Expert's View 名家觀點


十月 1 , 2017  

What Investment Advice to Trust


by Charles Cheng, CFA
鄭又銓, CFA



In June of this year, a rule passed in the US requiring financial advisors who provide advice related to retirement planning to abide by a fiduciary rule- that is, to put the interests of the client first, be transparent about fees, disclose conflicts of interest, and charge fees that are reasonable. While these seem at first glance to be common sense rules for everyone involved, they go against the existing business models of many investment advisors.




In the UK a similar law (the Retail Distribution Review) was implemented three years ago and in Australia five years ago (Future of Financial Advice reforms), with a difference being that they applied to all investment advisors, not just ones advising retirement plans. In addition, both of these countries banned the use of commission based compensation in favor of fee based compensation in order to address the conflict of interest issue.




Here in Asia, there are generally no such fiduciary rules for advisors, and therefore no regulatory obligation for them to put their clients’ interests first. The best way an investor can protect themselves is to understand the types of advice they are getting from potential advisors as well as the motives that drive them.



Figure 1: Survey of Financial Professionals about Appropriate Advice Given to Investors


Source: Bloomberg, CFA Institute



In Asia, while there are some advisors hold themselves to a fiduciary standard and/or charge “fee only” management fees, the majority do not and the popular compensation structure remains commission based. In the context of understanding advisor incentives, we can broaden the scope to investment advice not just limited to investment advisors and planners, but also to reports from research analysts about listed companies (which advisors also often rely on for their ideas). When advice is compensated directly from trading commissions, the base incentive is to induce more trading (without the requisite analysis backing the ideas) and perhaps charge higher amounts than necessary.




That doesn’t necessarily mean that all of these investment ideas are bad, or that most advisors are out there to take advantage of their clients. However, it does mean that there may be some organizational pressure coming from the top of the firms, such as revenue quotas, that may influence the quality of the advice at certain times. Furthermore, there could be other business considerations, such as when the advising firm is part of a large banking group, which could have other influences such as maintaining corporate relationships or their own trading desks.




Therefore, it is important to distinguish and take advantage of whatever useful information is contained in investment reports and presentations rather than taking the recommendations at face value. The actual data points and facts contained in a report or presentation is typically more useful and objective than the story being told by the advisor, although the amount of information can sometimes be overwhelming. Also, a change in recommendation or target price often says a lot more than the actual rating itself. It shows that there is new information independent of the analyst’s previous biases that needs to be considered.




If that sounds like a lot of work that an investor has to do themselves, you’re not mistaken. In taking investment advice without a fiduciary standard, the ultimate responsibility lies with the investor themselves to conduct their own analysis in making investment decisions. For the services of fund managers and discretionary advisors, the fiduciary standard is applied to a greater extent, but care and close monitoring still needs to be applied.




Particularly, it should be very clearly disclosed how the fund manager or advisor is compensated, whether directly though management fees or indirectly through a share of trading commissions, or kickbacks from fund managers. Any potential conflicts of interest should also be made clear and information about the return risk profile of investments made clearly and fairly. Only when these items are transparent, can a client investor make a balanced determination of the nature of the advice or service that he or she is getting.




Mr. Cheng is a managing partner at a Hong Kong based independent private investment office.