Wealth Intelligence

Where are the customers’ yachts?

How commissions will once again line the pockets of the bad and the ugly.

It is with some sadness that I return to the thorny matter of commissions in the financial services industry.

The sadness is because I had thought that this corrupt practice had been ended.

But for reasons that are, at the best, spurious and, at the least, unduly influenced, the current government wishes to re-allow commissions.

I hope that by the time that this note is read, the position will be changed. But this is one outcome about which I am not optimistic.

Should you worry?


Let me remind you of the classic phrase of Fred Schwed in Where Are The Customers’ Yachts? [1]

Some of these other gentry allocate the funds between themselves and their clients in the ancient classic manner, i.e., at the close of the day’s business they take all the money and throw it up in the air.

Everything that sticks to the ceiling belongs to the clients.

The ‘gentry’ Schwed was describing were the financial advisers and stock brokers of his day.

Although there may be a little more transparency these days, human nature doesn’t change.

One of the main reasons for the crippling pain felt by retail investors during the GFC was the failure of investment products that were inappropriately sold.

One of the drivers for the sales of those products was the significant commissions paid by product manufacturers (managed funds, investment schemes, etc.) to the salesmen (financial advisors).

Commissions 101

The essence of a commission payment is that the product manufacturer rewards the seller for selling its product. The reward is an incentive to sell more.

Commissions are fine when buying a car: the salesman is not placed in a position of trust by the customer. For buying a car, it’s really caveat emptor (let the buyer beware).

But for centuries, the common law has recognised that where the buyer (client) and seller (advisor) are in a fiduciary relationship the seller must act ‘for the sole benefit’ of the buyer.

So when an advisor receives a commission or other benefit from third parties (e.g. the fund manager), then the advisor is not acting for the sole benefit of the client.

Disclosure of the commissions or other benefits that are received does not eliminate the fiduciary duty.

What went wrong?

Well, the GFC really shook the tree on commissions.

Many advisors were recommending products that produced the best commissions for themselves, not those that were necessarily in the best interest of their clients.

And so arose the plethora of agricultural schemes, leveraged managed funds and others that paid up- front and trailing

The advisors bought their yachts, metaphorically speaking.

Storm Financial was not the only commission- driven company that crashed into the rocks and took its clients to the bottom of the sea.

We at First Samuel saw first-hand the outcome of this treacherous regime, as victims of the era of greed came to us, hoping that we might somehow repair their broken finances.

The government’s sleight-of-hand

The sadness is not only the policy of the government, but the sleight-of-hand manner by which the no-commission regime is being over-turned.

To dress up the turnaround as abolition of red-tape, as the government has done, is a disgraceful misrepresentation of the character of the legislation.

And for the then Finance Minister, Senator Sinodinos, to say that those who complain about the repeal “don’t come with clean hands,” suggests an unfortunate naivety about the industry.

On the contrary, it might be reasonably argued that those who advocate for the re-introduction of commissions (principally banks, their subsidiaries and large financial planning networks), even on a moderately restricted basis, are, by definition, advocating for themselves to not act for the ‘sole benefit’ of the client.

And hence have hands that are somewhat muddied.

First Samuel’s position

Long-term readers will know that we first presented the case for the abolition of commissions in the year 2000, in a submission to the Senate Select Committee on Superannuation and Financial Services.2

Our policy then, as it is today, is that the payment and receipt of commissions in the financial services industry is unethical and is a breach of fiduciary duty.

Whose yacht?

You should avoid any financial organisation or advisor that pays or receives commissions.

And so finance your own yacht, not theirs.

[1] The author spent two years on Wall Street in the 20s, but knew it better than that and continued to invest in stocks. He wrote the book in 1940 after the horrible bear years of 1929-1940. The memories of the 1920s were still fresh. Then he updated the book in 1955 in the midst of the 50s bull market with a new introduction in which he explained that the book ‘did not need updating’. The title refers to an ancient story about a visitor to New York who admired the yachts that the bankers and brokers had in the harbour. Naively, he then asked where the customers’ yachts were. There were no customers’ yachts.
[2] The submission failed to illicit interest from two members of the Committee: Senator Conroy (Labor) preferred to be elsewhere and Senator Watson (Liberal) failed to understand the concept. Only Senator Alison (Democrats) had any understanding of the issue.
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