The CFP Board defines a fiduciary as “one who acts in utmost good faith, in a manner he or she reasonably believes to be in the best interest of the client”. The SEC and individual states define legal investment fiduciaries with similar references to clients’ best interests. The first bullet point of the FPA Standard of Care is “put the client's best interests first”. While the concept of acting in clients’ best interests gets referenced often, many in and around the profession may have very different views on which advice would meet or exceed this benchmark. Although a universal definition of clients’ best interests could be very useful to practitioners, it may be impossible to reduce such a broad subject to a finite definition.
A Young Science (and a Young Art)
Financial planning is a relatively new area of study compared to professions such as medicine, law, etc. Medicine has been around since before Hippocrates proposed a professional oath of “do no harm” in roughly 400 BC. However, even 2,000+ years after his death knowledge on how to “do no harm” was still quite crude as expectant mothers were dying in research hospitals due to preventable infections in the 1800s. Physicians were not washing their hands before delivering babies after dissecting cadavers because nobody had discovered germ theory yet (Google Dr. Ignaz Semmelweis for an interesting story of progress and opposition).
A recent article caught my eye: “Why Bond Funds Don't Belong in Retirement Portfolios” by Dr. Wade Pfau. Summarizing the research it appears we should replace bond funds with income annuities in all retirement income portfolios. Given this evidence, would a financial planner not be acting in their clients’ best interest if some of their client retirement income portfolios contained bond funds instead of annuities? Time will tell, but history doesn’t look kindly on Dr. Semmelweis’ skeptical colleagues who resisted washing their hands. Every day new research is published in subject areas relevant to financial planning. Some of which will be shown in time to be wise; some will be contradicted by future discoveries. How much evidence must we have before we must adopt new best practices and declare prior practices not in clients’ best interests?
Should Professionals be able to Predict the Future?
One thing that is hard about helping clients plan for an uncertain future is we can give sound advice but it may still turn out poorly. For example, Dr. Pfau's research on immediate annuities over bond funds appears sound but what if you implement it and the highly rated insurance company funding the annuity goes bankruptand/or the client dies young? What if you don’t implement the research, insurance companies stay solvent, and your client runs out of money due to sequence of returns and longevity? There is no way to know which of these courses of action will turn out to be best for clients until years after we make the recommendations.
With this in mind, how would we determine what advice fails to act in the clients' best interest? Should we be expected to know what the markets will do and how that will affect clients’ financial plans? Many clients think we should; especially many of those who work in hard sciences like engineering where the laws of physics are more consistent than financial market dynamics. Some advisors attempt to predict market movements, others recommend diversification and systematic rebalancing. How wrong must the predictions be to violate the best interests principle?Is an advisor who rebalances as the stock market goes down violating the best interests principle by not making tactical moves to preserve client assets? We might not all give the same answers to these questions.
“I know it when I see it”
To paraphrase U.S. Supreme Court Justice Potter Stewart on the difficulty of defining pornography: “I shall not today attempt further to define the kinds of material...perhaps I could never succeed in intelligibly doing so. But I know it when I see it, and...this case is not that.”Perhaps we won't be able to define a best interests standard as concretely as we would like and we'll have rely on human judgement with all of its biases and flaws to determine whether it is “reasonable to believe”advice given was in the best interest of the client.
FPA - Connect
