Financial advisers: Not just a few bad apples

Financial advisers also have a poor record in the US.

A lot of the problems highlighted by the royal commission into misconduct in financial services aren’t unique to Australia.

The sector that has faced the most scrutiny, financial advice, has also performed poorly in the US, where about 650,000 advisers help oversee more than $US30 trillion ($40 trillion) of ­assets. It’s something innate, it seems, and not just a few bad ­apples.

“Despite their prevalence and importance, financial advisers are often perceived as dishonest and consistently rank among the least trustworthy professionals,” write three economists from Stanford, Harvard and University of Texas who have analysed the career histories of financial advisers in the US between 2005 and 2015.

It turns out that more than 7 per cent of the 1.2 million current and former financial advisers during that period broke the rules, rising to almost 20 per cent even at large financial advice firms.

“One in 13 advisers have a record of misconduct, suggesting that misconduct is relatively commonplace,” they found. About a third of bad advisers were repeat offenders.

“The substantial presence of repeat offenders in the pool of ­financial advisers implies that misconduct does not automatically result in removal of an adviser from the industry,” they said, pointing out that 44 per cent of advisers who lost their jobs after misconduct found another job as a financial adviser within a year.

The bad advisers lived in parts of the US with disproportionately older, less educated and wealthier populations.

As in Australia, concerns about reputational damage don’t appear to have inoculated big financial institutions against providing poor advice.

More than 12 per cent of advisers at Wells Fargo Advisers had misconduct records. Wells Fargo is the Commonwealth Bank of the US: a massive retail bank recently mired in scandals, whose former chief executive, John Stumpf, resigned in late 2016 having earned over $US133m in pay and bonuses.

More than 13 per cent of Morgan Stanley’s 23,600-plus advisers had misconduct records.

US advisers, like ours, are required to put their clients’ interests ahead of their own. But legal mandates are nowhere near as ­effective in eliciting good behaviour as penalties, as every study of human behaviour will show.

In the US, the evidence revealed more than half of advisers who committed misconduct were not sacked. And those who were tended to turn up at firms with a high tolerance for bad behaviour.

“Some firms specialise in misconduct and attract unsophisticated customers, and others cater to more sophisticated customers and specialise in honesty,” the ­authors wrote.

The authors called for much stiffer penalties for advisers caught behaving badly.

Penalties aren’t nearly strong enough here either, it seems. Remarkably, ASIC had only pursued one criminal proceeding in the past 10 years against a financial adviser, according to evidence heard at the royal commission.

In the last five years it had taken civil action only once against a financial adviser. Yet a random survey of advisers by ASIC found 75 per cent failed to observe the “best interests” test. And 10 per cent of those had left the customer significantly worse off. It seems the regulator hasn’t been vigilant enough.

“The large presence of repeat offenders suggests that consumers could avoid a substantial amount of misconduct by avoiding advisers with misconduct records,” they write. “This match on misconduct re-employment ­potentially undermines the disciplining mechanism in the industry, lessening the punishment.”

It’s common to hear how financial advice suffers from the sort of asymmetric information found in health and the law, where clients know far less than the suppliers about the services and products at hand.

Actually, financial advice isn’t so sophisticated. Indeed, calls for greater levels of training for advisers appear to overlook the fact that, if financial advisers were trained in financial economics, they’d advise clients not to take their advice. If financial advisers were brilliant at assessing investments, they wouldn’t be financial advisers. Very few consistently pick the market.

The demand for financial advice — the share of financial advisers in the workforce has more than tripled in the past 30 years — has been accelerated by the government compelling workers to put 9.5 per cent of their incomes into stocks and bonds.

Few have the inclination or even the capacity in some cases to understand these. They never asked for this to happen.

For these people, the government should take the lead and direct their super savings into a government-run fund, which obviates the need to seek financial advice. Naturally, many who prefer a self-managed super fund will need to turn to financial advisers.

For them, the industry should be forced to fund a register of fin­ancial advisers that tracks any complaints against individual advisers and advice firms.

It should be compulsory to provide new customers with this record. The industry should fund an advertising campaign to ensure people ask for this from potential advisers.

The quality of financial advice matters. Even small improvements in the quality of advice can save households millions in fees and boost their savings.