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Regulating for Trust and Transparency

George Seybolt | State Street Corporation

January 26,2018

What does it really mean to be a fiduciary?

As a noun, it simply means “a trustee.” As a verb, it means “involving trust, especially with regard to the relationship between a trustee and a beneficiary” or “held or given in trust.” Trust, therefore, is a critical component of being a fiduciary. Without it, asset owners might choose to keep their money under the proverbial mattress, and not entrust it to advisors or institutions.

In its paper report, From Trust to Loyalty,1 the CFA Institute found that trustworthiness, ethics, communication and transparency are the attributes investors value most, and which lead to long-term relationships with investment managers. And yet, with the financial industry ranking 9th out of 12 industries for possessing these attributes, trust in financial services2 remains low.

To address this issue, regulatory agencies like the US Securities and Exchange Commission (SEC) are using regulations as a way to build transparency, and ultimately greater trust, into the client-investor relationship. According to their strategic plan3 for 2014 to 2018, “The SEC strives to promote a securities market that is worthy of the public’s trust…To protect investors and to promote confidence in the integrity and fairness of the markets, the SEC uses its regulatory authority to deter potentially abusive behavior.”

New regulations establish guidelines that investors know their advisors must follow, outlining norms and decision-making frameworks that investors can trust will be used in all circumstances. After all, there are very serious penalties for institutions that don’t follow the rules.

Regulations like Markets in Financial Instruments Directive (MiFID II) ensure that investors and managers keep the lines of communication open.

In the EU, for instance, the Markets in Financial Instruments Directive (MiFID II) generally bans investment managers from receiving inducements. An example of this is fees or non-monetary benefits for research, unless the fee for research is paid directly by the investment manager from its own money or, with client approval, from a separate research account. ”As we enter the new year, fund managers, traders, pension funds, and brokers and other intermediaries in the market continue to analyze market implications of this in their client service strategies,” says my colleague Minnie Joung, global head of OCIO investment services at State Street.  A fundamental concern from European regulators is the existence of conflicts of interest between investment managers who may use client funds to pay for research that does not benefit the client. The end goal is to clarify potential conflicts of interest and isolate pricing for each service separately.

“Passing research costs onto clients under MiFID II would require investment managers to evaluate and justify the value of such research to their clients,” says Minnie. This forces both client and manager to ask key questions: What should firms charge for research? What research is worth charging for? Since it has to be worth the cost, will research quality improve? In some ways, research now becomes a true asset-something with a hard and fast, quantifiable value to both fiduciary and beneficiary.

While governmental agencies can regulate our actions, it’s also important that everyone in the financial services industry, regardless of their role, realizes that we are all fiduciaries because what we do will in some way impact our beneficiaries. As money managers, we owe it to our clients to be as transparent and forthcoming as possible. Regulations like MiFID II work to keep us all playing by the same rules.

1. From Trust to Loyalty. (n.d.). Retrieved January 26, 2018, from https://www.cfainstitute.org/learning/future/Pages/investor_trust_study.aspx

2. Future State of the Investment Profession. (n.d.). Retrieved January 26, 2018, from https://www.cfainstitute.org/learning/future/Pages/future_investment_profession.aspx

3. U.S. Securities and Exchange Commission: Strategic Plan Fiscal Years 2014-2018. (n.d.). Retrieved from https://www.sec.gov/about/sec-strategic-plan-2014-2018.pdf

Topics: Regulation


George Seybolt | State Street Corporation

George is currently a business analyst in the Regulatory Strategy & Research Center at State Street’s Global Services Division. His role focuses on research for a broad range of topics and producing content for internal and external distribution. Before joining the Strategy Center he worked in client operations and was part of State Street’s Future Focus Program. When he is not at work he enjoys making the most of the outdoors by skiing, hiking, and scuba diving.