The REAL Meaning of Fiduciary Duty for Investment Advisers

The concept of “fiduciary duty” is the highest standard of care imposed with respect to an adviser’s relationship with their clients.  As fiduciaries, advisers are expected to always act in the best interest of their clients and demonstrate a duty of loyalty to them. They must not put their personal interests before those of their clients and must always provide unbiased guidance to them.

Although investment advisers recognize that they owe this fiduciary duty to clients, they might not be fully aware of all aspects of the scope of that relationship.  In simple terms, a breach of fiduciary duty is the most serious transgression an adviser can commit.  In today’s business environment, even an inadvertent breach of this duty has the potential to trigger significant legal, financial, and regulatory concerns.

Section 206 provides the general framework for this topic under the antifraud provisions under the Investment Adviser’s Act of 1940.  It establishes the fiduciary duties that are owed by investment advisers to their clients, regardless of whether they are state or SEC registered.  Section 206 prohibits investment advisers from engaging in fraudulent, deceptive, or manipulative conduct with respect to their advisory related activities and includes prohibitions pertaining to misstatements, as well as omissions of material facts.

The concept of fiduciary duty encompasses much more than just being honest with clients and avoiding negligence.  It is not enough that advisers merely avoid conflicts of interest by disclosing them.  Advisers must also avoid situations that might be perceived as creating a conflict of interest, even where such conflicts may not actually exist.

The fiduciary duty owed by the adviser to their clients also includes, but is not limited to, the following:

• Duty to provide disinterested advice;
• Duty to give thorough written disclosures of potential or actual conflicts of interest on their Form ADV and/or advisory agreement;
• Duty to disclose all applicable fees, charges, and relevant business practices;
• Duty to maintain strict confidentiality;
• Duty to refrain from engaging in prohibited transactions. 

In numerous deficiency letters, the SEC has told advisers that they also have a fiduciary duty to establish a process for responding to emergencies, contingencies, and disasters so that client’s are not harmed in the event of a disruption which affects the adviser’s business.  If an advisor has not established a comprehensive disaster recovery plan, this may be viewed as a breach of fiduciary duty.   

Furthermore, as the concept of fiduciary duty continues to evolve, there is some evidence that it may also be construed by both the regulators and the courts to include the duty to vote proxies and potentially even pursue class action lawsuits on behalf of clients – depending on the facts and circumstances surrounding the situation.

Lastly, although the Investment Advisers Act does not expressly impose a suitability requirement, the SEC still maintains that investment advisors have a fiduciary duty to ensure that their advice is suitable in view of the client’s financial situation, investment objectives, and risk tolerance.  Accordingly, an advisory firm must be prepared to document that any investment recommendations made are suitable for the client.