In a recent blog post, I wrote about the challenge a rapidly deteriorating change in mental capacity can cause BDs and RRs alike.  Often, we are asked to speak to groups and firms, and this subject is a popular one.   In my view, there are a couple of reasons for this development.

First, FINRA has provided an indication that it expects members to be focused on this issue.

The National Senior Investor Initiative Report stated:

FINRA Rule 1250(b) requires firms to have a training plan that is appropriate for all business activities. Senior investors represent a large percentage of the investing population, and training employees on sensitive senior matters is an important step in detecting elder financial abuse, detecting potential diminished capacity, and understanding the needs of senior investors.   Staff found that most firms incorporate training specific to senior issues into their training plans.

Initially, I must say, the Report’s reference to FINRA Rule 1250 is a bit troubling. The requirement that a firm must have a training program has been a long standing requirement. The implication, however, that if the firm has senior investors and the training program does not specifically instruct on senior issues, the firm risks a Rule 1250 violation is something altogether different. Using this catch-all, FINRA appears to be expanding the scope of the Rule. Putting to the side a clause related to research analysts, Rule 1250 identifies only three matters that must be part of the firm’s training program: 1) general investment features and associated risk factors; 2) suitability and sales practice considerations; and 3) applicable regulatory requirements. Absent from that list are any specifics. Instead, the Rule describes broad categories and subjects of training. It certainly does not describe any specific requirement to provide training on senior issues.

Nonetheless, FINRA is provided some guidance on what it expects and it is perilous to ignore it.

The other reason firms are focused on the mental capacity of senior investors is the difficulty the subject presents. Compliance officers and RRs are not trained clinical psychologists. Identifying the signs of diminished capacity is a challenge and the risk associated with missing those signs is significant. One day, your 77-year-old client, a retired CFO of a Fortune 1000 company, is as sharp as a tack. His complex investment portfolio, which might not be suitable for the average run-of-the-mill investor, is reasonable for him because he understands the risk and it is consistent with his investment objectives. Then, the next time you meet with him, perhaps just a few months later, something is off. He seems confused about his account and his investments. Now what?

If you are a RR, how can you prepare for the possibility? If you are a Compliance Officer, what can you do when your RR reports to you that the mental capacity of the investor suddenly changed?

In my view, a firm’s options become much more limited after the change in mental capacity. As a result, firms should develop procedures for working with senior investors that focus on the front end. These procedures can include the following:

  • Updating account documentation on an annual basis rather than every three years. This update should include having the senior investor sign the confirmation rather than via a negative consent letter.
  • Updating the new account form to include a line item for a durable power of attorney designee.   Require that senior investors initial that box even if they have not yet made such designation. Either way, it’s an introduction to what can be a touchy subject.
  • RRs should invite their senior investors to bring other family members to their meetings. Including family members will go a long way to foreclosing arbitrations initiated by those family members later on when and if the portfolio value declines.
  • Document and take copious notes of your meetings with senior investors. These records will help defend any customer complaint or FINRA inquiry.

Finally, the firm should understand that the type of products it recommends to senior investors could invite additional regulatory scrutiny. As the National Senior Investor Initiative Report stated:

Mutual funds, variable annuities, and equities were most often purchased by senior investor. More complex securities such as UITs, REITs, alternative investments, and structured products were also purchased by seniors, but such purchases were less frequent. Due to the wide-ranging nature of these investment products, it is critical that senior investors are fully informed of the features of any securities they are purchasing, including the potential return and associated risks.

As the firm and its associated persons recommend products that FINRA considers complex (putting to the side that a UIT or REIT is not particularly complex anyway), the firm should make sure that it is clear on the paperwork that the senior investor understands the risks and features of those investments.   There is nothing wrong with incorporating an additional one-page, plain-language disclosure form that the senior investor must sign before the investment is made. That additional documentation can help insulate you should a regulator review and analyze the transaction. It will also give someone like me a strong piece of evidence I can use to defend an arbitration brought by a son or daughter based on trades made by mom or dad.