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THE SALE OF UNINSURED PRODUCTS ON BANK PREMISES: THE BIGGEST CONSUMER AWARENESS PROBLEM IN AMERICA TODAY?

It was late last summer when NASAA and the American Association of Retired Persons (AARP) first discussed the need to gather additional information about what appeared to be widespread customer confusion concerning the sale of uninsured investment products on bank premises. We agreed that in order to formulate specific policy recommendations, we would need to know more about the level of consumer understanding of the risks involved in purchasing uninsured products through banks and more about how it is that banks are conducting their investment-related activities.

What we found in a nationwide survey is that the vast majority of American bank customers are unaware of the risks and fees involved in the uninsured investment products, such as mutual funds and annuities, that are now increasingly available at U.S. banks and other financial institutions.

Key Survey Findings

The survey released on January 13, 1994, by the American Association of Retired Persons and the North American Securities Administrators Association was conducted by Princeton Survey Research Associates of Princeton, New Jersey. The results were based on telephone interviews with a representative sample of 1,000 adults living in the United States who reported making financial decisions for their household and also reported using a regular commercial bank. One quarter of the commercial bank customers also use a mutual fund company and one in five (21 percent) use a brokerage company.

Major results of the NASAA/AARP survey include the following:

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The vast majority of bank customers are unaware that mutual funds, stocks and annuities sold at their banks are not insured by the FDIC program.

Fewer than one in five commercial bank customers understands that mutual funds (18 percent) and annuities (14 percent) are not FDIC insured.

Only one quarter (25 percent) of customers at banks where stocks are sold know that these products are uninsured.

Interviews for the NASAA/AARP survey were conducted during the period October 14-October 31, 1993. The margin of error for the total sample of 1,000 commercial bank customers is plus or minus 3 percentage points at the 95 percent level of confidence. The margin of sampling error for results based on a subset of the total sample is larger.

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About two in five customers think mutual funds (39 percent) and annuities (40 percent) sold at banks are FDIC insured. Another 43 percent don't know whether such mutual funds are insured, and 46 percent are unsure whether annuities sold at their banks are insured.

A third (35 percent) of the customers at commercial banks where stocks are sold think these purchases are FDIC insured, and another 40 percent are

unsure.

People who have actually purchased mutual funds or annuities at their bank are no better informed about the risks associated with such investments than are other bank customers. In fact, these purchasers are even more likely than other bank customers to think the FDIC program covers their investment in a mutual fund or annuity sold at a bank.

About half of the people who purchased a mutual fund (52 percent) or annuity (55 percent) at a bank think the purchase was FDIC insured. This compares to 39 percent and 40 percent of all bank customers who think mutual funds and annuities sold at banks are FDIC insured.

Over a third of those who purchased a mutual fund (36 percent) or an annuity (38 percent) at a bank say no one talked with them about the appropriateness (or "suitability") of their investment.

Most people who have purchased mutual funds at their bank are also confused about the costs and fees associated with these investments.

Only 36 percent of mutual fund buyers think they pay a front-end sales load, even though many mutual funds sold through banks involve such a charge.

More than half (54 percent) either believe that there is no redemption fee associated with their mutual fund or are uncertain about the applicability of such a fee in relation to their investment.

In general, a quarter to a third of all those buying mutual funds at a bank do not know if there is a front-end sales load, redemption fee or other management cost associated with their mutual fund.

So, even though banks provide their customers with written disclosure documents about uninsured investments, the material is apparently not effective in communicating important details about the risks and costs of these investments.

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Most purchasers of mutual funds (85 percent) and annuities (63 percent) sold at banks say their bank provided them with a disclosure document about their investment.

Most who remember receiving this information also remember taking the time to read it (86 percent of mutual fund buyers and 77 percent of annuity buyers).

Bank customers trust their banks and rely upon them to provide good information.

Almost nine out of ten (88 percent) bank customers feel they have always received accurate information from their banks about the risks of investing. Only 4 percent believe that they have been misled or misinformed.

Only 5 percent would contact a government agency for help in resolving a problem with an uninsured investment purchased through a bank. Most (82 percent) would try to resolve the problem by contacting someone at the bank.

o Bank customers admit they are less secure in their understanding of the risks in investments than they are about other details of banking.

Large majorities say it is easy to understand the fees and rates their bank charges (82 percent) and the regulations that apply to different bank accounts (75 percent).

However, considerably fewer bank customers (57 percent) say it is easy to understand the financial risks involved in making different kinds of investments through their banks.

o Uninsured investment products sold at banks are marketed more aggressively to older Americans.

While only about a third (34 percent) of all bank customers have been contacted by their banks about investing in mutual funds, 47 percent of those aged 65 and above have been marketed to in such a fashion.

o There are pockets of "below average" understanding of the financial risks involved in bank-sold investments.

Men are twice as likely as women to know that stocks, mutual funds and annuities are not FDIC insured. For example, 29 percent of men know that

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mutual funds are not FDIC-insured compared to only 10 percent of women. On stocks, 39 percent of men know they are not FDIC insured, compared to 15 percent of women. Five percent of widowed or divorced women realize that stocks offered by banks are uninsured.

Even though low-income Americans (making $20,000 a year or less) are almost as likely as higher-income Americans to buy mutual funds, stocks and annuities from banks, they are considerably less likely to know that such products are not FDIC insured. Only 7 percent of low-income bank customers know that stocks and mutual funds are uninsured. Just 4 percent are aware of the uninsured status of annuities. Though awareness of the limits of FDIC coverage rises somewhat with income and education, considerable confusion is evident even among Americans with the most wealth and schooling. For example, only 33 percent of those making $60,000 a year or more think that mutual funds sold by banks are not FDIC insured. Just 21 percent of those with a college education think that annuities sold at banks are not FDIC insured.

The NASAA/AARP findings are consistent with the results of a similar, but narrower public opinion survey released in November 1993 by the U.S. Securities and Exchange Commission (SEC) that focused on consumer beliefs about FDIC coverage of uninsured investments at banks.

What concerns state securities regulators is that more and more we will see the financially unsophisticated consumers -- those who are the least able to recognize sometimes subtle distinctions between bank products -- targeted by bank promotional campaigns. A study by financial researcher Phoenix-Hecht showed that about 20 percent of all newcomers to mutual funds make their purchases through banks. Larry Cohen, a vice president of Phoenix-Hecht observed that novice investors are drawn to banks partly because of familiarity with the institution.10 A study released in 1988 by the Market Facts research firm concluded that "banks will succeed in the sale of nontraditional banking products only focusing on unsophisticated buyers, often first time investors." The authors of the report advised banks to go after the bread-and-butter customers, the "ones who are confused and a little distrustful of financial products."1

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10 Kalen Holliday, "Banks Keeping Up in Race to Lure New Investors," American Banker, December 22, 1993, p. 16.

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Lawrence A. Darby. "To Market New Products, Target the Confused Buyer," American Banker, April 26, 1990, p. 4.

12 Ibid.

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What is significant in this context is that banks are continuing to find ways to benefit from what may be the most important thing they still have going for them -- trust. Surveys show that people continue to have more confidence in banks than other financial institutions. That trust, of course, is rooted in one basic fact: money placed with a bank comes with the federal government's guarantee that it will always be there, even if the bank fails. Although the government insurance does not extend to investment-related products sold on bank premises, that fact is so often downplayed or completely omitted that it not surprising that consumers are confused.

While misleading or inadequate disclosure is a problem in this connection, so too are identical or similar names. The reasoning behind common or similar names appears to be simple: a bank's name can be a powerful draw in a local market. A good example of how it is that banks trade on the trust they have built up may be found in the case of the Minnesota bank that was planning to put financial planners in several branches. The bank decided to identify the planners as employees of the bank's brokerage affiliate (which had a name similar to that of the bank) because a pilot program revealed that bank customers were more comfortable when they believed that the planners were affiliated with the bank.14

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CAPITALIZING ON CONFUSION:

A LOOK AT BANK SALES PRACTICES

An informal state-level's look at the marketing, promotional and sales activities of banks offering uninsured investment products provides startling anecdotal evidence that may help explain why it is that there is widespread consumer confusion and misunderstanding about the risks and fees associated with these products now widely available through

13 Jerry Knight, "Banks Becoming Financial Supermarkets," Washington Post, August 23, 1993, p. A1. Barry Barbash, Director of the Securities and Exchange Commission's Division of Investment Management, commented on the results of the focus group sessions being conducted by the SEC and the Office of the Comptroller of the Currency to gauge how well consumers understand the differences between mutual funds and insured deposits: "One thing that comes clearly out of the focus groups is that bank depositors really do think of banks as bastions of safety." (Debra Cope, "Regulators Probe Public's Knowledge of Fund Risk," American Banker, January 27, 1994, p. 16.)

14 Karen Talley, "First Bank System to Place Financial Planners in More Branches," American Banker, October 27, 1993, p. 17.

15 Twenty state securities agencies contributed information used in developing this testimony. The states include: Arkansas, Colorado, Georgia, Idaho, Iowa, Kansas, Maine, Massachusetts, Minnesota, Missouri, Nebraska, Nevada, New Jersey, North Carolina, North Dakota, South Carolina, Texas. Vermont, Washington state and Wisconsin. The state securities divisions were contacted in mid-February and asked to provide us with information on hand or to go into the banks in their area to gather information on the marketing, promotional and sales activities taking place.