By Scott Reed
I wrote a column back in the late 1990s about the effects of the rescission of the Glass-Steagall Act. I know that doesn’t sound very interesting and that you are probably not kicking yourself for your lack of memory in regard to its content.
Nevertheless, it seemed to be a pretty big deal to me. Glass-Steagall was an act that, according to Investopedia, “prohibited commercial banks from collaborating with full-service brokerage firms or participating in investment banking activities.”
Investopedia goes on to say, “The Glass-Steagall Act was enacted during the Great Depression. It protected bank depositors from the additional risks associated with security transactions. The act was dismantled in 1999. Consequently, the distinction between commercial banks and brokerage firms has blurred; many banks own brokerage firms and provide investment services.”
In other words, it prohibited banking institutions from doing things that weren’t considered “bank-like.” For example, most investors considered investments in their bank to be safe and insured so it wouldn’t be proper for a bank to start selling stock that could go up or down in value because investors might expect it to be safe and insured. The rescission of Glass-Steagall allowed banks to get in the business of selling all kinds of investment products.
The good news is that with Glass-Steagall out of the way, many more investment brokers were selling product and the golden era of investment product development continued. I believe that many of the investment products we see today may have never made it to the average investor if it weren’t for Congress rescinding Glass-Steagall.
The bad news is that many investors bought investments with a misunderstanding of the risks involved and who was monitoring that risk.
The column that I wrote then was about the even more confusing problem of having so many different types of investment firms pretending to do the same thing in the same way. Investment professionals all over the country began changing their titles. Stockbrokers might have become investment advisers or investment consultants. Insurance agents might have become financial consultants. Bankers became financial advisers, et cetera, et cetera.
Investors understandably got confused about who was supposed to be selling a product and who was supposed to be advising them on what type of product to buy. Both are honorable professions but there is a big difference in the roles of the two.
I had a man tell me the other day that he liked a column I wrote recently on the subject. I told him that I seemed to be singularly focused on the issue of “fiduciary responsibility” these days. I talk about it a lot and I am writing about it a lot. I don’t want to become redundant or boring but this seems to be a subject whose time has come.
I have found in my past 25 years in this profession that no one cares much about upside risk. The chance that something might go up more than we expected is not a scary thing. So when the financial markets are doing well, investors tend to ignore the fact that they may be in investments that are too risky for them. Most of those same investors have gotten to see first-hand the downside aspect of risk over the past decade much more than they would have liked.
We had the second-worst bear market in history from 2000 to 2003 and then the bear market from late 2007 to early 2009 took over that title, giving us two miserable bear markets in a decade. Investors began asking questions about their investment performance and in many cases they didn’t like the answers they were hearing.
Whose best interest?
What was the case more often than it should have been was that investors believed that the investment professional was looking out for their “best interest.” What they found was that the investment representative was selling a product, earning a commission and not going through the process of determining what was in their “best interest.”
This is a big revelation and one that was too late for some.
However, it has shoved the often boring fiduciary issue to the front of the debate on financial reform. The U.S. Senate is having a tough time getting this legislation passed and the death of Sen. Robert Byrd put the bill’s passage in jeopardy. But we are at a crossroad in the investment world where fiduciary issues are colliding with the investment product part of our world.
Investors are taking note, regulators are taking note and Congress is taking note. We have a short window of time to put things back into what I consider their proper place: a world where investment professionals’ business cards, business models and business ethos are all in line and are understood by the general public. And everybody does what they say they do and investors are able to make an informed decision on what is best for them.
Call your members of Congress and tell them that you think this is important – possibly boring, but certainly important.
Scott Reed, CIMA, AIFA, is CEO of Hardy Reed Capital Advisors in Tupelo.