Reference no: EM131700390

Hinckley Investments (“Hinckley”) is a registered investment advisory firm. Hinckley provides investment management, financial planning and investment advisory services to individuals and institutions. The firm has grown rapidly through strong investment performance, exceptional client servicing and a personalized approach to portfolio management and financial planning. Hinckley is regulated by the Securities and Exchange Commission (“SEC” ) and must adhere to the Investment Advisers Act of 1940. Hinckley and its employees must act as fiduciaries for their clients. Per the SEC, a fiduciary must act for the benefit of the person to whom he/she ow es fiduciary duties, to the exclusion of any contrary interest (1) . Hinckley requires that all employees sign a code of ethics and read the firm’s ethics manual. All employees are required to put clients’ interests first, to provide full and fair disclosure of all material facts and to expose all conflicts of interest to clients. Joe Phillips and Samantha Williams head Hinckley’s socially responsible investment practice. Socially responsible investing (“SRI”) is also known as socially conscious or impac t investing. SRI is an investment strategy which seeks both financial return and social good. Investments are reviewed for social, governance and environmental factors in addition to investment and financial considerations. Hinckley is a leader in SRI investing. Over the past five years, nearly 75% of its new clients joined Hinckley because of the SRI investment opportunity . Hinckley charges clients a 1% annual fee for its investment management services. The management fee is charged as a percentage of the client’s portfolio value. A $100,000 portfolio would be charged $1,000. Several years ago, Joe and Samantha created an investment SRI screening filter to identify potential stocks for investment. The filter includ es traditional financial factors and metrics such as a company’s expected earnings growth rate , historical returns, dividend yield, beta and balance s heet strength. The filter excludes industries with poor environmental records such as oil companies . Companies that pass the initial filter are further researched. Joe and Samantha review the financial outlook for each company and estimate future earnings and dividend growth to estimate the stock’s intrinsic value. Jo e and Samantha also research each company’s filings for evidence of poor social, governance or environmental behavior . Companies that are found to have no major social, governance or environmental issues and trade at an intrinsic value estimate that is 20% or more above the current stock price are adde d to the firm’s SRI portfolio. Before H inckley lau nched t he S RI p ortfolio s trategy, Joe a nd S amantha b ack -tested th e SRI filter and found t hat a p ortfolio of stocks based o n their SRI filter and in vestment p rocess outperformed th e S&P 500 s tock i nd ex (“S&P 500”), a widely u sed in dex f or U.S. stocks, over th e past 10 y ears. The S &P 50 0 is a passive index of stocks which does require not active investment research or analysis. A mutual fund based on the S&P 500 index may be purchased by i nvestors for an expense ratio of approx. . 05%. The expense rat io is r ecurring o n an an nual basis. A $100,000 p ortfolio would b e c harged $ 50 . Bo b Smith is a Hinckley client and was attracted to the firm’s SRI investment approach. He h as been a Hinckley client for five years. His grandson is a business student at USM and just completed the Financial Management 320 course. He was interested in reviewing his grandfather’s investme nt returns for the SRI stock portfolio managed by Hinckley. Over the past five years, the Hinckley managed SRI portfolio generated an annualized return of 8.2% after fees . This compares to an annualized return for the S &P 500 of 10.3% over the same period . Mr. Smith was surprised to learn that the Hinckley portfolio had lagged the S&P 500 by s uch a wide margin. If Mr. Smith’s portfolio had been invested in the S&P 500 instead of the SRI portfolio, the account would be $250,000 larger . Mr. Smith’s grandson also noticed that the Hinckley managed SRI portfolio had been more volatile and could be considered riskier than the S&P 500 over the past five years . Mr. Smith scheduled a meeting with Joe and Sa ma ntha to review his portfolio. When ask ed about his portfolio’s under performa nce versus the S& P 500 , Joe and Samantha commented that an SRI portfolio is not constructed to match the performance of the S&P 500. Mr. Smith responded “I did not know that my portfolio could end up doing so much worse than the S&P 500. I know that we discussed SRI investing in general but why did you choose a po rtfolio that is doing so poorly? I thought companies that had strong social, environmental and governance practices would be less risky not more risky .” Joe and Samantha responded , “ we discussed and disclosed tha t investing involves risk and your portfolio could decline in value. You also agreed that we would be allowed to select the investments for your portfolio .” Have Joe and Samantha fulfilled their fiduciary duty to Mr. Smith? Should they have done anything different?