Academic Paper Questions Assumptions of Fiduciary Principles

(October 20, 2011) — A newly published academic paper asserts that reclaiming fiduciary balance between prudence, loyalty, and impartiality is critical to sustaining pension promises.

According to the article titled Reclaiming Fiduciary Duty Balance — written by James P. Hawley, Keith L. Johnson, and Edward J. Waitzer — better alignment is needed among pension service providers’ interests, governance practices, and risk management policies.

The paper states: “Fiduciary duty is grounded on a relatively stable set of legal principles that have survived for centuries. However, interpretation of fiduciary principles can be quite dynamic. We are again at an inflection point, where our understanding and appreciation of fiduciary duty is evolving rapidly. In response to recent changes in financial markets, economic changes, and changes in the asset management industry, fiduciaries are examining the continued appropriateness of norms and beliefs carried over from the twentieth century.”

The most significant transformations for pension fiduciaries in recent years include the following, the paper asserts:

1) Growth of pension funds

2) Expansion of service provider influence

3) Exposure to systemic and extra-financial risk

4) Focus on short-term returns

The research gives credit to the modern portfolio theory (MPT), noting that it has transformed the legal framework governing fiduciaries. Yet, the paper offers a critique of the theory, noting that “recent developments in economics and behavioral finance have built a substantial critique of many assumptions underlying MPT and related academic theory. An adjustment in prevailing investment theory is likely to follow…” the paper predicts.

Looking ahead, the paper asserts:

“We believe that plan sponsors, participants, beneficiaries, fiduciaries, and advisors could benefit from the development of key performance indicators to help guide pension management practices toward measurable success in meeting fundamental fiduciary goals. This article is intended to provoke an industry discussion focusing on that challenge.”