Financial Planning and Mortgage Broking: A Different Approach to Regulation.

Financial Planning and Mortgage Broking: A Different Approach to Regulation.

Newsletter 2002

Financial Planning and Mortgage Broking: A Different Approach to Regulation.

The quality of advice given by some financial planners is ‘frighteningly poor’, according to a new joint survey by the Australian Consumers’ Association (ACA) and the Australian Securities and Investment Commission (ASIC).

It was the third such survey in eight years. Serious problems have been found each time, despite increasing regulation of the industry.

ASIC’s response conveyed its concerns. ‘The overall results of the survey show that many people aren’t getting the quality of advice they deserve. This is a wake-up call to the financial advisory industry that significant improvements are needed’, according to Peter Kell, the Commission’s Executive Director of Consumer Protection.

One of the major problems identified was planners recommending investments without justification, seemingly to earn commissions.

The ACA was blunter in its summary of the latest survey: ‘This ongoing failure to lift standards is disgraceful. Too many planners put their own interests ahead of those of their clients’.

‘The results are particularly worrying considering company principals (who may employ other planners) are currently applying for licenses under the new Financial Services Reform Act (FRSA). It promises enhanced consumer protection, but a large proportion of the advice in this survey would fail to meet some of its basic requirements.’

So despite increasing regulation of the financial planning industry, it seems that consumers are still not being protected. The answer? Everyone is calling for more regulation! But since we keep adding regulatory hoops, and the quality of advice remains poor does something seem amiss?

We think there should be regulation. But it would be different regulation. The fundamental issue in these markets is that financial ‘advisors’ and mortgage ‘brokers’ have conflicts of interest because they’re remunerated by the sellers of financial products – managed investments or loans as the case may be.

You can paper over it – you can legitimate this basic structure by imposing a whole lot of rules, a whole lot of compliance procedures but the basic incentives the businesses will face will continue to be the incentives of sales people. Indeed, as you can see from looking at their advertising, these industries are dominated by a ‘sales culture’.

The idea of regulating these industries to protect consumers actually legitimates the way in which financial advisors and mortgage brokers operate, often as sales people under the guise of being ‘advisors’. It also substantially increases costs.

I propose much simpler regulation – requiring all people who accept remuneration from financial services providers to call themselves salespeople and explain that, even if they take a similar commission from each service provider, there remain clear conflicts between their own interests and those of their clients. In addition a cheap and general ombudsman scheme should be available to address individual problems and to identify rogues who should be prevented from operating. I would add that consumers should make some small deposit to use the ombudsman– perhaps $20 or $50 – as you don’t need to practice in the industry for very long to realise that there are plenty of vexatious consumers out there. But that is a minor point.

In the meantime, there is more than one way of being ethical. Instead of hoodwinking clients into thinking we can be an unbiased source of advice, some of us are being up front about the way the market works and passing the generous commissions lenders pay us back to our clients – just like discount department stores that sell cheaper products.We simply couldn’t do that if elaborate compliance and audit procedures were imposed requiring us to be able to justify our ‘advice’.

Like most other brokers we try to find the best loan we have access to for our clients because we want their business and the market is a competitive place. But we advise our clients to keep looking for better deals – see newsletter 6. We’d rather compete for business than ‘advise’ the unwary that we’ll provide them with unbiased advice or that they could not possibly find a better loan than the one we suggest to them.

In a subsequent newsletter, we’ll provide a concrete example of how our advice is better than that provided by a computer program that has been audited as giving independent advice – just the kind of program against which mortgage brokers would justify their advice if their advice were ever regulated.

Better a simple solution that keeps everyone informed than more costly regulation that, far from preventing misleading behaviour, actually legitimates it.

AKA Nicholas Gruen

June 2002

Please note: The observations made here are general and indicative. Nicholas Gruen is not a qualified investment adviser. Further his comments are general and do not take into account your specific circumstances. Nor are they warranted as free from error in any respect whatsoever. You should not rely on any aspect of them without taking independent financial advice relating to your own specific circumstances. We suggest you obtain advice on a fee for service basis rather than from someone who earns either up-front or trailing commissions from investments they recommend. We would be happy to let you know of service providers who provide advice on this basis.

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