity-cost method of loss calculation should be expected of today’s financial services industry, Kenmar added, particularly as firms hold themselves out as providing holistic financial advice whose suitability encompasses the composition of the portfolio, the use of leveraging and other investment strategies, and account expenses and product fees.

The letter also noted that the Ombudsman for Banking Services and Investments (OBSI) uses the opportunity-cost approach in resolving suitability complaints. That makes it consistent with the approach taken by courts of law to assess financial harm in similar cases, and puts it in line with financial ombudsman services in other countries such as the UK Financial Ombudsman Service and the Australian Financial Complaints Authority.

Kenmar also spoke out against the current opaqueness in loss-calculation methodologies among firms, particularly as they are able to refuse or offer lower settlements when dealing with investor complaints.

“Right now the information asymmetry is to the complainants’ detriment because the average retail investor cannot make an informed decision whether to accept or reject the Firm’s compensation recommendation, a recommendation captured by CFR conflict-of-interest rules,” the letter said, arguing that firms should be required to publicly disclose their loss-calculation methodology.

“Given the importance of fair investor compensation to investor protection, Kenmar urge the IIROC and MFDA to adopt the ‘opportunity-cost’ approach as the universal standard for their Member Firms,” the letter said.


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