Where technology falls short on wealth management DOL Fiduciary Rule compliance

Senior Offering Associate, Wealth Management, IBM

As I was looking for apartments to rent in New York City, my real estate broker, whom I had just met that day, made a grave mistake: he told me he was my fiduciary. The poor guy didn’t know that because I'm close to the wealth management industry, the word fiduciary wasn’t a word I threw around lightly, especially when it came from a landlord’s commissioned agent.

Fiduciary is the wealth management word of the year. A day doesn’t go by in which the words DOL—for the US Department of Labor (DOL)—and fiduciary rule aren’t in an article I read or in a conversation I had with someone in the industry.

The fiduciary standard

In early 2016, the DOL, wishing to limit conflicts of interest between investment advisors and their clients, published a roughly 1000-plus page rule. It announced that investment advisors who provide “investment advice for a fee or other compensation, direct or indirect” on retirement assets need to hold themselves to something called a fiduciary standard.

The rule, as it’s otherwise known, is meant to thwart the exorbitant $17 billion that investors spend in fees on retirement accounts. It’s also meant to ensure that incentives for financial advisors and their clients are aligned when making recommendations for retirement savings. While some industry participants initially opposed the rule, a shift toward provisioning more holistic, goals-based financial advice—and a fee-only compensation model based on providing unbiased advice—has been the zeitgeist in the industry for some time.

We’ve seen this approach in the success of the Registered Investment Advisors (RIAs) and robo-advisor models in the gradual shift out of high-fee, actively managed mutual funds and into products such as low-fee index exchange traded funds (ETFs). A lot can be said about the pros and cons of the fiduciary rule and who really is coming out on top in the end—the short answer: clients, large wire houses who can afford to comply with the rule and robo-advisors.

The wealth management and technology response

One aspect is definitely clear: firms are, and will have to be, spending a lot of money to comply with the rule. Where does this spending all go? It goes to everything including rewriting marketing materials, retraining the workforce, recalibrating incentive and payout structures and the list goes on. However, firms are having trouble finding technology that helps them comply with this groundbreaking rule for how people will get retirement advice.

As much as people like to say that the technology industry is quick and nimble, unfortunately it has not mobilized quickly enough to provide small-, medium- and large-sized firms the capabilities necessary to be fully compliant with DOL. Understandably, a lot of technology providers rushed to meet the need for DOL-compliant or DOL-specific technology. The majority of these solutions deliver very basic functionality, such as archiving and auditing of advisor-client activities, e-signature and tracking of Best Interests Contract Exemption (BICE) agreements, as well as more thorough client or prospect data capture. These technology solutions definitely assist firms; however, they make two key assumptions: 

  • Making someone a fiduciary means that person won’t harm clients.
  • Complying with DOL means having everything in place after someone commits a wrongdoing.

How technology falls short for rule compliance

More important than the features stated previously is the ability for firms to spot in real time when financial advisors are committing wrongdoing—beyond just the fiduciary rule. A week doesn't go by in which an article isn’t published that highlights a financial advisor who has committed elder fraud, churning or securities fraud.

In their recent paper, “The Market for Financial Advisor Misconduct” (March 2016), Mark Egan, University of Minnesota School of Management, and Gregor Matvos and Amit Seru, University of Chicago Booth School of Business, found that 7 percent of financial advisors were disciplined for misconduct. They also report that 44 percent of advisors who leave a firm because of their misconduct are actually hired by other firms within a year. In addition, they found that, “prior offenders are five times as likely to engage in new misconduct as the average financial advisor.”

In an industry that now has even more stringent guidelines, better technology is needed to monitor financial advisors and their activities with clients. Though I assume the majority of financial advisors are looking out for their clients’ best interests, some still give the industry a bad reputation and can end up seriously harming their clients’ lives.

The immediate need for wealth management surveillance technology 

In our latest podcast, I asked three guests about the need for financial advisor surveillance in the wealth management industry: 

  • Abhishek Goswami, offering manager for surveillance solutions at IBM
  • Dr. Ron Rhoades, director, Financial Planning Program, Gordon Ford College of Business, Western Kentucky University
  • Robert Stanich, offering manager for wealth management at IBM 

“Surveillance plays a huge role in this,” Rhoades says. “We’re dealing with other people’s money…any profession is going to have some bad apples, and you’re going to have people who don’t understand their obligations.

“This is especially going to be very true over the next several years,” Rhoades says. “It is very difficult for someone who has been doing basically a product-sales-based practice to transform themselves into a fiduciary advisor and to change their mind-set completely.”

One very interesting point Rhoades also added was the need now more than ever for surveillance because of the revenue pressure that will be felt by financial advisors. “One of the consequences of the DOL fiduciary rule is that a lot of advisors are going to be making a lot less money than they were before…,” Rhoades says. “Whenever that happens, you have financial pressure put on individuals. That typically is one of the three sides of the fraud triangle…because of that, firms are going to need to have greater surveillance in place.”

With the need for financial advisor surveillance greater than ever, it leads me to believe that technology providers have failed to offer wealth management firms the real advanced capabilities they need to ensure their employees are acting in the best interests of their clients. Goswami, who leads IBM’s Surveillance Insight for Financial Services solution, correctly summed up the state of surveillance in the wealth management space by pointing out: “There’s clearly a lot to be done in terms of the surveillance and monitoring in light of this rule.” 

See IBM’s Surveillance Insight for Financial Services solution in action: watch this demo on how a compliance officer in the brokerage arm of a large financial services company discovers a pump-and-dump violation by reviewing data displayed in a Surveillance Insight dashboard. 

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