Annuities, Profits and the Fiduciary Standard

There’s a saying on Wall Street: “Structured products are never bought, only sold”. The same could be said of annuities.

Selling annuities is an extremely lucrative and virtually risk-free business, which is one of the reasons why insurance companies and some Wall Street firms are aggressively lobbying Congress not to require brokers and other purveyors of financial products to adhere to a so-called “fiduciary standard.” Under the proposed standard, brokers and insurance salesmen would be required to put their clients’ interests ahead of their own, likely forgoing high-commission annuities for other, more appropriate investments.

Not surprisingly, Morgan Stanley (MS) has voiced concerns that the fiduciary standard would cut into its business. Morgan Stanley has good reason to worry: The firm earned $37 million from selling annuities in the first quarter of 2009 alone, or 1.22% of its noninterest income, according to a report by the American Bankers Insurance Association (ABIA). A Morgan Stanley spokesman recently told Bloomberg that expanding the fiduciary standard to include brokers would impinge upon the firm’s ability, “to provide clients with products and services they want.” Or, perhaps more accurately, don’t want.

Some annuities are suitable products for investors. However, more times than not, they come with hidden costs and penalties (commissions can be as high as 7-10%) that vastly diminish their value. Even FINRA has acknowledged the problem. Richard G. Ketchum, the head of FINRA, recently acknowledged in the New York Times that there, “had long been problems with how brokers disclosed their conflicts and how they pushed products.” Last year FINRA fined Fifth Third Securities $1.75 million for what they declared to be 250 unsuitable variable annuity transactions and five other broker-dealers were fined a total of $1.65 million for unsuitable sales of annuities, mostly to elderly investors with conservative investment objectives.

The securities industry likes to say it supports a broad fiduciary standard, but that’s far from the truth. SIFMA, Wall Street’s lobbyist, has publicly supported a proposal by the House of Representatives which would create a new, “limited” fiduciary standard for brokers only when they are giving “personalized investment advice” to their retail clients. In other words, brokers would have the discretion to decide when they are providing financial advice and when they are selling snake-oil. FINRA also supports the House bill.

Senator Chris Dodd has issued a much needed proposal that removes the distinction between brokers, insurance agents and an investment advisers. This, combined with a comprehensive fiduciary standard, would go a long way to protecting investors.

However, it’s increasingly unlikely that the fiduciary standard, under pressure from the insurance lobby and Wall Street, will ever see the light of day. Once again the interests of individual investors will be ignored.