The proper application of ethics to the investment profession is a highly subjective topic that can raise numerous challenging questions for all stakeholders, including investment advisors, investors and the regulatory agencies.
Ethics for an investment advisor would mean understanding a client’s individual situation and objectives and knowing the right thing to do and doing it. An ethical transaction can be defined to occur when a client truly knows exactly what they are doing and reasons for doing it, with full understanding of the costs and risks involved given the assumption that all pertinent laws and regulations have been obeyed.
Ethical concerns to the forefront
The recent headline-snatching failures of two of listed companies into biological assets and financing has brought ethical concerns to the forefront of public scrutiny. Further, the events following of the rapid surge and the subsequent decline in stock exchange during the period of 2009-2012, led many opponents to bluntly frame the Sri Lankan capital market as a victim of the rise of the malicious “Mafia”.
Adding assertion to this discussion, the Prime Minister, in speech in Parliament during March 2015, elaborated a number of allegations of violations of the Colombo Stock Exchange market rules and Securities and Exchange Commission regulations during this period. His speech further highlighted the names of prominent capital market investors/businessman and also went on to state that only the minor cases were compounded, while 13 large cases were abandoned purportedly on a lack of evidence.
Many reading the events of the above paragraph, would simply perceive the Colombo Stock Exchange as a “den of thieves.” A bastion of greed that provides little or no value to the productive capacity of the Sri Lankan economy. In reality, this is simply not true.
Strength to our nation
While the Sri Lankan capital markets certainly suffers from the same human failings of other institutions, it provides an invaluable source of strength to our nation. This is why it is essential to impart ethics amongst all stakeholders in capital markets, beginning with investment advisors. This certainly prevent any unwarranted unsavoury repercussions of negative perceptions and retarding statements that hinder the growth of capital markets.
Ethical practices must be the norm as well as a primary requisite, whether you are an investment advisor, key investor or regulator. Ethics amongst the investment advisors can be the main road block that prevents disorderly behaviour amongst the key stakeholders and enhances the element of “Trust”, a pivotal component in the development of capital markets.
Importance of ethics
Capital markets consist of many individuals making conscious decisions about how to invest their capital. Ethics is important for our markets because investors need to have confidence that they are playing on a level playing field. Through the practice of market ethics by the investment advisors, investors can judge the quality of service they get from their adviser because they will be able to have virtually instantaneous information to make their investment decisions.
These decisions must necessarily involve a large element of trust or otherwise investors would not make others (investment advisors) the guardians of their hopes and dreams. The hopes and dreams embodied in their hard earned life-savings. In order to maintain this trust, and continue to receive this vote of confidence from a large pool of investors, we must recognise the long-term advantage of building relationships through ethical practices that benefit all parties over an extended period of time.
When conceiving measures that will perceive investment advisors as ethical, debate still remains on the moral framework of compensation that is an integral part of an investment adviser. Since ethics by itself is subjective, the requirement must embody that the client’s interests ahead of the employer or advisor at all times and in all situations.
A key drawback is that there is no central ethical resource that is available to the investment advisor in many circumstances. For example investment advisors in the Colombo Stock Exchange are commission-based brokers. They can consult their supervisors or compliance departments on certain matters, but they are likely to get business enhancing answers to many of their questions. The end result would be that a profitable transaction would be created for the broking firm with a sizeable commission, but may not address the true investment objective of the client.
The similar can be debated about the nature of and level of advice that is provided by an investment advisor. A good investment advisor will be held to a fiduciary standard that requires the client interest be first at all times. As explained in the CFA program an advisor or the advisory firm should have a comprehensive understanding of the client situation, meaning that the advisor should thoroughly discuss the needs and circumstances and carefully match financial products and services to the situation (Source: CFA Institute’s Statement of Investor Rights).
In addition, the advisor should embody a manageable client base, a solid business continuity plan, understanding, clear communication and clean disciplinary history.
Ethics can safeguard the interest of investors. However, ethics must be universally adopted by all stakeholders including investment advisors, investors and regulators. Ethics must be practiced mainly by investment advisors and that should transcend to the other stakeholders. Ethics in investment planning should be vividly practiced in both compensation arrangements and when providing investment advice. The result will be a level playing field for all investors that would culminate to a growth in capital markets.
[The writer is the Managing Director at LTC Ltd., a financial services firm operating in Sri Lanka. He has a BEng (Hons) in Chemical Engineering degree from the University of Nottingham, United Kingdom and a MBA from the University of Colombo. He is also a Chartered Financial Analyst. He can be reached via email on firstname.lastname@example.org.]