Disclosing conflicts of interest has long been a cornerstone of compliance and regulation, but what happens when it still fails to offer meaningful protection for investors?

It's an issue under consideration at the SEC, where an advisory panel recently heard from experts who study disclosure and see a role for the agency to impose greater clarity and simplicity on the current system.

Sunita Sah, an assistant professor at Cornell University's graduate school of management, suggests that the SEC could develop a simple rating system to evaluate firms' conflicts, assigning them a grade or score similar to the ratings that Consumer Reports issues.

"It should be simple in terms of something like a five-star rating system or a grading from A to F," Sah told members of the SEC's Investor Advisory Committee. "This is really important, because if it's that simple, it ensures it's user-friendly and it's going to be interpreted correctly by consumers. So regulators might need to do the hard work of interpreting difficult information so consumers can have disclosures that are simple, salient and timely."

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The SEC is currently evaluating ways to harmonize the regulatory standards for advisors and brokers serving retail clients. That long-running endeavor is rooted in the presumption that investors are unaware of the varying standards governing financial professionals, and aren't able to get a clear picture of conflicts of interest from firms' disclosure documents.

"The average retail investor, I think, has very little chance of fully understanding the nature of these conflicts," said K. Jeremy Ko, senior financial economist at the SEC's Division of Economic and Risk Analysis. "How do we make this situation better? Well, if disclosures are complex, obviously we want to make them simpler. That's number one."

Sah maintains that a rating system using her suggestions of being timely, simple and salient could prompt advisors to limit their conflicts as they seek a higher grade or star rating.

"I think it would be great, ideally, if disclosure could change the behavior of advisors to give better quality advice," she said.

She sees a parallel in the food industry, where nutrition labels have spurred competition among producers and restaurants to offer healthier fare.

"If we disclose calories on food labels, it might not cause us as consumers to consume fewer calories, but it might encourage restaurants for example to put lower-calorie items on their menu," Sah said.

Another parallel can be found in the fiduciary responsibilities that medical professionals owe to their patients, says Lisa Lehmann, executive director of the National Center for Ethics in Health Care at the Department of Veterans Affairs.

In medicine, she says that the responsibility of the doctor to act in the patient's best interest stems from three factors: that the patient is vulnerable; the patient has far less expertise than the doctor; and that the doctor is in a position of trust.

"As we consider the implications of the evidence from health care for retail investor disclosure, we should explore whether these three features also characterize the relationship between a broker and a retail investor: Are retail investors vulnerable? Do brokers have considerable and superior knowledge? And do retail investors trust that brokers will protect their best interests?" Lehmann said.

"Retail investors are unlikely to appreciate fine distinctions between different types of financial advisors," she said, "and may reasonably expect all financial advisors to put the best interests of the advisee above the advisor's own self-interest."

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