A new study of advisor misconduct is drawing attention to bad behavior in the financial industry — and to itself for what industry players and analysts point to as exaggerations, skewed data and other issues.
The research, published last week by University of Minnesota's Mark Egan and University of Chicago Booth School of Business' Gregor Matvos and Amit Seru, is extensive. The National Bureau of Economic Research (NBER) report relies on 10 years of records from the Financial Industry Regulatory Authority's BrokerCheck database.
The authors claim that advisor misconduct "is broader than a few heavily publicized scandals."
"The incidence of misconduct varies systematically across firms, with the highest incidence at some of the largest financial advisory firms in the United States," they write. "We find evidence suggesting that some firms specialize in misconduct. Such firms are more tolerant of misconduct, hiring advisors with unscrupulous records. These firms also hire advisors who engage in misconduct to a lesser degree."
But not everyone thinks the study's methodology and examination of the FINRA records hold up when the research is put under the microscope, according to SIFMA and several industry analysts. (Several broker-dealers cited in the research declined to comment on it.)
"I do not think that the data really support the sensational conclusions of the study that rogue brokers are rampant on Wall Street," said executive search consultant Mark Elzweig, in an interview with ThinkAdvisor.
"The study says that 12% of advisors have been accused of bad behavior and 7.7% have settled a claim or have been fined [between 2005 and 2015]. What is needed here is some context. Are a small group of firms skewing industry results? How do these numbers compare to other professions? Have these numbers [for specific firms and across professions] increased or decreased in recent years?" Elzweig asked.
When it comes to comparing the prevalence of misconduct between different jobs (such as between advisors and lawyers), "We don't go there," Matvos said. "And as for the 7.7% [10-year misconduct] figure, investors and others reading the study can say that is high or low – it's their prerogative … The public can decide."
The research finds the per-year level of misconduct across some 1.2 million registered representatives was less than 1% in the 2005 to 2015 period. It started the decade near 0.5%, rose to nearly 1% in 2008 and 2009 and then fell to roughly 0.5%.
"While we appreciate what the authors of the study are seeking to determine, in our cursory review we believe their model overstates the level of relevant misconduct, including allegations related to declines in value due to volatility or infractions completely unrelated to the advisors' professional responsibilities," said the Securities Industry and Financial Markets Association in a statement.
A Disclosure Is a Disclosure Is a …?
Egan, Matvos and Seru report that more than 12% of active financial advisors' records from 2005 to 2015 include a disclosure, meaning "any sort of dispute, disciplinary action, or other financial matters concerning the advisor."
"Not all disclosures are indicative of fraud or wrongdoing… [and] we classify [certain] categories of disclosure, which are indicative of fraud or wrongdoing, as misconduct," the authors explained. This includes behavior (and complaints) tied to unsuitable investments, misrepresentations, unauthorized activity, omission of key facts, fraud, negligence and excessive trading, for instance.
According to the research, of the 7.7% of advisors with misconduct-related disclosures, about one-third are repeat offenders, the professors say. They also say certain firms seem to be more tolerant of misconduct. "In my experience, most firms — especially major firms — run a very tight ship as far as only hiring advisors with good compliance records," Elzweig said. "Having said that, there are firms that want the gross production and are willing to tolerate or even become havens for bad actors."
As Matvos sees it, the study clearly states what "subset of disclosures" constitutes misconduct. "We also disclose the number of disputed disclosures," he explained in an interview.
"In 2015, for instance, FINRA's disclosure rate [for advisors was] 12.6%, which is very close to our figure of 12.7%. That tells me that we did not bungle that …Our [misconduct] focus was on [only] six of 22 categories, which we think are clear," the professor said.
Lies, Damn Lies & Statistics
At the top of the list of 10 firms with a high percentage of misconduct are Oppenheimer & Co., First Allied and Wells Fargo Financial Network. UBS is on this list and also is on the list of 10 firms with a low percentage of misconduct, since the authors looked separately at wealth management and institutional/investment banking operations.
The first list says UBS Financial Services had more than 12,100 reps in the 2005 to 2015 period, while today it has about 7,100. Industry observers say the numbers for advisors with at least several other firms are incorrect.
In other words, the figures for advisors and the records of misconduct include individuals working with financial firms who have taken professional examinations but do not necessarily work with clients.
But, asks Matvos, if such figures are overstated, doesn't that then mean the percentage figures for disclosures and misconduct "are too low?"
