"CODE OF SILENCE"
Is It Time To Change Investment Advisor Behaviour, Bank Behavior?
Larry Elford, CFP, CIM, FCSI, Associate Portfolio Manager, (retired)

There have always been written or unwritten rules dictating silence within the ranks of the investment industry. Employees experience threats of termination if they say anything that may embarrass the industry or the firm. But this raises a quandary: What does an industry member do when he or she witnesses client abuse or code of ethics violations? What if management ignores, or worse, sanctions the behaviour? What happens when the very people you are required to report to are part of the problem?

Management compensation in the industry is partially determined by sales or revenues, which puts the industry in the position of walking the line between, acting as professionals to benefit the client and acting as salespersons to maximize revenues. These are two different horses, and both cannot be ridden at the same time by the same rider. The industry code of silence is one of the largest impediments preventing the industry from becoming truly professional. It grew out of the days when investment dealers called themselves "stockbrokers", buying and selling shares. While many feel and act as if they are professional, the code of silence allows a few to act as financial predators hiding inside a business that runs on trust.

Today, the investment industry in Canada advertises the duty of care and trust to benefit the client. Are they delivering this duty to clients? When things go wrong, they are often hidden by the industry’s code of silence, or by confidentiality agreements purchased with clients’ own funds. These allow the industry to talk the talk of trusted professionals possessing high levels of honesty and integrity while walking the walk of commission based salespeople. Need examples? They’re easy to find.

Example #1: Free mutual fund trips. When Globe & Mail reporter Bud Jorgensen began writing articles about advisors sent on holiday junkets by mutual fund companies in the '90's, my manager announced that anyone who spoke to the press on the topic would be fired. At the time, he was about to enjoy his free annual trip to the Indy 500 courtesy of a fund company. After our entire industry was embarrassed by this kind of greed, the practice changed.

Example #2 - Double dipping. When advisors sell a fee-based account, clients are supposed to avoid commissions on subsequent transactions. I have witnessed several cases, however, where advisors have reversed the process for their own benefit. By investing a client's assets into a commission based account and later advising them to move to the new asset-based or fee-based account sets no compliance bells ringing. If the move results in no change except adding a new fee on top of the commissions already paid, the client has been double-dipped. It is unethical, but since it doubles an advisor’s revenue and thus his income, it happens over and over.

Example #3 - "No duty of care owed to clients". Industry literature talks about the duty of care owed to the client, claiming, "Client interest comes first". It also specifies a clear duty of care and a fiduciary responsibility to a "professional standard". When 90-year-old Norah Cosgrove took her bank owned investment dealer to small claims court in Ontario for a $10,000 problem, however, the dealer’s statement of defence was that, "At no time were the defendants acting in a fiduciary capacity", and "The plaintiff was responsible for directing the course of investments in her account". To a 90-year-old client, they were claiming no duty, nor any responsibility. She was totally on her own. That is not what their advertising leads investors to believe. The largest and most supposedly trusted financial institution in the nation claimed they owed no duty of care for this type of account - exactly the same type of investment account held by the majority of Canadian investors. Will this defence be submitted if others run into a problem?

Example #4: Gag orders to cover up abuse or crime. When an investment firm is finally pushed into acknowledging wrong behaviour (usually after years and many thousands of dollars in legal fees), they often offer to award the client cash to make the problem "go away". Part of this settlement process involves a confidentiality agreement requiring the client to promise never to reveal the facts of the case. Does this mean corporations in the financial/investment field can cover fraud or criminal acts by buying silence with the client's own money? It surely appears that way.

There was no disclosure when a 90-year-old Kelowna man lost his home to his trusted investment advisor, who helped the gentleman into an assisted living facility. Family members later found that the elderly client’s home was transferred into the advisor's name at less than market value, without benefit of appraisal and at a zero interest rate. In order to get his home back, the client had to sign a release saying, "for value received...........". What value did the client receive for signing this document Answer: He received his OWN HOME back. For further evidence of the internal code of silence, consider that the IDA (Investment Dealers Association of Canada) was notified of this and were met with non-co-operation by the firm involved. The company’s code of ethics, by the way, states that, "every transaction or activity we are involved in must stand the test of complete and open public scrutiny".



Example #5: Hidden mutual fund commissions. Rather than the clear disclosure that the industry requires, much of the compensation paid to advisors by mutual funds remains hidden behind a legal prospectus. This might explain why a popular Deferred Service Charge (DSC) fund, which pays 5% to the advisor (without commission disclosure on client purchase confirmation or on client statement), has grown over SEVENTY TIMES as large as the otherwise identical fund that has no hidden commission structure[1]This growth was achieved despite a higher management cost to the client, and a hidden penalty to the client to exit the fund. Which fund choice does your advisor suggest to you the DSC version, or non-DSC? Why? In whose interest? Where is the disclosure that the industry rules require?

Example #6: employees forbidden to reveal commission-free funds. Although against both the spirit and intent of the Competition Act of Canada[2], as well as the written company policies, neither policy was followed at my company. Furthermore, I was told that the actual policy followed is not to inform the public that they can purchase mutual funds without commission. Since commissions were officially deregulated in about 1987, can you point to a single industry advertisement in which bank owned investment dealers showed the options available when purchasing a mutual fund?
Conditions will improve when legislators and judges forbid gag orders, codes of silence, and written or unwritten sanctions against people who speak out in the public interest. With almost daily revelations of investment scandals, corruption, and other evidence of corporate, "psychopathic" behaviour among some members of the industry, it is time to eliminate the dark corners that hide these abuses.
Until then, the claim that financial advisors qualify for the term “professional” will remain a painful and unfunny joke.

[1] . (Source, Ontario Securities Commission Fair Dealing Model proposals, appendix F, "Compensation Bias", page 12)

[2] Competition Act-Misleading Advertising and Deceptive Marketing Practices at www.ig.gc.ca