Damning the 'river of gold'

By ROB STOCK - Sunday Star Times

Wellingtonian Anne Cook, 73, gave her message to parliament's select committee inquiry in no uncertain terms.

"I definitely think advisers' commissions should be banned," she said. "Even those given by their own company, and then one could perhaps be able to trust their advice as being unbiased.

"This is a real conflict of interest situation."

When it comes to finance company collapses, Cook can speak with some authority. She invested in OPI Pacific, Dominion Finance, Capital + Merchant, North South and Hanover.

All will lose money, the question now is how much – though in the case of Capital + Merchant, the answer is probably everything.

Cook said the companies her adviser recommended to her were new, high-risk, highly geared and unproven.

"This did not match my needs and circumstances. Some companies gave higher than average commissions to advisers. The adviser did not discuss the above companies in terms of an independent analysis of performance, assets, risk, loans etc. She simply gave me a prospectus/investment statement, an application form and a recommendation to invest. I do not think this is advising; it is selling."

Like many, Cook, who insisted no details of commissions or brokerage amounts were ever given to her, largely blames commission for the hundreds of millions sucked by finance companies out of the nation's retirement nest-eggs.

Unlike professionals such as accountants, lawyers and surgeons, most financial advisers are paid through commissions from finance companies, fund managers and insurance firms.

That makes them no better than sales agents, said fee-based independent financial adviser Robert Oddy.

In fact, commissions were brought in when the fund managers and insurers decided to get rid of their tied sales forces. Overnight the tied sales forces became financial advisers and insurance advisers, and "commission was the model the distributors put in place to avoid paying a sales force".

But what they got was, to all intents and purposes, a sales force, Oddy said, which was compliant and passive, accepted what it was told and did not hold the fund and insurance providers to the highest standards of scrutiny, disclosure and value for money.

One fund manager that does not pay commission is Milford Asset Management. Director Anthony Quirk said: "We don't believe commission is a model that works for us. We believe in the fee-for-service model. It is a conscious decision. We think commissions are fraught with difficulties. It is potentially costing us business, but we are growing anyway."

Quirk is a veteran of the fund sales industry and has a jaundiced view of commissions, agreeing with Oddy that they can't help but influence advisers. "We saw how many advisers put clients into finance companies because the commissions were so large."

Oddy says most advisers would need a lot of education to get to the standard where they could command a fee for service, and he acknowledged that many might throw in the towel first.

Critics say that could mean a hollowing-out of advice, where only the richest would be able or willing to pay fees, leaving the moderately wealthy to turn to the banks, or do it themselves.

Oddy agrees, but says that's not a bad thing and new business models would be developed to exploit the gap.

Quirk, too, would have few regrets. "There would be a transition period, but I think there would be a stronger and better quality financial planning industry as a result."

The idea of banning commission appears to be moving from calls from a select few finance professionals and disgruntled investors, and into the corridors of power.

The Australian federal government asked this past week in the Ripoll Report into the Storm and Opus Prime scandals whether commissions should be banned, and the Code Committee of New Zealand's Securities Commission, which is preparing a code of conduct for financial advisers, floated the same question earlier this month.

And some, like Oddy, are tipping that the commerce select committee on finance company failures, which is still receiving evidence, will also recommend the banning of commission.

Not everyone agrees. Phil Macalister, publisher of GoodReturns.co.nz, a news site for financial advisers, described the debate as "a red herring". "Seventy percent of finance companies' debentures went in direct from the punters, not through financial advisers, yet financial advisers are taking the whole rap for it," he said.

Instead, he said, people should be more worried that rising levels of regulation would force advisers back into the arms of big insurers and fund managers, becoming "aligned" advisers.

He added that banning commissions from insurance – a product that was "sold, not bought" – would result in a worse under-insurance problem for the country.

A large part of the aligned market is already tied to some extent, whether it be bank advisers recommending banks' own funds, AMP advisers, or advisers tied to insurers such as Sovereign.

If they simply offered their services for a fee, there is no reason to believe they would end their relationships with the product providers who provide them with business support such as loans, websites, signage, "research" and camaraderie.

But, Macalister also believes that New Zealand won't be the one to make the decision on whether commissions stay or go. "If Aussie don't do it, we won't either," he said.

In Australia, the appetite for banning commissions, stoked by the tales of tens of thousands of ordinary Australians suckered into mortgaging their homes to invest in shares, appears high.

In its submission to the Ripoll Report, the Australian Securities and Investment Committee (ASIC) said commissions created conflicts of interest that are "inadequately managed by disclosure", and proposed banning not just up-front commissions, but ongoing (so-called trail) commissions, soft-dollar incentives (free holidays, trips to rugby matches, etc), volume bonuses (paid when product sales targets are met) and fees based on a percentage of funds under advice.

Others supported that call. "It is a sad fact that, in financial planning, he who pays me is my boss," said one financial planning firm, calling for the "rivers of gold" to be turned off. "The only parties who resist this reform are those who financially benefit from the rivers of gold."

But ASIC said people not holding themselves out as advisers should be able to continue to receive commissions, adding there may be a back door to doing away with commissions. By passing laws requiring advisers to act in the best interests of their clients, commissions and associated biases such as volume agreements would disappear.

In that brave new world, the Industry Super Network said: "The best interests obligation would require the planner to give clients their undivided loyalty, which means the financial planner must strive to avoid any actual or perceived conflict of interest.

"The method of payment for financial advice must reflect the planner's undivided loyalty to their client."

The initial signs are that New Zealand is likely to follow an Australia-lite route to the commission question, once again relying on the disclosure ASIC scorns.

The Code Committee's recent discussion paper proposes policing the use of the term "independent" and allowing only those who can prove independence – including not taking commissions – to use it.

But it also proposes that advisers "must place the interests of the client first and act with integrity" and that, as in Australia, raises questions about the future of commissions here.

The code is not the black letter law likely to come in in Australia, as it will just set the standards against which a Securities Commission disciplinary panel will judge complaints from the public by. But the committee will have the power to ban advisers from practising, which could make accepting commission an uncomfortable proposition to advisers.

The committee could yet impose a ban on commission and has asked for comments from advisers and the public.

TYPES OF COMMISSIONS

Up-front commission: Can be 5% or more on a managed fund (taken out of an investor's capital) or up to 230% of a life insurance policy's first-year premiums (paid by the insurer). Powerful financial planning firms can negotiate special deals where they get more commission over and above what the fund manager or insurer ususally offers.

Trail commission: An ongoing fee to reward an adviser's "loyalty" for keeping their clients with the fund manager/insurer.

Volume bonuses: Cash rewards for hitting sales targets set by fund managers or insurers.

Soft dollar incentives: Subsidised, or free trips to sports events or overseas "conferences", website support, start-up capital for businesses, free "research", signage for the office and software support. Other forms of remuneration exist for big, powerful financial planning firms. Evidence presented to the commerce select committee inquiry into finance company failures alleged Vestar, for example, charged fees to finance companies which wanted to be considered for inclusion in client portfolios. There have also been cases such as Money Managers (now renamed MMG), where streams of income from financial products supplied by a financial planning outfit benefited the owners of the firm recommending them. ASIC, the Australian financial regulator, considers that monitoring fees based on a percentage of clients' funds under management to be commissions, and not fees.