For more than two decades, I have been researching the dark side of personal financial planning. I’ve talked with people who had their first and often only interaction with a financial advisor on the day they made out their will says Aron Govil. It sounds like an opening line from a bad joke: A new widow walks into her bank’s branch office to make out her husband’s estate-planning documents and meets an eager new financial advisor… But the punch line is true as well as tragic: The new widow was given inappropriate investments that quickly lost all their value, leaving her destitute in her old age.
While there are no official records of such incidents (and my source for this anecdote prefers not to disclose his identity), the underlying story is not uncommon. It’s one of many examples where people have been taken advantage of by their financial advisors (the new widow didn’t even get a will drawn up, and her husband probably wished she had).
I am not describing behavior that can be simply attributed to bad apples in an otherwise honest industry; these are representative of significant conflicts of interest built into the structure and business model of the entire industry. And this isn’t only my opinion: In June 2017, Canada published a report on its five-year investigation into misconduct in Canadian financial services and concluded: “People cannot count on the institutions within which they invest to protect them from harm.” Of course, we all hope we can trust our advisors, but we need to do more than hope. We need to learn how to spot the warning signs of hidden conflicts of interest, so we can protect ourselves from taking advantage of.
And it starts with an understanding of these conflicts.
- Conflicting Interests Most people are aware they may not get objective advice when they go asking for financial assistance. You wouldn’t want your doctor prescribing medications or performing surgery on you. Without knowing what other treatments are available, after all. But many don’t realize that simply being a client of a particular financial institution is enough. To raise concerns about possible conflict-of-interest abuse. That’s because most U.S.-based investment advisors work for large companies. Which sell their products through multiple channels—brokers, insurance agents, private banks, and retail branches. Thus, people who buy directly from their financial advisor are actually doing business. With the company behind the person they are working with. This makes it virtually impossible for individual advisors within larger firms to advise independent of corporate incentives. And while there is much talk about the fiduciary duty of financial professionals. In this country (something that legally requires them to put their clients’ interests first). But in reality, conflicts of interest remain an integral part of almost all investment products sold today. And not just those offered by large institutions.
- Most investment companies have built-in incentives that push them to sell specific products over others—products. That typically offer more money for their industry employers. And even if a company promises its employees are require to recommend options that are best for their clients. It’s difficult to believe they can remain unbiased when there is so much at stake explains Aron Govil. The bigger the advisor and the investor—that is, the more money under management—the higher the stakes for everyone involved.
- I’ve spoken with many independent advisors who still think they provide objective advice. Because their pay is based on a percentage of assets under management. Rather than commissions from specific investments or insurance policies sold. But as important as compensation might be, it’s not as relevant as conflicts of interest. In most cases, those who receive a commission or fee do have a greater incentive. To sell a specific product over another. Simply because it means they receive more revenue from its sale. And while receiving compensation creates incentives, “perceived incentives” can have almost as much influence. Including those that come from belonging to a company. That has built its reputation on doing things a certain way says Aron Govil. Some may say they would never put their client’s interests ahead of their own. They couldn’t do it if they wanted to because the structure of the financial industry makes selling investments and insurance products. So intertwined with providing objective advice. But most people don’t realize this is a problem in our industry…
It is not difficult to understand that people who work for a company, and receive a commission or fee from selling a product. Have a greater incentive to sell that product over another—especially if it means they will generate more revenue.