By Steve Lowrie, CFA
Special to Financial Independence Hub
There’s only so much you and I can do about life’s many surprises. Some things just happen, beyond our control. Fortunately, to make the most of your hard-earned wealth, there is one huge and timeless best practice you can control: You can (and should) avoid seeking unbiased financial advice from biased sales staff.
How do you separate solid investment advice from self-interested promotions in disguise? Here’s a handy shortcut: Are the investments coming from your friendly neighborhood banker? If so, please read the fine print — twice — before buying in. Due to inherently conflicting compensation incentives, most banks’ investment offerings are optimized to feed their profit margin, at your expense.
Compensation Incentives Matter … a Lot
I’ve been covering the conflicted compensation beat for years, like in On Big Banks, Conflicting Compensation and Bad Behaviour, and my message has remained the same, for all the same reasons:
Compensation drives behaviour.
It’s human nature. It’s true for Canadian bankers and their investment offerings. It’s also true in the U.S. and around the globe.
For example, a 2017 Consumer Federation of America report, “Financial Advisor or Investment Salesperson?” reflects on this very conflict:
“After all, people expect salespeople to look out for their own interests and maximize profits, but advisors are expected to meet a higher standard. … Investors who unknowingly rely on biased salespeople as if they were trusted advisors can suffer real financial harm as a result.”
Let’s imagine I’m a banker, on a bank’s payroll. Pick a bank, any bank. Assume I’m at any level, from teller to VP. Here’s how my compensation package is likely structured:
- I can expect to earn more if I promote my employer’s proprietary Widget X products over any comparable, but generic Gadget Y offerings. Sure, Widget X will cost my customers more. But by helping me and my bank thrive, aren’t we both better off?
- I and my team may even score special perks if we exceed our Widget X sales quotas. There may be contests, celebrations, or at least positive performance reviews.
- In fact, if I don’t sell enough Widget X’s (or if I sell too many Gadget Ys), my performance reviews may suffer. I could lose my job, or at least not rise in the ranks.
Under these sales-oriented conditions, guess which investment product I’m going to recommend as often as I can? As a bank employee, I may well care about my customers. But the bottom line is that they don’t determine how much or little I am paid for my efforts. When my bank’s profits rise or fall, so does my career.
“Our Way or the Highway” Investments
In theory, banks have plenty of flexibility to structure their investment lineup however they please. They could promote the same low-cost, globally diversified, evidence-based mutual funds and ETFs that independent, fee-based, evidence-based financial advisors typically deploy.
Instead, most banks tend to heavily promote their own, proprietary investment products: built, managed, and priced in-house.
In its title alone, a 2023 The Globe and Mail report speaks volumes about this approach: “Pervasive sales culture at Canadian banks designed to push customers into high-fee products.” Its authors observe:
“The commission earned from selling the bank’s products may be five times higher than on a GIC, for example. In this way, the system incentivizes the sale of funds with higher fees, even when a GIC might be a better fit for the client.”
Suitable vs. Fiduciary Advice
At best, your bank’s compensation conundrums may leave you paying more than necessary for sound investments. Worst-case (and from what I’ve seen, more likely), you’ll end up overpaying for the “privilege” of holding investments that fail to fit your short and long-term personal financial goals.
That’s because your banker may be required to offer products that are broadly “suitable” for you, but as I’ve described before, like in What is the Cost of a Financial Advisor?, they don’t have to be the best choice for you.
There’s a big difference between suitable versus fiduciary advice. Your banker’s role as an “adviser” may sound comforting. But make no mistake. Regardless of their title or compensation, they are not in a fully fiduciary relationship with you; they don’t have to always place your highest, best interests ahead of their own.
No wonder investors are left vulnerable to excessive fees and suboptimal advice, as reported over the years by The Globe and Mail (here, and here), CBC News, the Investment Executive, and many other financial news outlets. As one former bank employee commented in hindsight (after breaking away to offer independent, fee-based advice):
“There is just extreme pressure on [bank employees] to meet quotas, right from the tellers up to what they would call a financial planner… I just kept looking for a place in the banks where I could do real financial planning without being a salesperson and it doesn’t exist.”
The Regulatory Environment
Of course, there are federal and provincial regulations aimed at reducing these sorts of predatory practices, and revisions are ongoing. While we can hope, I would say the results have been underwhelming to date. In general, once industry lobbyists have placed their heavy thumbs on the scale, regulators seem to end up focusing more on increasing disclosures about systemic conflicts in interest, instead of actually removing the conflicts.
For example, in 2018, the Canadian Securities Administrators (CSA) released a pair of proposals with the promising goals of clarifying advisor relationships and addressing embedded commissions. But as I covered then in It’s Official: Canadian Investors are On Their Own, the CSA did not ultimately ban embedded commissions outright, leaving investors vulnerable to this day.
Even if embedded commissions are now subject to increased disclosures, how many investors actually read the fine print? How many of those are equipped to understand the impact? No wonder the practice has been banned in the U.K. and Australia, as it should be here in Canada.
Plus, even when new regulations emerge, the industry often finds unsavory dodges for following the letter rather than the spirit of the law.
For example, in 2021, Canada’s regulators issued a “Know Your Product” rule, requiring banks and other investment dealers to assess, approve, and monitor “all securities made available to clients.” For complex investment products, the rule at least permits, if not encourages dealers to “identify less risky, complex, or costly alternatives that offer similar benefits to its retail clients.”
Seemingly in response to this and other rules aimed at reducing conflicts of interest among Canada’s financial product purveyors, it’s been reported that “Some big banks have even resorted to stripping their product shelves of independent mutual funds.”
Ugh. Out of sight, out of cost-savings mind is no way to protect investors’ best interests.
The Price of Good Advice
If you ask me, all these conflicts are grounded in my initial, timeless premise: compensation drives behaviour.
In this context, your banker is just trying to earn a living. However, this does NOT mean you should heed their conflicted advice or invest in their pricey widgets. You need to prioritize your own financial goals.
What should you do instead? Your bank is a great place to do banking. Open a checking account. Deposit most of your paycheck there. Maybe stash away some savings.
But for the investment portfolio feeding your lifetime wealth, you deserve an independent, fee-based financial advisor providing fiduciary levels of financial and investing advice. Your advisor’s sole source of compensation should be individual clients like you, with no distracting sales quotas, contests, or third-party commissions. Ideally, your advisor will also be well-versed in helping you fit your range of personal and professional financial interests into a harmonized whole: during your career, in retirement, and across your legacy goals.
In short, when it comes to good financial advice, you want to put your trust (and your money) into the hands of someone who has your interests at heart—ahead of their own. And to make sure they will, engage with a financial advisor who is committed to a fiduciary duty to you, not their banking overlords and their own wallets.