A RIA is defined by the 1940 Advisors Act as “any person who, for compensation, engages in the business of advising others, either directly or through publications or writings, as to the value of securities or as to the advisability of investing in, purchasing, or selling securities, or who, for compensations and as a part of regular business, issues or promulgates analyses or reports concerning securities.”
The Investment Advisers Act of 1940 was the last in a series of Acts designed to eliminate certain abuses in the securities industry, abuses which were found to have contributed to the stock market crash of 1929 and the depression of the 1930's. A fundamental purpose of the Act and the Acts that came before it was to substitute a philosophy of full disclosure for the philosophy of caveat emptor (buyer beware) and thus to achieve a high standard of business ethics in the securities industry.
In a Commission report after the crash it was deemed that investment advisers could not "completely perform their basic function - furnishing to clients on a personal basis competent, unbiased, and continuous advice regarding the sound management of their investments - unless all conflicts of interest between the investment counsel and the client were removed." The report stressed that affiliations by investment advisers with investment bankers, or corporations might be "an impediment to a disinterested, objective, or critical attitude toward an investment by clients. . ."
This concern was not limited to deliberate or conscious impediments to objectivity. The Commission was well aware that whenever advice to a client might result in financial benefit to the advisor - other than the fee for his advice - "that advice to a client might in some way be tinged with that pecuniary interest [whether consciously or] subconsciously motivated . . . ." A member of the Commission staff suggested that a significant part of the problem was not the existence of a "deliberate intent" to obtain a financial advantage, but rather the existence "subconsciously [of] a prejudice" in favor of one's own financial interests.
Canons appended to the report announced the following guiding principles: that compensation for investment advice "should consist exclusively of direct charges to clients for services rendered"; that the adviser should devote his time "exclusively to the performance" of his advisory function; that he should not "share in profits" of his clients; and that he should not "directly or indirectly engage in any activity which may jeopardize [his] ability to render unbiased investment advice."
This study and report culminated in the preparation and introduction by Senator Wagner of the bill which, with some changes, became the Investment Advisers Act of 1940.
Hearings were then held before Committees of both Houses of Congress. In describing their profession, leading investment advisers emphasized their relationship of "trust and confidence" with their clients and the importance of "strict limitation of [their right] to buy and sell securities in the normal way if there is any chance at all that to do so might seem to operate against the interests of clients and the public." The president of the Investment Counsel Association of America, the leading investment counsel association, testified that the
"two fundamental principles upon which the pioneers in this new profession undertook to meet the growing need for unbiased investment information and guidance were, first, that they would limit their efforts and activities to the study of investment problems from the investor's standpoint, not engaging in any other activity, such as security selling or brokerage, which might directly or indirectly bias their investment judgment; and, second, that their remuneration for this work would consist solely of definite, professional fees fully disclosed in advance."
The Investment Advisers Act of 1940 thus reflects a congressional recognition "of the delicate fiduciary nature of an investment advisory relationship," as well as a congressional intent to eliminate, or at least to expose, all conflicts of interest which might incline an investment advisor - consciously or unconsciously - to render advice which was not disinterested.
Courts have imposed on a fiduciary an affirmative duty of "utmost good faith, and full and fair disclosure of all material facts," as well as an affirmative obligation "to employ reasonable care to avoid misleading" his clients.