Fiduciary behavior and misbehavior: Alts, real assets and potential conflicts of interest
- December 1, 2020: Vol. 7, Number 11

Fiduciary behavior and misbehavior: Alts, real assets and potential conflicts of interest

by Geoffrey Dohrmann

For years a debate has raged over what constitutes fiduciary behavior. Regulators have questioned whether it’s possible for advisers who earn all or a significant portion of their income through commissions to maintain objectivity when providing advice that is supposed to be solely in the interests of their clients.

Of course, it’s possible. Many are doing so every day and have done so throughout their careers. The problem is there always will be a potential conflict of interest between advisers’ desire to maximize their own income, and their clients’ need to produce optimal returns. Obviously, the publisher of a market-intelligence platform such as Real Assets Adviser believes in the value of including inflation-sensitive investment alternatives in most client portfolios. Given the low interest rate environment we are operating within, and the high volatility of the equities markets, the ability of alternatives to help stabilize and enhance portfolios’ risk-adjusted returns has never been more important. Given the threat of future inflation, the ability to provide some measure of inflation hedging could be equally beneficial over the long run.

The problem is, most of these kinds of investments are difficult for both clients and advisers to understand, not to mention costly for advisory platforms to underwrite and onboard. This has resulted in most commission-driven distribution platforms for these products to insist the product providers offer relatively high commissions to cover some of these distribution costs.

Unfortunately, the costs of those high commissions ultimately are born by clients. Because high commissions reduce the net proceeds available for investment, they also force investment managers who offer these products to go further out on the risk spectrum in their attempts to deliver market returns. Far too often, the reduction in net proceeds available for investment makes market returns nigh impossible.

If you look at the way most advisers are educated and trained, you begin to understand why it’s so costly for many of these commission-based firms to onboard these products, and why they insist on higher commissions to offset the added costs. Most advisers who have earned college degrees majored in finance or related fields, which offer little education on alternatives or real assets. The same is true of curriculums for candidates pursuing designations as a certified financial planner or chartered financial analyst. (The certified alternative investment analyst designation is an exception, but this is still a relatively new designation and, to date, relatively few advisers have earned this certification.)

Since most of these alternatives are packaged in the form of securities, you would think the securities licensing programs would require a minimum degree of knowledge about the underlying assets of these alternatives. Alas, they do not. Rather, licensing programs such as the Series 7 and Series 6 focus more on the legal structure of these investments and provide very little guidance in terms of helping registered reps understand how the underlying real asset classes actually work and perform.

The fact that educational and regulatory institutions have pretty much failed in providing sufficient education to aid advisers in fully understanding risks and rewards associated with investing in alternatives is not the fault of the companies that employ financial advisers. Expecting product providers of these asset classes to educate their advisers can be problematic. Just as it can be difficult for commission-
based advisers to resist the temptation of self-dealing, it can be equally difficult for product sponsors to provide truly unbiased education on the asset classes they have a vested interest in selling. This doesn’t mean it can’t be done, and many feel they are in fact doing so. But it shifts the education cost burden onto the shoulders of the product sponsors instead of being absorbed by the advisory firms, which are the organizations that should truly be responsible for underwriting that education.

We applaud and encourage more widespread certification by organizations such as the Chartered Alternative Investment Analyst (CAIA) Association. And we encourage business schools, finance programs, general investment analyst certification and licensing programs to incorporate objective information and training on the real asset and related alternative asset classes.

Meanwhile, the primary reason we launched this magazine was to help fill the education gap. We see the role we’re playing in the advisory industry as providing essential informational infrastructure to support objective, intelligent and suitable incorporation of alternatives and real assets into their clients’ portfolios.

We hope you agree we’re succeeding in that role and will let us know how we can do a better job of serving your interests on behalf of the best interests of your clients.

Meanwhile, particularly in light of all going on in the world around us, it’s important to be careful. Be very, very careful. It’s a whacky world out there.

Geoffrey Dohrmann is president and CEO, publisher and editor-in-chief of Institutional Real Estate Inc.

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