A little known Department of Labor regulation has the potential to expand the reach of investment advice, improve its quality and untap a substantial flow of retirement money in motion.
So says Lou Harvey, head of the financial services market research firm Dalbar, with respect to ERISA 408(g), an exemption that permits advisors to use a certified computer model for advice delivery and be absolved of any fiduciary liability.
Under current law, an advisor serving the retirement plan market must disclose whether he is a fiduciary. Non-fiduciaries—which are the norm in the wirehouse broker-dealer world—are in a quandary, Harvey (left) told AdvisorOne. "If they go to their plan sponsors and say 'We don't give you advice and I'm not a fiduciary, the obvious question is 'Why are you here?'"
If the advisor does offer advice and is not a fiduciary, there is no advantage to the plan sponsor; only the advisor's ego is served here. Dalbar's CEO joked: Would you like advice from Merrill Lynch or would you prefer Charlie to offer his investment ideas?
But if the advisor can say, "I do offer advice, and the advice I provide comes from this super-duper, wonderful computer model," a broker-dealer rep can suddenly compete with other players in the retirement marketplace, Harvey says.
The ERISA regulation went into effect on Dec. 27, but broker-dealers, who Harvey says are the biggest beneficiaries, have not examined it carefully. To date, Harvey knows of just two firms that are taking advantage of the exemption, only one of which, Rehmann Financial, has said so publicly.
Many of the large broker-dealers have looked at 408(g) and shrugged that the computer model it needs would require certification and an annual audit. But "virtually every firm out there uses some form of computer model," says Harvey. "We're not talking about something they have to go out and make a major investment in. The question is how do you convert it so that it will conform to the new requirement?
"It is not years of software development," he adds. "You take input from an IRA participant and come out with some form of investment strategy. You have to make disclosures and have a contract—pretty minor. The certification process is simple and straightforward. The audit is a little more burdensome but nothing to be particularly worried about," he says.
The key point, Harvey says, is that with a relatively modest investment, broker-dealers can make their fiduciary problem go away, reduce legal headaches and compete for a sizeable business.
"They can maintain their compensation structures and at the same time control what it is their advisors are doing in the field," he says, noting broker-dealers spend vast sums on arbitration costs because clients sue a firm based on what their advisor told them to do. "With the computer model that goes away," Harvey says.
Broker-dealers have long resisted regulatory efforts to impose a fiduciary standard on their financial advisor reps. ERISA 408(g) allows broker-dealers to attain fiduciary certification while enabling broker-dealer reps to engage in sales and service activities. "Our computer model is a fiduciary," Harvey says the firms can say. "But our guys are not there to provide investment advice; they deliver the investment advice that comes out of the [computer program]."
Such a program would be designed by finance experts in strict accord with generally accepted investment theory, Harvey says. That means that clients don't end up with portfolios built on oil and gas MLPs or commercial REITs that blow up. "I don't know any generally accepted investment theories that support REITs as your only investments. [The computer program] adds discipline from a consumer perspective," he says.
