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Efficiently Harnessing Market Returns for Investors.

A Position of Trust

Understanding Different Relationships

A key problem with engaging in any business relationship is the legal, conflictual, and incentive issues that the various parties have to one another. With regard to investment relationships, these issues and how they are handled can have a significant impact on the end result for investors. Thus, navigating and getting the relationship right, is quite important.

To help investors understand the types of relationships and how they can affect the investor, here are some important terms and definitions.


The term fiduciary is inclusive of the more than five million people who have the legal responsibility for managing someone else's money, including members of investment committees of retirement plans, foundations, and endowments, trustees of private trusts, and investment advisors. Fiduciary status is determined by facts and circumstances, but generally is defined as a person who:

There are three legislative Acts that form investment fiduciary standards:

The Foundation for Fiduciary Studies has published the Handbook for Investment Fiduciaries that assists Fiduciaries in managing their responsibilities and states the following Uniform Fiduciary Standards of Care:

Important Note: Garde Capital is a Fiduciary to the assets that it manages on behalf of clients on a discretionary basis and Garde Capital is a Registered Investment Advisor (RIA). An RIA by its very nature is a fiduciary.

Brokers Dealers when acting in the capacity of a broker dealer are not fiduciaries. Examples of this are Goldman Sachs, Smith Barney, UBS, Chase, etc. However, sometimes they can simultaneously act as a Fiduciary when acting as an RIA or Trustee, which almost all large financial institutions have the ability to do. Many industry and fiduciary experts argue this two hat ability creates a significant conflict of interest, which although legal, may be troublesome to their true independence in decision making.

Prudent Man versus Prudent Investor

Stemming from common law in the 1830's, originally the prudent man rule directed trustees on how to behave with regard to investments. Over time, as the merits of modern portfolio theory made their way mainstream, several of the principles of the prudent man rule were corrected through the implementation of the prudent investor rule.

Prudent Man Rule
The fiduciary is required to invest trust assets as a prudent man would invest his own property mindful of: the needs of the beneficiaries; the need to preserve the estate or corpus; the amount and regularity of income. Under this rule, certain investments are restricted because each investment is looked at in isolation and the rule states that risky investments be avoided.
Prudent Investor Rule
Under this rule, a trust's entire portfolio is used when considering the prudence of an individual investment. Diversification is explicitly required. No category of investment is deemed inherently imprudent and the beneficiaries' needs are considered as the determinant. Because the portfolio is looked at as a whole, speculation and outright risk taking is not sanctioned by the rule. And fiduciaries are permitted to delegate investment management authority.

Suitability Standard

The suitability standard should not be confused with a fiduciary standard, these are very different obligations that an investment firm has to its clients.

Under the standard Section 202(a)(11)(c) of the Investment Advisors Act of 1940 exempts the definition of Investment Advisor; any broker dealer whose performance of such services is solely incidental to the conduct of his or her business and receives no special compensation This means that broker dealers when acting as broker dealers are not investment advisors and therefore do not have a fiduciary duty.

However, the rules do say that instead of the fiduciary rules applying, a standard of suitability applies. Under that standard the investment firm only needs for the investment to be suitable to the client's needs and they shall make reasonable efforts to obtain the information regarding suitability. The items used to determine suitability are:

Bringing this information together between a fiduciary standard and a suitability standard, there are three combinations that effect clients, Registered Investment Advisors, Broker Dealers, and Duel Registrants (a Broker Dealer that is also a Registered Investment Advisor).

Registered Investment Advisors (RIA's) ‐ A SEC Distinction under the 1940 Act

In 1940 Congress created the Investment Advisers Act of 1940. The intention was to better regulate and monitor those in the business of furnishing investment advice, services, and communication. A loose summary of what the 1940 Act legislation is:

Note also that investment firms are Registered Investment Advisors (RIA's) and the people that work for the firm are Investment Adviser Representatives (IAR's).

Garde Capital believes this is the cleanest, least conflictual, relationship that a client can have with their investment professionals.

Broker Dealers

A broker dealer on the other hand is a person or company that is organized to trade and sell securities for its own account or for the account of others. Notice brokering or selling securities is very different than advising on investments. When executing securities for customers it is a broker, when executing for its own account it is a dealer.

These entities are regulated under the Securities Exchange Act of 1934. When acting as a broker the standard is not that of a fiduciary but only that of the investment being suitable for the client, a lower standard of care.

The compensation that a broker dealer receives is either a fee or commission related to selling a customer a security or trading a position in its own account for a profit. As you could imagine, these things combined create a conflict of interest with the client that can sometimes be managed, but at other times be overtly detrimental to the client, or as it applies to trading securities, the counterparty.

Dual Registrants

The last category of relationship types is the dual registrant. In this case, the institution is both a broker dealer and an investment advisor. This model is capable of bringing more money to the investment firm because the firm now has more revenue sources, fees and trading. The SEC has allowed this assuming certain safeguards are in place to protect investors against the inherent conflict of interest of performing two competing duties. Advocates of this model suggest that the firm can be a broker when that model is more advantageous to the client, and an advisor when that model is more advantageous. But in reality, you mostly see just the opposite, a financial advisor (this term is different than investment advisors) is incentivized to increase firm revenue, they are implicitly encouraged to choose the platform that benefits them most, not the investor.

RAND Study

RAND has a balanced insightful study on this topic that is attached for your further investigation. We have also linked an Advisor Compensation Schedule from one of the large dual registrants. Although this is specific to one firm, most of the other firms like Smith Barney, Goldman Sachs, and UBS financial, all compensate in a similar fashion. As you can see from the schedule, clients are unlikely to have unbiased outcomes due to the complexity and challenges advisors face in making money for themselves.


Because there are various interest groups with their revenue and profit on the line regarding the specifics of who is and who isn't a fiduciary, and what those duties and obligations entail, it's important to have an understanding of the various positions within this topic. One group, The Fiduciary Standard is currently lobbying for five core principles:

We support these standards and will continue to be a client advocate in this area.

Additional Resources - Choosing an Advisor - How do I choose the right advisor? and Five key benefits of independent Registered Investment Advisors.