Forbes: “Why Wall Street, Insurers Don’t Want Fiduciary Duty”

client centricDefinition: “A fiduciary duty is a legal duty to act solely in another party’s interest.” It may not seem like much, but it’s really a big deal in our business. Registered Investment Advisers, like DWM, have a legal responsibility to put their clients’ best interests first. Wall Street banks and insurance companies don’t. In fact, they “hate the idea” according to John Wasik, in the most recent (8/23/13) Forbes. Mr. Wasik continues: “It would alter their business models and change their bottom lines forever.”

Fiduciaries are not only legally bound to put clients first, they are also required to disclose all investment costs and potential conflicts of interest. Brokers and insurance companies aren’t. To protect investors, the Securities and Exchange Commission and the Department of Labor have been working to mandate fiduciary rules for all financial advisors, including banks, brokers and insurance companies.

Brokers have been putting up a massive effort to avoid the mandate for fiduciary rules. Mr. Wasik feels you have to “look at the profit motive behind the broker-adviser model to understand why Wall Street and insurers are fighting like wolverines to kill fiduciary rules.” It’s all about compensation.

Mr. Wasik quoted Kathleen McBride, a founder of the Committee for the Fiduciary Standard who stated, “Currently, brokerage firms and insurers look at investors as cash cows. They look at using the investors to serve the firm. They are firm-centric, not client-centric. There is a fear at brokerage firms and insurance companies that if they have to put investors’ interests ahead of their own they won’t be able to sell the high commission, high fee securities they routinely do now- that are in the firm’s interests but not the clients.”

Ms. McBride continued, “As fiduciaries, brokerage firms would have to reveal all the costs the investor is paying- what the firm receives and what the broker receives- commissions, fees, revenue sharing, 12b-1 fees, and other trail commissions and more. Clients are not seeing that from brokerage firms now. That kind of transparency brings costs down.”

Finally, Ms. McBride outlined the intense anti-fiduciary lobbying campaign: “There is so much money at stake that banks, insurance companies and brokerage firms are spending hundreds of millions of dollars to derail the fiduciary mandate. The broker-dealer wirehouses, insurers, and lobby groups are pounding regulators and Congress. Congress has responded with a bill and letters to the SEC and DOL calling for a delay or dismissal of the efforts to put investors first.”

Mr. Wasik concludes his article in the following way: “Fiduciary duty may not be the ideal way to cut down on the worst abuses in financial services that produce churning brokers and Bernie Madoffs, but it’s a better approach to align advisers with the best interests of investors than all of the other commission-based business models. It’s clearly a quantum leap forward for investor protection.”

We salute Mr. Wasik and ForbesForbes calls itself “The Capitalist Tool.” We’re pleased that they have taken a tough stand to speak out against Wall Street bankers, brokers, and insurers in favor of investor protection and the fiduciary duty. Yes, capitalism can have a “soul.”

At DWM, we, of course, support the client-centric business model and embrace the responsibility of fiduciary duty. We may not make as much money as the brokers, but it’s really not about our money, it’s about yours.

“Quiet Time”- Throughout the Year

Quiet timeSummertime is a great time to rejuvenate one’s batteries.  Maybe even a chance to get away from email for a while. It may be that “quiet time” is needed year round. Quiet time spawns creativity. And creativity can generate innovation, which is in short supply in the world.

A study by McKinsey Global Institute found that emails are a major problem these days. Many workers spend more than a quarter of each working day writing and responding to them. 80% keep working after leaving the office, 69% can’t go to bed without checking their inbox and 38% routinely check their work emails at the dinner table. “Please pass me the salad and my iPhone.”

We all thought the internet would produce a huge productivity miracle. It hasn’t happened- at least not yet. Last year, Professor Robert Gordon of NorthwesternUniversity, in a controversial essay, outlined why he believes that the impact of computers and the internet is much smaller than industrial revolutions from 1750 until 1900, which gave us steam engines, indoor plumbing, electricity, highways, efficient factories, automobiles and air conditioning. Dr. Gordon even suggests that the tremendous economic progress of the last 250 years may have been a “blip” in human history.

The internet has changed industries forever such as retailing, music and publishing. Consumers have benefited from lower prices. It has made it easier for workers to unchain themselves from their office desk. Yet, according to a report by Smithers & Co, the GDP per hour in the U.S. has grown at a rate of only 0.3% per year since 2010, compared to a 1.5% annual rate for the 20 years before then. Productivity tends to fall in recessions, but this has been a recovery.

Professor Robert Shiller (co-founder of the Case-Shiller Home Price Indices) authored an excellent article Sunday in the NYT entitled “Why Innovation is Still Capitalism’s Star.” Dr. Shiller said it well, “Capitalism is culture. To sustain it, laws and institutions are important, but the more fundamental role is played by the basic human spirit of independence and initiative; the importance of an entrepreneurial culture.” Dr. Shiller quoted Professor Edmund Phelps, a Nobel laureate, who suggests that in free-market capitalism, “from 10,000 business ideas, 1,000 firms are founded, 100 receive venture capital, 20 go on to raise capital in a initial public offering, and two become market leaders.”

Certainly, there are lots of business gurus who suggest we all can get more work done. We can “Lean In” with Sheryl Sandberg. We can conduct “Business at the Speed of Now” with John Bernard. And, you can “Book Yourself Solid” with Michael Port. Alternatively, we might take Ronald Reagan’s approach to work. As we know, President Reagan believed in not overdoing things: “It’s true hard work never killed anybody,” he said, “but I figure, why take the chance?” Queen Victoria’s prime minister, Lord Melbourne, extolled the virtues of “masterful inactivity.” And Jack Welch, while CEO at GE, spent an hour each day in what he called “looking out the window time.”

The world needs more innovations. Innovations come from creative people. Creative people need big chunks of uninterrupted time to think. Schumpeter in The Economist suggested that “leaning in” may not be the right strategy, but perhaps should be replaced with “leaning back”. Perhaps we all need to not only savor our “quiet time” during summer, but also fight tenaciously to maintain it throughout the year.

TOTAL RETURN: Don’t Focus Solely on Price Change

Dollar up downHumans, especially those of us “number people”, are wired to focus on price change. And when it comes to investments, price change is certainly a gauge of how an investment is doing. But is it the only factor? Absolutely not.

Price change is just one-half of the components that dictates total return. Here’s the formula you need to know when it comes to performance:

TOTAL RETURNPRICE CHANGE + YIELD

What this means is that Total Return equals not only the return on investment due to price appreciation/ depreciation but also due to reinvested dividends or income. Frankly, price change alone can be a really poor gauge of how an investment is doing particularly one with regular distributions such as bonds. So, let’s talk about bonds.

We’ve discussed the inverse relationship between rising interest rates and bond prices before. Assuming the economy continues to heal and rates continue to rise, bond prices will go down on paper. In that case:

?

=

+

?

TOTAL RETURN

=

PRICE CHANGE

+

YIELD

We still don’t know what that does to total return. But let’s say we have a bond yielding 6% then we know:

?

=

-?

+

+6

TOTAL RETURN

=

PRICE CHANGE

+

YIELD

If the yield is bigger than the price change, then total return is still positive. As I mentioned in my last quarterly market commentary, a bond typically will lose 1% in price for every year of duration that it has left for every percentage point rise in interest rates. Hence, let’s assume a one-year time frame and if interest rates go up 1% for a fund that has 4 years of duration (meaning time to maturity) with a 6% coupon, then we know:

+1

=

-5

+

+6

TOTAL RETURN

=

PRICE CHANGE

+

YIELD

Even though the price went down 5%, the total return on the investment was actually up because of the positive-ness of the investment’s yield.

So don’t get caught up in just one part of the formula, folks. Total return is what matters.

BTW, this doesn’t only apply to just bonds. Yield (in the form of dividends) make a difference to equities as well.

Did you know that the S&P 500 has gained +9.8% per year over the last 50 years (1963-2012) on a total return basis? If you remove the impact of reinvested dividends, the raw index is only up +6.4% annually, HENCE dividends make up 35% of the index’s total return in the last half century. Wow!

(source: BTN Research)