But, as important as compensation can be to advisor motivation, it’s also key to investor credibility. Yet, in the financial services industry, firms often prefer to keep the compensation low-key — complex and embedded in the products they sell. The result is that while most firms claim to add value by dispensing advice, they are paid for selling products. This creates conflicts of interest.
In Australia, the wealth-management industry is coming to the conclusion that this conflict is best avoided. As a result, some of its most prominent players are dumping commissions in favour of fee-for-service arrangements....
The decision to do away with commissions in favour of fees is largely aimed at shoring up the industry’s credibility and eliminating the potential for conflicts. Earlier this year, the country’s regulator, the Australian Securities and Investments Commission, released the results of a “mystery shopping” exercise, which found that clients were six times more likely to receive bad advice from the financial industry in situations in which a conflict exists, compared with scenarios in which there are no conflicts.
“Where the advisor had a remuneration conflict, 28% of the advice clearly did not have a reasonable basis, and a further 7% probably did not. In contrast, when the advisor did not have a conflict, the percentages were 5% and 1%, respectively,” reported Jeremy Cooper, deputy chairman of ASIC, in a speech.
Also, poor advice was three times more likely when the advisor recommended a proprietary product rather than a third-party product. “It is clear from the survey that there is a much higher risk of inappropriate advice when the advisor is conflicted,” Cooper concluded.
The idea that more than a third of clients may be getting bad advice and that the advisors’ compensation scheme is to blame has the industry on notice. In response to findings such as these, it is trying to get out in front of the conflicts issue. The Financial Planning Association of Australia Ltd. (which administers the certified financial planner designation in that country) has come out with a set of four principles designed to address these concerns. Among other things, it calls for planners to charge for planning services directly, and to disclose both these fees and all other forms of compensation on a regular, ongoing basis.
The effort to push firms toward fees is about putting a value on advice. “Financial planning advice is a service that is valuable in its own right, and consumers should be aware of its cost,” says FPA chairwoman Corinna Dieters. “Separating the cost of advice from other costs highlights the value of the advice.” ...
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