Exclusive: New European Legislation Would Outlaw Banking Sales Commissions

The European Commission has drafted a major new bill to ban bankers from accepting fees and commissions on financial products they offer to customers. Investors suffered major losses in the financial crisis from risky investments that quietly earned banks high commissions.

Banks in Germany and around Europe would be affected by the legislation (justinpickard)

By Markus Zydra SÜDDEUTSCHE ZEITUNG/Worldcrunch

When a client goes to a bank, he or she should expect to be treated fairly. Yet personal bankers are under more and more pressure to sell, and increasingly recommend investments that will earn the bank particularly high commissions. According to information obtained by Süddeutsche Zeitung, the European Union wants that all to change. And the new initiative is not just about defending clients’ rights.

Many people believe that financial advice from bank experts is free because – unlike consulting a tax advisor, for example – no bill is ever presented for services rendered. This is deceptive, however. Banks earn commissions when they sell financial products, a fact that large number of clients don’t realize. So it is entirely possible that when a bank recommends its investment fund, it’s thinking less of the good of the investor than of of meeting its own sales targets. A 2006 landmark ruling of the German Federal Supreme Court highlighted such reasoning.

Five years later, the European Commission wants the payment of commissions to banks and asset managers halted with no exceptions. The information was obtained by Süddeutsche Zeitung from an internal working document on the revision of the EU’s Markets in Financial Instruments Directive (Mifid).

“Investment firms may not accept fees, commissions, or other monetary advantages for independent advice,” the draft reads. The EU Commission is scheduled to announce their definitive position in Brussels on Thursday.

That this should be happening right now is no coincidence: the weakness of present advisory practices was brought to the fore by the financial crisis. Many investors suffered major losses from risky financial products that earned the banks high commissions. This was the case, for example, with Lehman Brothers products. Many banks were sued for damages, and some of the court cases are still on-going. Investors want the banks to refund them, and financial institutions are pushing back. The result is that client trust that was built over decades has been largely shattered.

Forbidding those who sell securities to accept sales commissions would change the financial advisory services market completely. "It would be a revolutionary step, because henceforth clients would be aware of the fact that financial advice is not free,” says Andreas Tilp, a capital markets attorney based in Tübingen, Germany.

Curbs on high-frequency trading

Concretely, what that means is that the banks would have to present a bill for services. Clients would thus be paying a fee for their bank expert to give them good advice. The theory is that the investor would thus feel more sure that the advice being given in his or her interests, since they’d paid for it directly. In Great Britain, a ban on sales commissions for investment products is already in place. The EU Commission’s proposals would have to be approved by the European Parliament and EU Council of Ministers before going into effect.

For the capital market, the EU Mifid (Markets in Financial Instruments Directive) was by far the most important piece of legislation in recent years. Since November 2007, it has overseen the rules for securities trading in Europe. The Commission’s new proposal aims to get a handle on the speculative practices that make financial markets so volatile, including high-frequency trading. The Commission is also looking at more transparency for over-the-counter derivatives trading in the interbank market.

"The financial system has to work more responsibly for the economy and for society as a whole," the Mifid draft states.

But the devil is in the details. For example, the ban on commissions pertains to “independent” financial advice. The sector is already looking for loopholes. "Banks could tell their customers, for example, that their advice is not independent,” says Tilp. But will investors buy it?

Read the original article in German

Photo -justinpickard