My partner recently asked me why I buy him presents that I wouldn’t want for myself. I told him that when you buy a gift for people, it’s all about getting into their head and figuring out what they want, not what you want. It’s challenging to get into other people’s heads so that you understand them, examine the alternatives and get them what is best suited to them. The key here is that it’s not about you; it’s solely about them. This is very similar to the obligations advisors have to their clients.

As professionals, advisors need to get into clients’ heads to understand their present needs and future goals; to determine what their values are (know your client [KYC]). In addition, advisors are obliged to develop a deep understanding and figure out from the multitude of products and strategies available what is best for each of their clients. A single strategy does not fit all clients. (Case in point: see French and Karas et al v. Smith and Stephenson et al, 2012 ONSC No. 115, in which an advisor placed all of his clients into leveraged loans).

Then, advisors need to explain, in a manner that clients understand, both the pros and cons in respect to each product and strategy you recommended. To accomplish this, you need to understand the products and strategies available — even those you do not recommend — so that an explanation of why these other alternatives are unsuitable for the client’s specific needs. The regulators and judges demand evidence of these discussions and what was explained; in essence, a paper trail.

It’s not enough to just send materials to clients and tell them to read these documents. Advisors have told me on several occasions that they “communicate” with clients every month. I learn, however, these are one-way communications through newsletters/mass emails. Newsletters are great for marketing, but they are not a replacement for two-way communication and are not what the regulators or judges mean when they ask for a paper trail to prove what was explained to the complaining clients who insist they didn’t understand the products or strategy. What the regulator means by proof is notes, electronic or handwritten, emails and letters that specifically confirm that explanations were provided.

I once had an advisor client of mine whom I was defending in a regulatory proceeding. Four of this advisor’s clients alleged that he had engaged in discretionary trading and purchased unsuitable investments. When I produced emails and notes confirming telephone calls and meetings on a frequent basis — even though none of the emails or notes confirmed instructions of trades — the regulator was satisfied that it was very unlikely that the advisor had engaged in discretionary trading as he proved that there was frequent communication with the clients.

However, the investments were not consistent with the clients’ KYC forms and there was no evidence of dialogue in respect of the choice of product and strategy. The regulator was unwilling to close the case without a penalty for failure to KYC, know your product and choose products and strategies consistent with the clients’ needs and risk tolerance. The advisor couldn’t prove that he:

  1. understood the products;
  2. explained the products to the clients;
  3. chose a strategy solely in the clients’, and not his own, interests.

Each of these steps can be the topic of a separate article, but you need to ensure that your paper trail can support each of these three steps.
I think my partner understands me better now — as well as the products best suited to me — as he didn’t buy me a fishing rod for my birthday this year. Instead, he bought me a fabulous pair of shoes by a designer who makes shoes for my narrow feet — and I bought him a beautiful diamond ring in my finger size.