When you sit down with your financial advisor, it’s fair to assume that the advice provided is in the best interest of you, your family, and your estate. And while this is true in many cases, it’s important to understand that two distinct levels of care exist within the financial industry: the suitability standard and the fiduciary standard.
In this article, we explore each of these standards and discuss the concept of symmetric and asymmetric incentives. If you have questions about the information covered or would like to discuss them in detail, please contact the RVP team.
Two Distinct Standards of Care
The Suitability Standard
Under the suitability standard, an advisor is required to provide services, solutions, and guidance that are suitable for your financial objectives, needs, and circumstances. Under this standard, advice or products which are “good enough” or “ok” at the time of sale are permitted, and the advisor is not required to disclose the details of their compensation or any conflicts of interest that may exist.
Incentives Are Asymmetric
This model lends itself to transactional-based practices, where stockbrokers or insurance agents are compensated based on the number of products bought or sold – not the performance and value they provide to clients. This is an asymmetric incentive model because advisors have the financial incentive to sell more products or complete more transactions, not grow a client’s investment portfolio.
The Fiduciary Standard
Established in 1940, the fiduciary standard takes a different approach. Advisors working under this model are legally and morally obligated to provide guidance which is in the best interest of their clients. Recommendations which are suitable are not permitted, and every recommendation must be supported by the most accurate and complete information possible. This also means recommending that a client does not take action on a trade idea if it does not align with their best interest.
Incentives Are Symmetric
Transactional compensation models are not compatible with the fiduciary standard, so the majority of fiduciary advisors charge a fee based on assets under management – not commissions for the individual transactions they facilitate. This incentive model is symmetric, as an advisor’s compensation will grow as a client’s investment portfolio grows.
Where We Stand
As a Registered Investment Advisor, we’ve worked as sworn fiduciaries on behalf of our clients since 2004. We’ve chosen to work as fiduciaries for the last 15 years because we fundamentally believe that this standard of care allows us to provide the highest level of care to our clients.
While we are proud to uphold the fiduciary standard, we take things a step further by working to align our incentives with those of our clients more perfectly. This is something that truly sets RVP apart within the financial industry, even when compared to other firms held to the fiduciary standard.
To illustrate this, consider the case of a financial advisor that charges a 1.00% annual fee to manage assets. Under this fee structure, for every dollar that a client gains or loses within their portfolio, the advisor gains or loses a penny in annual compensation. Incentives are symmetric here, which is good, but they are not perfectly symmetric, as the magnitude of gains and losses felt by the advisor and the client are far from equal.
At RVP, we’ve chosen to take a different approach, by going beyond the fiduciary standard of care and working to close the incentive gap between our team and the clients that trust us with their life’s work. Every partner and portfolio manager on our team is personally invested in the strategies that we provide to our clients. We do this because we truly believe in the strategies and allocations that we manage, but also because this means that the best interests of our team are more perfectly aligned with those of our clients.
We hope this information was valuable as you consider the fiduciary standard and the role incentives play within the financial industry. Connect with RVP to learn more about how we go above and beyond the fiduciary standard of care, and whether this model makes sense for you, your family, and your legacy.
About the Author: David McGranahan
With more than 25 years of experience in the financial services industry, David came to RVP from Credit Suisse, where he worked in New York, London and Chicago. He most recently served as Managing Director and Head of Wealth Management for the Midwest Region. Prior to overseeing Credit Suisse’s Midwest Private Banking operations, David worked his way through the ranks, filling many roles including Head of Fixed Income and Hedge Fund Initiatives for CS HOLT, Head of U.S. Equity Sales (Europe), Institutional Equity Sales and Fixed Income Research Analyst, when he first started at the firm in 1991.
Information contained in this article is obtained from a variety of sources which are believed though not guaranteed to be accurate. Past performance does not indicate future performance. This article does not represent a specific investment recommendation.
No client or prospective client should assume that the above information serves as the receipt of, or a substitute for, personalized individual advice from Relative Value Partners, LLC which can only be provided through a formal advisory relationship. Clients of the firm who have specific questions should contact their Relative Value Partners counselor. All other inquiries, including a potential advisory relationship with Relative Value Partners, can be directed here.