|
|
MAKING CENTS OUT OF THE NEWS
Blog #43
(November 12th, 2009)
WHO’S GETTING KILLED BY INCENTIVE OVERKILL?
By Tom McAllister, CFP®
The warning has gone out to the “wirehouses”. In a recent letter, SEC chairman Mary L. Schapiro informed broker-dealer executives they need to make sure financial inducements aren’t leading to bad sales practices by registered representatives. Schapiro was referring to the longtime common practice among large New York Stock Exchange firms to use large bonuses, enhanced commissions, and other financial “perks” to recruit top producers to their branch offices.
"Some types of enhanced compensation practices may lead registered representatives to believe that they must sell securities at a sufficiently high level to justify special arrangements that they have been given,” Schapiro wrote. “Those pressures may, in turn, create incentives to engage in conduct that may violate obligations to investors.” As one example, she mentioned that special compensation for hitting increased commission targets may motivate some reps to churn customer accounts or to recommend unsuitable investment products to their clients.
Schapiro encouraged broker-dealer firm CEOs and supervisors to be particularly vigilant, “ensuring that sales practices are closely monitored and that investor interests are carefully considered in the sale of any security or other investment product.”
The letter of warning came in reaction to reports that some firms are offering “substantial” inducements to recruit registered representatives. More recently, many of these same firms have added the practice of “retention bonuses” to ensure that their own top producers don’t “jump ship.” Often both upfront and retention bonuses consist of “forgivable loans”, allowing money to be paid up front without immediate income tax liability to the recipient. A typical loan might be equal to 80-100% of the broker's annual compensation, the equivalent of 40-50% of gross income brought to the firm. (In my days as a stockbroker, the range was 25-35%). The loans are then forgiven over a period of five to ten years, contingent upon minimum production requirements that the representative must satisfy.
As a Merrill Lynch broker for seven years, and as an NYSE branch manager with Robert W. Baird & Co. for six years, I have experienced firsthand the pressure exerted upon brokers to “produce”. In some cases there is additional pressure to sell securities the firm has underwritten and taken down for resale.
Most veteran brokers handle these conflicts of interest in a manner not injurious to their clients. After all, their clients are, collectively, the source of their nice standard of living.
The recent trend towards paying retention bonuses is, I believe, a potentially dangerous one, and Mary Schapiro is right to call for caution. Ultimately the costs are being paid by brokers' clients.
|
| |
| |
______________________________________________
| |
Click To Print This BLOG
