What does “placing client interests first” mean?

“Acting in the best interests of a client” is pretty much self-explanatory – it is first about professional conduct and then about best interests.  This contrasts with the obligation to “place interests of the client first” which has a lot less clarity.  As worded, this obligation is not about conduct nor about a client's best interests. “Best interests” and “interests first” are two very different concepts, resulting in a different standard for advisers when compared to other professionals.

The Code of Conduct itself provides little guidance to define “interests first” suggesting that the test is determined by "... what is reasonable in the circumstances”.  This limited guidance is just parking the issue of interpretation for the future.

“Interests first” does not mean acting in the client’s “best interests” nor does it mean putting those “best interests” first.   "Interests first" means something less.  The explanation most often heard is that financial advisers are simply required to provide “suitable” or “appropriate” advice for the client.  This means advice satisfies Code Standard 1 by "... placing a client's interests first”, regardless of whether it promotes the best interests of the client. 

If this interpretation is correct then advice could include recommendations to use managed funds produced by an adviser’s firm or QFE that are more expensive than competitor funds, less diversified and/or more volatile.  Advice wouldn't have to be the best (or even second best) solution, just a suitable solution arising from merely placing the client's interests first. 

While it sounds like splitting hairs, the distinction between “acting in the best interests” and “placing client interests first” is an important one.  The distinction seems to be especially important for QFE advisers.

What is a fiduciary duty?

Under laws dating back centuries, a duty to act in the best interests of another person is regarded as a “fiduciary duty”.  The most common examples of fiduciaries are trustees of a trust who have fiduciary duties to beneficiaries, and company directors who have fiduciary duties to shareholders.  A statutory duty to act in the best interests of a client is, in effect, imposing the equivalent of a fiduciary duty.

To satisfy this, advisers would need to know the client’s interests, determine which has priority and then act in their “best” interests.  This is a high standard, and one that clients would reasonably expect their adviser to meet.

What’s the standard for other professions?

Each profession has its own approach to ethical rules.  For doctors the “well being of the patient is … [the doctor’s] first priority” ⁽¹⁾ and they have a duty to “act in the patient’s best interest” ⁽²⁾.  Dentists “have a responsibility to put the interests of [the] patient first. The professional relationship … relies on trust and the assumption that [the dentist] will act in [the client’s] best interests” ⁽³⁾.  Real estate agents “…must act in the best interests of a client…” ⁽⁴⁾.  Elsewhere in the investment industry DIMs providers have a “duty to act … in best interests of clients” ⁽⁵⁾ while fund managers have a duty to “act in the best interests” of unit holders ⁽⁶⁾.   

Why is the standard for AFAs different to DIMs providers, fund managers, medical professionals and real estate agents?  Is the different standard an accident, or rather is it to accommodate institutions exclusively selling “home brand” product?  

What is the experience offshore?

Australian financial advisers “must act in the best interests of the client in relation to the advice”⁽⁷⁾. Their law sets out a number of steps on how this can be satisfied - a very different approach and standard to what has been adopted in NZ.  In the US advisers are currently required to suggest “suitable investments” to clients.  However, the Department of Labour is introducing rules this year requiring that advisers meet a “best interests” standard.  Britain made a similar change in 2013 ⁽⁸⁾.

What standard should advisers work to?

There are a huge number of AFAs the length of NZ who care very deeply about their clients.  They set their own personal standard to act in their client’s best interests.  This is a higher standard than Code Standard 1 which requires an adviser to “place the interests of the client first”.  Code Standard 1 is not a requirement to act in a client’s best interests.

Should the Code of Conduct set the duty of care at the same level as many other professions, namely to act in a client's best interests?  This would hit two targets -  setting a truly professional standard for financial advisers and imposing a duty that clients entrusting their life savings probably now expect anyway.  Until the required standard matches the obligations of other professions, are New Zealand's financial advisers at risk of remaining stuck in an "industry" rather than a “profession”?

John Berry, Director
Pathfinder Asset Management Limited

Disclosure of interest:  John is a founder of Pathfinder and invests in all Pathfinder’s funds. He is not an AFA and does not profess to be an expert on the Code of Conduct (but is interested in seeing the issue discussed).

Footnotes:
(1)  NZ Medical Profession website
(2)  International Code of Medical Ethics
(3)  Dental Council, Handbook for the New Zealand Conditions of Practice
(4)  Real Estate Agents Authority website
(5)  FMA DIMS Guidance Note
(6)  Financial Markets Conduct Act 2013 section 143(1)
(7)  Section 961B of the Australian Corporations Act 2001
(8)  The Economist, 26 March 2016 page 63