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Making Sense of the Merrill Rule

Posted by: Lauren Young on April 12, 2007

Last week many of the independent financial advisers I speak to were jumping for joy at a decision by the U.S. Court of Appeals for the District of Columbia Circuit. That court vacated a controversial SEC rule which exempted fee-based brokerage programs from the Investment Advisers Act of 1940.

“Today is a historic day for the advancement of the financial planning profession,” said Financial Planning Association President Nicholas A. Nicolette, CFP, who called the ruling a victory for consumers. “This rule should have died a quick and merciful death a long time ago.”

If the ruling stands, it means that broker-dealers will not be able to avoid the fiduciary standard of care when giving advice for a fee, something the “Merrill Rule” has allowed until now. “And, as you may know, the brokerage lobby behind the Merrill Rule is HUGE by comparison to the 60,000 to 70,000 or so investment advisors,” says James Stehr, a financial adviser in Alameda, Calif.

What do you think? Should advisers who work for a brokerage house be required to put their clients’ interests first?

Reader Comments

Jack Krupansky

April 13, 2007 10:44 AM

The real problem is a need to completely separage "brokerage" from "advice".

"Brokerage" is a *sales* function, not an advisory function. And I don't mean simply execution of buy and sell transactions for securities. The primary function of a so-called "broker" is to *sell* products and services that are created or managed by the investment banking and "execution services" sides of the so-called "brokerage" firm. In the old days that meant encouraging lots of stock transactions and peddling "offerings" of stocks and bonds. In the "bad" days it meant peddling mutual funds that offered the firm a kickback of some form. These days, it means offering the service of "managing" your money for an annual percentage fee. But in all cases, the so-called "brokerage" firm is still in the business of *selling* products and services that the investment banking and execution services portions of the business profit from. "Selling" advice may sound like a service, but at a "brokerage" firm it is really more of a collateral activity to induce demand for the actual products and services that benefit the investment banking and execution services sides of the so-called "brokerage firm."

That is the key difference of an independent "advisor": they don't have investment banking and execution services interests to peddle.

The point here is that someone whose very position is by its very nature a *sales* position has a first obligation to the interests of the *seller*. Sure, we should have some solid rules to protect buyers, but the important rule protecting buyers is to sternly warn them that sellers are *not* and can never be a great source of "advice".

The idea that a "broker" whose ultimate job is feeding the investment banking and execution services sides of the "brokerage" business can act as an objective "advisor" is truly laughable.

Another related issue is that so-called "brokerage" firms are earning increasing profits from their in-house "proprietary" trading desks. In other words, the firm is trading for its own account. And, the assets of retail clients are part of their "kitty." Your assets are "on the books" as belonging to you, but once you hand them over to the "brokerage" firm to "manage", they can utilize them to fuel the in-house trading operation. For example, your stock can be "borrowed" to permit a short sale.

In short, there is far too much "stuff" going on at a typical "brokerage" firm beyond the comforting words of your "broker" to even condone the use of the term "advisor" within the context of a so-called "brokerage" firm.

-- Jack Krupansky


April 21, 2007 8:45 AM

I do not like professional money managers nor financial advisors. I am averaging 20% monthly return trading my account. Why would I ever seek advise from anyone!


July 5, 2007 8:06 AM

"Why would I ever seek advise from anyone!"

Because they know how to spell "advice?"

So far, I have been pretty healthy by eating well and exercising. Why would I ever see a doctor?
Sounds silly, doesn't it?

If you are AVERAGING 20% a month...if I may be so bold as to suggest you are taking on an extremely dangerous amount of risk. I hope that those funds are indeed a very small part of your total portfolio. Best of luck.

Steve Selengut

July 9, 2007 6:42 AM

How about posting a book...

The Brainwashing of the American Investor: The Book that Wall Street Does Not Want YOU to Read is all about this issue.


July 12, 2007 4:24 AM

The problem with this ruling is that the fee only product is NOT better for the client since you cannot exclude cash or muni bonds from the fee, the non managed part of the portfolio, driving up the clients cost.
The court could have left the existing products in place, which the clients loved as shown by the $s invested in them and just put a fidiciary standard on them.

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Bloomberg Businessweek’s Ben Steverman focuses on the latest moves in financial markets and emerging trends in stocks, bonds, and funds, always with an eye toward giving readers a better understanding of the sometimes confusing and often chaotic world of money. Standard & Poor’s senior index analyst Howard Silverblatt will also provide his take on companies’ finances and the markets. Voted one of the “Top 100 Finance Blogs” in 2007.

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