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SEC Clarifies Federal Fiduciary Duties of Investment Advisers 

by Scott Moss, Manas Kumar

Published: July, 2019

Submission: July, 2019

 



The Securities and Exchange Commission (the SEC) recently sought to clarify its position on federal fiduciary duties of investment advisers with an interpretation.1The interpretation emphasized how client sophistication and the scope of an advisory relationship affect the fiduciary duties owed to particular clients.


Determine Scope of Relationship


All advisers owe fiduciary duties under the Investment Advisers Act of 1940, as amended (the Advisers Act). The fiduciary duty of an investment adviser under the Advisers Act consists of a duty of care and a duty of loyalty. Regardless of client sophistication, contracts between advisers and clients can never (i) state that the adviser will not act as a fiduciary, (ii) provide a blanket waiver of all conflicts of interest, or (iii) issue a waiver of any specific obligations under the Advisers Act. However, the nature of the client and the scope of the contractual relationship between adviser and client determine the extent of the fiduciary duties. Advisers serving retail clients, particularly in an ongoing relationship, face heightened standards in fulfilling their duties compared to those of advisers of institutions, registered investment companies, or private funds.


a. Duty of Care


i. Duty to Provide Advice in the Best Interest of the Client


All advisers must provide advice that is in the best interest of the client by developing a reasonable understanding of the client’s objectives. The client’s best interest depends on the type of client. Advisers must understand retail investors’investment profiles(collecting, oftentimes periodically, detailed information on an individual’s financial situation, level of financial sophistication, investment experience, and financial goals). Advisers must understand only institutional investors’investment mandates(an investor’s objectives regarding the portion of the portfolio that the adviser is assisting on rather than the objectives of the entire portfolio). For registered investment companies and private funds, advisers need understand and follow onlyinvestment guidelines and objectives(i.e., the constitutional documents). All advisers should consider how a particular transaction strategy would most favor a particular client under the circumstances.


ii. Duty to Seek Best Execution


All advisers must seek the best means to execute trades that will maximize value and minimize costs under the circumstances. Maximizing value does not mean that advisers must use the lowest-possible commission cost. An adviser must consider an expansive list of factors in planning trades. For example, an adviser should periodically and systematically account for the full range and quality of a broker, the value of research, the ability to execute trades, the fees, and the broker’s responsiveness.


iii. Duty to Provide Advice and Monitoring over the Course of the Relationship


The scope of an advisory relationship also influences how frequently an adviser must provide advice and monitor an account. An adviser compensated periodically by an ongoing client should monitor such client’s account extensively (and consistent with any contractual obligations). In contrast, advising on a one-time plan warrants only advising and monitoring for the duration of a consultation.



 

 

 
 

Footnotes:

1 The interpretation is available at https://www.sec.gov/rules/interp/2019/ia-5248.pdf.


 

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