Misinformed Consent

There are some phrases that are used in all manner of contexts that are widely understood with a wry smile, but seldom contemplated with the serious effort leading to some sort of metaphysical mega-truth. One of my favourites is: “It ain’t what you don’t know that gets you into trouble, it’s what you know for sure that just ain’t so.” That little observation about the human condition has been mis-attributed to several humourists, including Mark Twain. The truth is that no one knows for sure who said it first. That’s especially ironic because there are lots of people out there who purport to know very well who said it, thereby demonstrating just how universal and applicable the phrase is.

There’s a second quip that I like almost as much. Given that it is more serious, I suspect fewer people have heard it. It is this: “No reasonable person would consent to being given bad advice.” In the world of personal finance, so much of what is covered by industry regulation revolves around the notion of informed consent. The problem here is that investor acquiescence is seen as a proxy for proper disclosure and conduct.

Now, let’s combine the two concepts to see where that takes us. How should we react to a situation where there are people who give advice based on concepts that they believe to be true, but are, in fact, not true? What happens when good intentions give way to bad advice? If I give you advice based on misinformation and you accept and act on that advice, does that constitute “informed consent”?

I am a lifelong proponent of informed consent, but I also believe that there should be a recognition of a necessary premise. That premise is that the options under consideration should be presented fairly and accurately. I consulted Wikipedia for a readily-accessible definition and here’s what I found: permission granted in the knowledge of the possible consequences, typically that which is given by a patient to a doctor for treatment with full knowledge of the possible risks and benefits. The write-up after the definition goes on to say that: an informed consent can be said to have been given based upon a clear appreciation and understanding of the facts, implications, and consequences of an action.

People who know me would also know that I have long yearned for financial advisors to be thought of (and held to the same standards) as doctors, dentists, lawyers and accountants. Given the definition, there are a few questions that might follow:

• If people don’t really understand their options, can informed consent ever truly be provided?
• If the people providing options don’t properly understand the salient details of what they are recommending (i.e., if they are unwittingly giving bad advice), does the acceptance of that advice constitute “informed consent”? Wouldn’t the term “misinformed consent” be more appropriate?

Stated differently, is informed consent even possible if the options being forwarded for consideration are incomplete, inappropriate or downright incorrect? Sure, you might consent. You might have been ‘informed’ about your options from someone who has good intentions (i.e., who is not trying to mislead you). However, if the person making the recommendations is misinformed and is making the recommendations based on misguided beliefs, we have a moral dilemma. If the intentions are good, but the advice is nonetheless bad, how do we characterize the acceptance and implementation of that advice? Would your opinion change if the person giving the unwittingly bad advice refused to change the advice once the error in her ways was pointed out to her?

In May, I released my book STANDUP to the Financial Services Industry. What you’ve read so far constitutes a summary of the problem it explores. In late 2016, an academic paper entitled The Misguided Beliefs of Financial Advisors was released that showed beyond any reasonable doubt that advisors believe certain things that are untrue. The question most people will ask themselves is: “How could this be?” The question most people should be asking themselves, however, is: “What should I do about it?” Irrespective of why advisors believe things that they shouldn’t, the most pressing challenge is to find specific, actionable ways to overcome the associated risks.

You should be terrified. Imagine if you went into a doctor’s office and told him you were a pack-a-day cigarette smoker and he just kept on talking as though you had told him you were an Ottawa Senators fan. If the information was interpreted as being essentially irrelevant (despite being highly unfortunate), you’d be well within your rights to be concerned. We’re now at the point where it is pretty much impossible to imagine a doctor (or anyone else, for that matter) being oblivious to the harmful impact of cigarette smoke. The same cannot be said regarding the investing public, or even financial advisors, regarding mutual funds these days. It seems many advisors do not have a clear appreciation and understanding of the facts, implications and consequences of their recommendations. Specifically, the paper showed that advisors, while well-intended, frequently chase past performance, pay insufficient attention to product cost and are prone to recommend concentrated positions.

Regulators have been told about this problem repeatedly and have done absolutely nothing about it. Far too many advisors believe things that simply are not true, yet no one seems inclined to do anything to disabuse them of their unsubstantiated viewpoints. By way of illustration, I’d like to draw on passages from the transcript for the roundtable discussion associated with comments on paper 81-401 regarding mutual fund fees held on Friday, June 7, 2013 at the Ontario Securities Commission office. I was delighted to be asked to serve as one of the presenters that day.

One of the other presenters for the panel I was on was Peter Intraligi, the CEO of Invesco. Mr. Intraligi spoke in favour of maintaining embedded compensation structures. In fact, his comments included the passage: “While we acknowledge that compensation can play a minor role in the advice channel, the fact is the main driver of flows is a fund’s performance and its ability to preserve capital.” This still strikes me as an acknowledgement that recommendations are made based on past performance, even though there have been about a dozen studies that have shown conclusively that past performance does not persist and should not be relied upon when choosing investment products. Indeed, every prospectus under the sun has carried a disclaimer to that effect for the past quarter century.

Mr. Intraligi went on to say that: “Since the market downturn in 2008, new money flows shifted sharply towards funds with 4- and 5-star Morningstar ratings, which represent less than 20 percent of all funds in Canada. Yet, this limited number of funds accounts for 100 percent of the industry’s net flows each of the past five years. Clearly, assets migrate to products with a demonstrated long-term track record of exceptional performance, as they should.” I was gobsmacked. Beside the fact that he did nothing to explain what he meant by “long-term” (I’ve seen mutual fund rating books referencing the term and applying it to timeframes as short as three years), the presumptuousness was astonishing. If someone said choosing investment products based on the reading of their tea leaves was acting “as they should”, surely regulators would have questioned the speaker. Nonetheless, there is no evidence that past performance is any more reliable than tea leaves regarding product selection. No one questioned him.

When my turn came, I referenced one of the giants in modern finance, Nobel laureate and professor Bill Sharpe of Stanford University. I used a quote from Mr. Sharpe, who said that: “Extensive, undeniable data show that identifying in advance any one particular investment manager who will, after costs, taxes and fees, achieve the Holy Grail of beating the market is highly improbable.”

The problem is simple: many (most?) advisors believe things that are simply not true. Meanwhile, we have corporate leaders making submissions to regulators by telling bald-faced lies and positioning them as matters of fact without being challenged by the regulators. The problem is that no one (including the regulators themselves, it seems) recognizes that they’re lying in the first place. As a result, the misinformation persists indefinitely, and no amount of traditional regulatory reform will get us any closer to a sensible world where advisors make recommendations based on evidence instead of wives’ tales. The abstract to the misguided beliefs paper concluded with the ominous warning that: “policies aimed at resolving conflicts of interest between advisors and clients do not address this problem.”

The solution, I believe, does not come from improved disclosure or the elimination of embedded compensation or better investor education. None of those things will cause advisors to think differently. Because of that, none of those things will cause advisors to make more appropriate product recommendations to their clients. For nearly a generation, I’ve been trying to get advisors to recognize their own biases and to make recommendations based on evidence. The crickets are chirping louder than ever. If regulators cannot compel advisors to think and act differently and no amount of logic can persuade advisors to think and act differently, it may very well be up to investors to lead the revolution.

My experience is that advisors have been defiant in the face of evidence that refutes so many of their presumptive value propositions and product recommendations. These same advisors unapologetically make recommendations that have little or no basis in fact while simultaneously insisting that they are looking out for their clients’ best interests.

STANDUP to the Financial Services Industry arms investors with facts. It explains what advisors believe and how they think, but more importantly, it also offers dozens of specific questions to help readers determine just how blinkered their advisor might be, along with the sourced material “answers” from some of the world’s leading financial economists and research houses that emphatically refute the answers that many advisors are likely to give. Those resources (research papers, real time performance data, etc.) are also available on my website: www.standup.today.

This is NOT a conflict of interest problem. This is a situation where advisors believe things that are not reliable and make recommendations to unsuspecting investors based on those unreliable (read: misguided) beliefs. In other words, this is a behaviour problem. To date, advisors have stubbornly resisted evidence because they seem to prefer happy lies over inconvenient truths. The sincerest apology is changed behaviour. If your advisor is unwittingly giving you bad advice yet will not acknowledge as much even after you demonstrate that to be the case, then it’s time to switch advisors.

John J. De Goey, CIM, CFP, FELLOW OF FPSC™ is a registrant with Wellington-Altus Private Wealth Inc. (WAPW). WAPW is a member of the Canadian Investor Protection Fund (CIPF) and the Investment Industry Regulatory Organization of Canada (IIROC).

The opinions expressed herein are those of the author alone and do not necessarily reflect those of WAPW, CIPF or IIROC. Investors should seek professional financial advice regarding the appropriateness of investing in any investment strategy or security and no financial decisions should be made solely on the basis of the information and opinions contained herein. The information and opinions contained herein are subject to change without notice.