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“Even if you get the wood for free, it doesn’t mean you can build a house” – Part 1

Over the last few years there has been an explosion in the media and a push by the regulators of the financial services industry in both Canada and internationally to change the way in which compensation is paid.

In Canada, this has been put forward through a proposal by the regulators (Canadian Securities Administrators) to ban embedded commission or “trailer fees” that are paid to dealers and reps on financial products, specifically mutual funds and implement a direct pay structure. The consultation paper says. “Investors should be provided with a compensation model that empowers them and that better aligns the interests of investment fund managers, dealers and representatives with those of investors.” This could include models that utilize upfront commissions, flat fees, hourly fees, or asset-based fees — as long as the model is agreed between the investor and the dealer and involves the investor alone paying the dealer. If adopted, a proposed ban would apply to funds and structured products in both the regulated and the exempt market.

The CSA’s consultation paper indicates that a ban on embedded fees could also lead to increased price competition; lower fund management costs; a shift to lower-cost products, including passively-managed products; and, further innovation, among other effects, in addition to addressing concerns about conflicts.  A fiduciary duty or “best interests duty” is also being contemplated by the regulators as well.

And this is where the confusion begins and where the media has provided a breeding ground for the masses. In my opinion, it has begun to confuse “Investment Management” with Financial Planning. This focus has also targeted the active vs passive investment debate and also shifted attention to conflicts of interest. The active vs passive debate has raged on for years with no definitive decisive outcome and equating “investment management” with Financial Planning is not an apples to apples comparison as Investment Management is only one of six fundamental components of Financial Planning as defined by the Certified Financial Planners. The six fundamental components being – Financial Management, Tax Planning, Asset Management, Risk Management, Retirement Planning and Estate Planning. The following excerpt is taken directly from the Canadian Institute of Financial Planners documentation of “The Six Step Process to Financial Planning” which can be found here http://www.cifps.ca/CifpsAdmin/Media/PDF/TheSixStepProcessToFinancialPlanning.pdf

With financial planning, none of the above components are ever dealt with entirely in isolation – it is the integration and interdependencies among these components, as well as the need to analyze and synthesize information presented to formulate strategies, which distinguish financial planning from other forms of financial advice or financial intermediation.
Specific product recommendations or sales are not, in and of themselves, financial planning activities. While the process leading up to a specific product recommendation may well involve some financial planning activity, the actual product recommendation clearly falls outside the scope of financial planning.

I personally fully agree that complete transparency and disclosure of compensation is required and avoiding conflicts of interest.  Clients should know what they pay for the agreed services they receive.  Furthermore, as true professionals there is a duty to act in the best interest of the client (which is a major tenent of the majority of professional designations).  Where I disagree is with the point of overwhelming the public with the above topics that are a challenge for the financially educated, let alone the significant portion of the population that struggles with financial literacy.

This leads me back to the title of this article which is “Even if you get the wood for free, it doesn’t mean you can build a house”.

Stay tuned for Part 2.

 

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