Making sense of the market is not easy. The wide use of jargon and vague-sounding financial terms makes the task all the more difficult. Yet, a basic understanding of some of these terms is essential. This blog post will discuss “fiduciary,” a term not fully understood by investors, and some related terms such as fiduciary duty and fiduciary money. Let’s dig in.
Understanding fiduciaries
A fiduciary is an individual or organization that has the legal right to act and make decisions on behalf of the client. In other words, a fiduciary should act in the best interests of clients. The fiduciary has a bond of trust with the client and must avoid conflicts of interest. For example, a fiduciary firm cannot promote its interest above the clients’ interest, such as making an investment that goes against the clients’ investment objective.
In finance, the role of a fiduciary is limited to investment recommendations like buying and selling of investment assets that best suit the client.
What is fiduciary duty?
Fiduciary duty refers to the relationship between the fiduciary and the client/beneficiary on whose behalf the fiduciary acts. The fiduciary relationship is comparable to the attorney-client engagement or a guardian-ward bonding.
The fiduciary duty involves acting in the best interests of the client and maintaining care, loyalty, good faith, confidentiality, prudence, and proper disclosure in client relationships.
A breach of fiduciary duty occurs when the fiduciary fails to act in the best interests of the client.
What is fiduciary money?
Fiduciary money is accepted for its value of confidence as a medium of exchange. For example, fiat money is fiduciary money because the holder of the currency note promises to pay the bearer the value of that money.
In general, fiduciary money is paid in gold, silver, or paper money as they are popular mediums of exchange. In the current financial system, cheques and paper notes are fiduciary money instruments because they are both tokens and carry the same value.
Consumers can also use any other form of fiduciary money besides gold, silver, or paper money. However, the alternative should carry some value and the underlying belief that the promise will not be broken between the two parties exchanging it.
Who is a data fiduciary?
A data fiduciary is an entity or individual that determines the collection of personal data and its processing. It involves the collection, organizing, storing, structuring, erasing, and other similar functions. The processing of personal data is subject to established procedures and storage limitations. It is important to note that collection should only be done for lawful purposes.
The duties of data fiduciaries include:
- Implementing security safeguard techniques like data encryption and preventing misuse of data.
- Instituting grievance redressal mechanisms to address concerns regarding collecting and using personal data.
- Obtaining the consent of individuals before collecting personal data and parental consent while gathering and processing children’s sensitive personal data.
A data fiduciary must act transparently and be accountable for the processes involved.
Examples of fiduciary relationships
Trustee-beneficiary relationship
Here, the trustee, as the fiduciary, has the authority to manage all the assets and wealth of the beneficiary. The trustee should always be loyal and transparent in dealing with the beneficiary.
Guardian-ward relationship
The guardian should be an adult who serves as the fiduciary of the minor. The court appoints a guardian to make all decisions regarding a child’s development in the absence of biological parents. The role of a guardian as a fiduciary will continue until the minor reaches the age of 18.
Attorney-client relationship
The attorney (lawyer/advocate) acts as a fiduciary and represents the client fairly and honestly. It is one of the most stringent fiduciary relationships, and the attorney should always act in the client’s best interests. The court can hold an attorney accountable for failing to discharge duties.
Fiduciary duty vs. suitability standard
Investment advisors must adhere to a specific code of conduct while dealing with their clients. There are two types—fiduciary or suitability standard—depending on the business relationship. Let’s understand the difference between the two.
In suitability standard, the advisor gives investment recommendations based on the client’s age, risk appetite, and long- and short-term investment requirements. In other words, the investment advisor/ brokers suggest financial products that fetch them more commission revenue.
However, the fiduciary standard demands that advisors act more responsibly, upholding the client’s best interests. The fiduciary cannot receive compensation such as a commission or any other monetary incentive for recommending investment products. However, they can charge a fee for the service.
Difference between a fiduciary and a financial advisor
A financial advisor can be a fiduciary, but not all financial advisors can provide services under fiduciary duty. Fiduciaries are financial advisors who undertake to provide financial and investment advice in the client’s best interests rather than their own financial benefit. A fiduciary discloses all relevant personal financial information before undertaking fiduciary responsibilities to maintain transparency and avoid conflict of interest.
Investment fiduciary
Most investment advisors explicitly state that they serve under fiduciary duty. Also, note that such investment advisors work in a fee-only model to avoid biases toward any particular product or services. Any investment advisor who doesn’t charge fees and depends on commission income from the sale of investment products doesn’t serve under fiduciary duty.
If you are taking investment recommendations from CFPs—certified financial planners—the advisor is a fiduciary. The CFP code of ethics states that CFPs, as fiduciaries, must act in the client’s best interests.
Conclusion
A good understanding of fiduciary duty will help you immensely in investment planning. Many investors rely on financial advisors that conform to suitability standards, which is not advisable. The foregoing blog post contains all the relevant information to help you make the right choice. Happy investing!
FAQs
What is a fiduciary in simple terms?
A fiduciary is someone or an organization that acts on behalf of others, prioritizing their interests over their own, with a duty of trust and loyalty.
What is an example of a fiduciary?
A financial advisor acting in a client’s best interest, avoiding conflicts of interest, is an example of a fiduciary. They prioritize the client’s welfare over personal gains.
What are the 5 fiduciary duties?
The five fiduciary duties are duties of care, loyalty, good faith, confidentiality, and the duty to avoid conflicts of interest, ensuring the best interests of the beneficiary.
What is a fiduciary in management?
In management, fiduciary refers to an approach where an entity appoints a third party to manage its assets, known as fiduciary management. This involves efficient execution of long-term strategies.
