What does ‘fiduciary’ actually mean?
The term is used widely, but the true impact of fiduciaries can go unnoticed
When Tom began his advising career as a broker and securities salesman in 1984, it didn’t take him long to see the potential for sliding scales of corruption and other such financial malfeasance. The incentives for success as a broker were not always aligned with the long-term needs of clients. Tom was not unique and in fact echoed the thoughts of most of his profession when he proclaimed, “Why wouldn’t we want to act as fiduciaries?” In other words, why shouldn’t we act in our clients’ best interests all the time?
While the term “fiduciary” is relatively well known, its true definition and real impact on the lives of those who depend on the good work of fiduciaries often go unnoticed. The word fiduciary stems from the Latin roots of fidere (“to trust”), fiducia (“trust”) and fiduciarius (“holding something in trust”). Fiduciary was defined in English sometime in the 17th century as “something inspiring trust.”
Fiduciaries come in several varieties.
They can be financial advisors (though not all are fiduciaries), talent agents, lawyers (sometimes), asset managers (under the 1940 Investment Advisor Act), trustees and corporate board members. All fiduciaries have a legal obligation to act in the best financial interests of their clients, or in the case of board members, the company they serve.
Investopedia succinctly defines it this way: “A fiduciary must place the interest of their clients first, under a legal and ethically binding agreement. Importantly, fiduciaries are required to prevent a conflict of interest between the fiduciary and the principal.”
In theory, this seems simple enough, but in practice, it can be as complicated as human behavior. It was less-than-stellar human behavior that led to the federal regulatory foundation we have today with the passage of the Investment Advisors Act of 1940 and Investment Companies Act of 1940.
Both laws emerged as the Great Depression was unfolding. Many of their consumer protection provisions grew out of research that found the mutual fund industry in particular was populated by too many “advisors” and companies making millions by promoting “hot tip” schemes and selling clients preferred securities without disclosing any conflict-of-interest scenarios. It was all quite legal but not necessarily moral.
The 1940s laws designated the Securities and Exchange Commission (which was created in the wake of the 1929 Wall Street crash) to be the overseer. But from the beginning, the “rules” created (with strong input from the securities industry) were much more pliable than many in Congress likely wanted.
In the wake of the financial sector collapse in 2008, the Dodd-Frank Wall Street Reform & Consumer Protection Act was intended to strengthen and enhance the original laws. It remains to be seen how effective these reforms will be, as Dodd Frank is a voluminous and bulky piece of legislation.
Having the credentials of a fiduciary does not automatically confer virtue or even legality. There is an endless parade of fiduciaries, like lawyers, agents or financial advisors, who have broken the law, shattering the trust and often the lives of their clients.
With unparalleled cynicism, in the final two years before his vast criminal Ponzi scheme unraveled, Bernie Madoff was a fiduciary, a Registered Investment Advisor. For the previous 46 years, Madoff was a registered representative and CEO of a broker dealer, a designation with laxer ethical and legal parameters. Among many sins, Madoff also made a mockery of the system because he was, at the time of his arrest, vice chairman and on the board of governors of the National Association of Securities Dealers, the self-regulatory body overseeing the Nasdaq and other over-the-counter trading. A perfect example of the fox overseeing a henhouse full of conflicts of interest.
We find it is much easier morally, ethically and financially to be proud fiduciaries. We do not have to obviate the truth (or lie) about what we are doing on behalf of our clients. We are passionate about our obligation to clients and must remain unbiased in our counsel to them.
A good fiduciary should be transparent on how they are compensated, how their fee structure is established, their specific roles and responsibilities, and should follow guidelines to avoid, minimize and disclose conflicts of interest at all costs.
Tom Sedoric is partner, executive managing director and wealth manager, and D. Casey Snyder is partner, senior vice president and wealth manager of The Sedoric Group of Steward Partners in Portsmouth. They can be reached at thesedoricgroup.com.