Brent Sheather: Whew! Exam passed, now where were we

It is a stressful time for financial advisers and stockbrokers, and not just because financial markets can't decide whether we are heading for inflation or deflation.

An estimated 5000 advisers have to sit the Standard Set B Knowledge of the Code and Consumer Protection Laws exam; a pass in which is compulsory for any adviser offering a full financial planning service and intending to be in business after June 30, 2011.

Specifically, Code Standard 15 of the recently adopted Code of Professional Conduct for Authorised Financial Advisers (the code) says "an Authorised Financial Adviser must have a knowledge of the Act, the Code and other legal obligations relevant to the operation of the Authorised Financial Adviser's practice as a financial adviser (including relevant consumer protection laws), that is adequate for the proper operation of that practice".

So to stay in business every financial adviser who deals in complex products such as shares, bonds and property must attain unit Standard Set B.

What this means is you have to pass an exam comprising 30 multiple choice questions which you have an hour to complete. Passing it is no piece of cake and, for financial advisers, it certainly is no joke.

A pass mark of 70 per cent is required as well as achieving 50 per cent in each of the sections. I spent about three full days preparing for the exam and found the test reasonably challenging but, fortunately, managed to scrape through.

Thank goodness Standard Set B is out of the way, not to mention all the other exams I had to do. But when everyone has done the exams will the financial advisory industry actually change or will it go back to business as usual?

The bottom line for the public is, will advisers actually, as set out in the code, "place the interests of the client first and act with integrity?"

Will they, for example, when considering buying international shares for a client, look seriously at exchange-traded funds that pay no trailing commission and that are listed on the stock exchange? Or will old habits prevail and they opt for a local managed fund paying commission and trailing fees with annual management costs six times that of the exchange-traded fund?

Will the stock broker who receives a call from a new client wanting to know a good stock to buy: a) tell him he is an idiot and needs to own 50 stocks to be properly diversified, b) look up the list of his firm's corporate clients and pick one of those, c) look at what recent IPOs the firm has done and support their price post IPO, d) look at what the stock brokers on TV last night have recommended and copy them?

Personally, I'm not all that hopeful for much in the way of change. But one message that comes through loud and clear is that consumers now have a number of potential new low-cost remedies for bad advice.

So advisers will need to not only do the right thing but be careful that they don't take on any difficult clients likely to cause them grief down the line.

The code sets out, presumably for those advisers who weren't sure, what standards of behaviour are acceptable in terms of disclosure, conduct and performance.

Disclosure primarily relates to telling the client how much the adviser is paid, how and by whom. With disclosure statements, a good rule of thumb is that the larger the disclosure statement the more wary the client should be.

Disclosure here lets investors know the potential for advisers to be biased, so the less on the page the better the deal Mum and Dad are likely to be getting. Many advisory firms' disclosure statements run for several pages. Say no more.

Currently transgressions of these issues are dealt with under the Fair Trading Act and the Consumer Guarantees Act. What is new is that there will now be the possibility of low-cost and swift disciplinary action if an adviser breaches these standards which are set out in the code.

If Mum and Dad think their adviser has ripped them off, they can complain to the Securities Commission, which will convene a meeting of a disciplinary committee.

Its powers include stopping the adviser doing business.

The other area where things will be different for naughty advisers is covered in the last part of the exam, where the questions looked at the consequences of bad behaviour under the code.

For a start, all advisers will have to belong to a new authorised disputes resolution service (free for investors) that works like this: if Mum and Dad get a bad deal from XYZ adviser, they can complain direct to the adviser's dispute resolution scheme provider.

The financial planner is first given the opportunity to resolve it direct with the client.

If no resolution is available here, the next step is that the dispute resolution provider (DRP) gets information on the dispute from both parties and exchanges this information with each party.

If there is no resolution at this point, the DRP convenes a meeting between all parties. If no agreement is reached here, the DRP considers the facts itself and recommends a settlement.

If Mum and Dad agree that is it; the financial planner has to accept the remedial action proposed. If, however, Mum and Dad aren't happy, the next step is the courts.

Importantly, up until this point there is no cost to Mum and Dad. This is significant because, in recent times, many people have had bad advice but have decided not to go to court because of the time and cost involved.

A key point here is the important role of the DRP. When picking an adviser Mum and Dad should check out who the adviser's DRP is and possibly enquire as to their experience and appropriateness for the role.

I spoke to one dispute resolution service whose chief executive told me that his company apparently has a panel of industry experts who will actually make the decision as to whether an adviser has done wrong and what remedial action is appropriate.

I asked him who these people were and how we could be sure that they are not conflicted themselves. Obviously Mum and Dad wouldn't be happy if the panel comprised four financial planners who were mates of the accused.

Similarly, it wouldn't be helpful if these people weren't in touch with the issues and practicalities of the financial advisory industry in New Zealand.

He told me that their own team had a background in mortgage broking and finance. Incredibly, they have no one with an investment advisory background working for them.

How efficient and effective is this firm going to be in analysing complex investment disasters and determining culpability if no one has an expert knowledge of the investment markets and, most importantly, what constitutes best practice?

The executive said two more experts were to be appointed and they were intending to address the absence of an investment advisory background and experience. Let's hope so, otherwise this dispute resolution process could turn into a fiasco.

* Brent Sheather is an Auckland stockbroker/financial adviser and his adviser/disclosure statement is available on request and free of charge.