The Silver Lining in the DOL Ruling

While the wealth management industry continues to digest the 1,023 page fiduciary rule put forth by the Department of Labor (DOL) an unexpected winner has emerged: advisors with well-diversified portfolios that include alternative investments. Alternatives are an integral tool used by advisors to produce uncorrelated returns and dampen volatility.

Typically, the conversation around the rule has focused on how far the DOL would go in imposing new fiduciary standards across retirement accounts and, specifically, would the new rules result in significant compliance costs making it prohibitively expensive to manage smaller accounts. The fear was the final result would result in reduced access to advice for smaller accounts.

Often overlooked in this discussion is the growing importance of alternatives in an advisor's toolkit to crafting well-designed portfolios for individuals. The original DOL proposal failed to acknowledge the importance of alternatives and it was not until the industry complained that the rule was adjusted.

The DOL rule includes a Best Interest Contract Exemption (BICE). BICE is designed to allow firms to use existing compensation and fee practices, as long as certain steps designed to mitigate conflicts of interests are followed. BICE originally excluded from “core elements” of a portfolio “alternative” assets such as BDCs, non-traded REITs, hedge funds and private equity interests, and only included more “traditional” asset classes such as CDs, RICs, traded shares and REITS, registered bonds.

The industry identified this oversight and highlighted that modern portfolios require advisors to deploy all suitable instruments, including “alternative” investments. The DOL responded by allowing all asset classes to be covered by BICE.

While investors eligible to invest in many alternatives such as private equity and hedge funds, e.g. Qualified Purchasers, are less likely to be impacted directly by the DOL rules, the recognition from regulators that these securities are important to all portfolios and should not be treated as exotic is an important victory.

The new DOL rules may eventually result in regulatory costs that change our industry, including the reduction of choice for smaller accounts, but one unlikely result is reducing access to alternatives. Advisors who integrate alternatives into their toolkit are likely to retain their competitive advantage.

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