Financial Ethics 101: Fiduciary Duty

By Evan Wu

What is Fiduciary Duty

In simplest terms, fiduciary duty is the duty to act in the best interests of one’s clients. Clients entrust their resources to an agent, called a fiduciary, obliging the fiduciary to use those resources to the benefit of the client. Generally, fiduciary duty comprises 6 duties: duty of care, loyalty, good faith, confidentiality, and disclosure. 

Examples of Fiduciary Relationships

When clients deposit money into a bank, the bankers become fiduciaries. Clients are entrusting their money to the bank with the assumption the bank will use the money to the client’s best advantage. When banks use the money, they should be mindful they are using someone else’s money, not theirs.

When a trustee assumes control of an estate, it is assumed they will act in the best interest of the beneficiaries. Since the wealth they manage is not their own, they have an obligation to use care and discretion when making decisions with the funds. 

Executives of companies are appointed with the expectation they will act in the best interest of the companies. Often, there are legal consequences if they choose to use their power for their own personal interest, such as when they engage in insider trading. 

In short, whenever someone is placed in a position of power or management, it is expected they act in the best interest of those whose assets they are controlling. When acting on someone’s behalf, a fiduciary must act as that person would. 

Duties

Duty of Care: 

Duty of care requires a fiduciary to act with discretion and tact; in other words, the fiduciary must act with care. When managing other’s assets, fiduciaries must do all they can to ensure they have full relevant information prior to making important decisions. In short, fiduciaries must work with the same carefulness as if they were working with their own resources. For instance, a portfolio manager must do all they can to ensure the companies they are investing in will be profitable. 

Duty of Loyalty:

Duty of loyalty requires fiduciaries put their client’s best interests before their own and avoid conflicts of interests. Fiduciaries can be expected to go as far as to completely avoid actions that result in personal gain to uphold the duty of loyalty. For example, a board member of a company is expected not to prioritize their own wealth and use their position to engage in insider trading. 

Duty of Good Faith:

Duty of good faith requires fiduciaries act honestly and in accordance with the law. To avoid scandal and loss of reputation for all involved, fiduciaries must ensure everything is above board. For example, a bank choosing to loan its client’s money to drug traders would be in breach of a duty of good faith.

Duty of Confidentiality:

Duty of confidentiality requires fiduciaries keep client secrets secret. Fiduciaries often deal with sensitive information and must treat this information with the same discretion and care as tangible assets. 

Duty of Disclosure:

Duty of disclosure requires a fiduciary to disclose all relevant information to a client. Clients have a right to all details regarding how their resources are being used. When decisions are made, fiduciaries should provide all the information and reasoning that led to those decisions. When problems arise, fiduciaries should immediately inform clients. For example, when portfolio managers invest in companies, they should let clients know what led them to invest in which companies. 

Ethics Behind Fiduciary Duty

Deontological Viewpoint:

As deontological ethics are often called duty-based, the connection between fiduciary duty and deontological ethics is simple and clear. Actions are intrinsically right or wrong, regardless of circumstances. Deontological ethics holds that ethics are defined by obligation and duty, regardless of the outcome. Because fiduciaries are entrusted with someone else’s resources, they must treat those resources with care and respect out of obligation to the owners. Any breaches of this duty are intrinsically wrong, regardless of the circumstances. Fiduciary duty is clearly derived from deontological ethics.

Consequentialist Viewpoint:

However, fiduciary duty can also be justified from a consequentialist perspective. Fiduciaries’ duty to act in the best interest of their clients bears a strong resemblance to utilitarianism. Often, fiduciaries manage resources for a large number of people. To maximize the amount of good done, the needs of the clients should be prioritized, since they outnumber the fiduciaries. Thus, whether under utilitarianism or deontological ethics, fiduciaries are required to act in the best interests of their clients.

Fiduciary duty arguably aligns with egoist ethics. Fiduciaries often require clients to stay in business and make money. Bankers require investors, and executives require shareholders and employees. If fiduciaries fail to act in the best interest of their clients, they will suffer a loss of reputation and lose clientele. Should banks engage in scandalous behavior, investors will pull their funds, causing a run on the bank. Should executives act selfishly, they will likely lose their jobs. 

Legal ramifications also help keep fiduciaries in line. Fiduciary duty is a legal term as well as an ethics term. Should a fiduciary neglect their duty, there will often be legal consequences. Executives have been fined for neglecting the duty of care and loyalty, and directors have been indicted for breaching confidentiality. To avoid legal consequences, it is in the best interest of fiduciaries to put others’ interests first.

We cannot realistically expect everyone to act morally at all times. People will commit morally wrong acts regardless of duty or obligation and put their own needs before the greater good. Because utilitarian and egoist perspectives sometimes align in the case of fiduciary duty, there often is no conflict of interest. Though fiduciary duty is based on deontological ethics, egoism sometimes allows it to function in the real world. This argument points towards the need for more consequences in the world of finance and ethics. Ramifications, whether legal or monetary, help ensure people uphold their duties. If people sometimes fail to uphold fiduciary duty even when there are consequences, it can be easy to imagine how they would act if there were no consequences at all. 

Works Cited:

“Banker Resource Center: Trust/Fiduciary Activities.” FDIC, www.fdic.gov/resources/bankers/trust-fiduciary-activities/. Accessed 30 July 2023.

Duska, Ronald F., and Richard M. Weber. “Where Ethics Intersects the Fiduciary Duty.” Journal of Financial Service Professionals, vol. 70, no. 5, 2016, p. 23.

“Fiduciary Duty.” Legal Information Institute, www.law.cornell.edu/wex/fiduciary_duty. Accessed 29 July 2023. 

“Fiduciary Responsibilities.” DOL, www.dol.gov/general/topic/retirement/fiduciaryresp. Accessed 30 July 2023. 

“What Is a Fiduciary?” Consumer Financial Protection Bureau, www.consumerfinance.gov/ask-cfpb/what-is-a-fiduciary-en-1769/. Accessed 29 July 2023.