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Weekend Reading for Financial Planners (May 26-27)

Posted by Michael Kitces on Friday, May 25th, 4:46 pm, 2012 in Weekend Reading

Enjoy the current installment of "weekend reading for financial planners" - this week's edition starts off with an interesting article from the Journal of Financial Planning about how the industry can develop more effective risk tolerance questionnaires, along with a good article reviewing college funding strategies and a review of a new cloud-based software program to analyze all the different possible combinations of Social Security claiming opportunities for couples. From there, we look at a few practice management pieces, from how advisory firms can better build their own brand, to some tips about how to develop trust more quickly in new relationships with prospective clients, to the reasons why clients don't refer (and what to do about it), and the increasing amounts that advisory firms are spending on technology with a focus on ROI. We also look at some articles highlight trends and opportunities in the industry, from the potential fallout in the 401(k) marketplace when the new fee disclosure rules take effect later this year, to the "career arbitrage" that's occurring as one executive after another leaves the custodian, broker-dealer, and investment company environment to take on a position as a principal with an independent RIA. We wrap up with a look at the potential for a "Grexit" - the new term du jour for a potential Greek exit from the Euro - and a striking article from The Economist that asks whether the era of the public corporation is coming to an end, given the resurgence in everything from private equity to state-owned enterprises to partnerships around the globe. Enjoy the reading!

Weekend reading for May 26th/27th:

Risk Tolerance Questions To Best Determine Client Portfolio Allocation Preferences - This article by Michael Guillemette, Michael Finke, and John Gilliam of Texas Tech University in the Journal of Financial Planning examines various ways to measure risk tolerance and evaluates which methods are actually consistent with investor behavior (thereby indicating they are good measures of risk tolerance). The authors evaluate both classic economic-theory-based risk tolerance questions (willingness to accept greater variation in outcomes) and prospect-theory-based risk tolerance questions (which assumes investors place a greater weight on losses from an arbitrary starting point), as well as investors' own ability to self-assess their risk tolerance. The results show that when prospect theory (risk aversion) and self-assessment questions are included in a risk tolerance questionnaire, there is virtually no additional predictive power by using traditional economic-theory-based questions. The study also affirms that risk tolerance appears to decline gradually with age.

A Strategy for Affording College - This article by Kent Smetters of Veritat provides a nice overview of strategies for dealing with the cost of college. No great revelations, but Smetters does a nice job reviewing all the strategies, from just starting savings early and using a 529 plan, to maximizing financial aid assistance and getting student loans, to being sensitive to the price of the school (could a comparable education be obtained for a lower price tag at another institution?), to having children kick in a piece of the cost themselves (and perhaps make them value the education even more?), or tap retirement accounts as a last resort. The article provides some very useful and relevant tips in each category. 

Optimizing Social Security - This article by Joel Bruckenstein in Financial Advisor magazine is not directly about Social Security optimization strategies, but a new cloud-based software offering called Social Security Analyzer that's designed to help advisors do the analysis of different claiming strategies to determine which is best. The software is especially relevant when evaluating strategies for couples, where the complex Social Security rules and restrictions make planning more dynamic than for single individuals, where the analysis is just a matter of maximizing benefits and managing longevity risk. The software recommends an optimal strategy based on relatively straightforward inputs, and also quantifies the impact with unexpectedly short or long life expectancy. Pricing is not cheap, at $750/year (rising to $1,200/year once the initial introductory rate ends); but then again, given the number of clients the tool may be relevant for, the cost per client analysis may be relatively low, as virtually every client will eventually face a Social Security timing decision. Notably, though, the software does have a direct-to-consumer option as well; whether this presents a conflict for advisors remains to be seen. 

3 Ways For RIAs To Build Their Own Powerful Brands - This article by Michelle Draper from Schwab Advisor Services provides a remarkably good explanation of what it really means for an RIA to have a brand (which will be quite different from the brand experience of Apple or McDonalds). As Draper notes, the foundation of a brand for an advisory firm is essentially the firm's reputation - it's "the sum total of other people's perceptions about you and your practice." Draper suggests three steps to figure out what your brand is (or should be): Focus on an ideal client (serving a well-defined group of investors, not just anyone who can afford your services); Be relevant in your target client's life (know what's important to them beyond just the obvious financial issues); and differentiate with a unique value proposition (which should be something more than just being fee-only or fiduciary). Ultimately Draper suggests that you can build on your brand by focusing on: How you look (everything from your business cards to how your staff dresses to the look of your office); How you sound (from communicating with clients to how the staff answers the phone and what your hold music is); to How you act (if you don't walk your talk, it all falls apart). Page 2 of the article also includes a nice brief 2-minute video from Draper highlighting these issues.

Speak the Language of Trust - This article by Bill Bachrach in the FPA's Practice Management Solutions magazine provides a nice primer on good questions to ask to draw prospective clients out and engage them. Noting that ultimately, people skills are more important than technical skills (as Bachrach puts it, you can hire a technical expert to write your plans, but you can't hire someone to be charming for you), Bachrach suggests that you have to focus on and practice your people skills to get better, and provides a good list of questions to ask potential clients (like "what are you most passionate about" and "what's more important in your life than money?") - and follow them up with 'impact' questions (like "and what impact will that have in your life? Once you have achieved ___, what will be the result?"). Once you've made a connection, give them an offer to connect with you further with an easy next step (such as agreeing to another meeting or to send them something relevant in the mail). The article finishes with a nice example of a conversation that puts these tools in action. 

5 Reasons Clients Don’t Refer, and What You Can Do About It - This article by Dan Allison in the FPA's Practice Management Solutions notes that while most advisors rely on referrals to generate new business, few advisors are getting as many referrals as they wish. Allison suggests that there are 5 primary reasons clients don't refer: 1) They don't really value your services (do you really have a process in place to solicit honest feedback to find out?); 2) They don't really understand what you do (most clients just think of the 1-2 services you provide and fail to realize the breadth of what you offer); 3) They don't know you're looking for new clients or what your ideal client even is (If your client was in a room with 100 potential people to refer, how would they know which one is right for you?); 4) They don't know how to give introductions (do your clients just pass along your name to a prospect who never calls you?); and 5) They're uncomfortable (sometimes it's best just to ask the client "how CAN I approach the topic of referrals with you, if at all, in a way that will be comfortable for you and not compromise the relationship we have?").

The Race For ROI: Now Is The Time To Invest In Technology - This article by Tim Welsh of Nexus Strategy starts out well by noting that for most advisors, "the question isn’t necessarily how to spend money on software, hardware and systems; rather it is how to use that technology to get an immediate return on investment (ROI) in terms of simplifying operational tasks, achieving efficiencies in service delivery, creating capacity and scale and ultimately lowering overhead costs." And in today's increasingly difficult and competitive environment, it's more crucial than ever to get effective and efficient with technology. However, Welsh emphasizes that it's important to have a plan for technology, and not to just purchase and implement haphazardly; know what integrates with what, and how it fits into the workflows of the firm. Welsh also points out that in the long run, good use of technology not only increases the profitability of the firm, but also increases the earnings multiple at which the firm can be sold in the future.

Day of Reckoning - This article in Financial Advisor magazine explores the potential fallout when the new 401(k) fee disclosure rules go into effect later this year and retirement account participants see, often for the first time ever, just how much they're paying. While many have predicted the new rules will be a boon to the often-less-expensive fee-only investment advisor, the article points out that there are nuances beyond cost alone; not all plans offer the same investments, the same plan design, or the same administrative capabilities. Which means fee transparency may not just be about driving to lower cost, but instead to more effectively segmenting and benchmarking fees against the type and details of the plan offering. Overall, the article provides some good ideas about how the industry may change, which may be a boon to some advisors serving the space, a challenge for others, and an opportunity for some who aren't there already.  

Career Arbitrage: How Independent Advisors Are Gaining The Upper Hand Over Big Corporations In The Hiring Game - This intriguing article by Philip Palaveev on RIABiz highlights the ongoing trend of independent RIAs hiring away executes from the custodians, broker-dealers, and investment firms that service them. Palaveev suggests that there is a form of career arbitrage going on, where the best from the corporate world are realizing they can better capitalize on their careers by changing tracks and taking a job position - and often an equity position, too - in a growing independent firm. As Palaveev notes, the latest Moss Adams research shows that the average income of a successful RIA owner was $445,382 in 2010, while the average CEO in financial services is paid $285,000 per year with another $264,000 in bonuses... which means the highest paid executives in the industry make only 23% more than the average RIA owner (and of course, non-CEO executives would likely earn even less). Palaveev notes many executives may also be drawn to the smaller family-feel environment of an independent firm, where ideas they have can be implemented immediately. However, it's also notable that the trend does not go the other direction - while executives seem to be having a lot of success becoming RIA principals, existing RIA owners seem to function poorly when converting to executives (e.g., if the firm is bought out by a bank or other financial entity).

Dr. Frankenstein's Europe - In his weekly article, John Mauldin explores the implications of a potential "Grexit" - the new term du jour for a potential exit of Greece from the Eurozone. The most immediate impact from a Grexit may not even be the impact of Greece itself, but the contagion fears as investors wonder which country might be next, and whether the European Monetary Union itself still has legitimacy. And it increasingly appears that few alternatives may be available, as the Greeks continue to resist tax increases and the country's economy continues to shrink; Mauldin also notes that a run on Greek banks is now effectively underway as well, as Greek citizens pull money from their own banks to send abroad in advance of an anticipated departure from the Euro. If and when the Grexit does happen, Mauldin predicts a substantial intervention by the ECB (in the trillions of Euros!) to both shore up the system from the Greek losses themselves, and also to try and slow any bank runs that might occur in Italy and Spain as contagion fears rise (especially since there's no equivalent of FDIC in Europe).  

The Big Engine That Couldn’t - This article from The Economist highlights how increasingly difficult it is for businesses to be public companies that are traded on the stock exchange, as alternative forms of ownership - from private equity to family conglomerates to state-owner enterprises and even a resurgence of LLCs and partnerships - become more popular and a rising tide of regulation makes it more difficult for public companies to succeed. And the trend may already be underway; the number of public companies has dropped by 38% since 1997, and the number of IPOs in 2011 was barely a quarter of the average annual number of IPOs from 1980 to 2000, even while the average time for companies backed by venture capital to reach an IPO has increased from four years to ten. The article notes that this could still be temporary - a fallout of cheap debt and the dotcom bust - although public companies continue to be plagued by three problems: principal-agent conflicts, regulation (especially Sarbanes-Oxley and Dodd-Frank), and a short-termist focus. This article was written on the eve of the Facebook IPO; I suspect the difficulties of that IPO over the past week only emphasize the point even further. 

I hope you enjoy the reading! Let me know what you think, and if there are any articles you think I should highlight in a future column! And click here to sign up for a delivery of all blog posts from Nerd's Eye View - including Weekend Reading - directly to your email!


  • Jean Fullerton

    Planners need to be aware that most of the social security claiming strategy software packages only cover the 'vanilla' situations. Often the software does not handle Gov Pension Offset, Windfall Elimination, dependent children or grandchildren, prior marriages, income from stock options, etc. Even if you pay $1200 per year for a software package, you could miss the widow's benefit that your client is entitled to because it only handles your client's current marital status and ignores prior marital history. The unusual situations ignored by software packages could lead to significant missed benefits or additional penalties.

  • http://yourmoneytalks.com George

    I really like the article - A Strategy for Affording College - It's expensive getting to college and it's also hard to graduate from college with a load of debt. So, it would really be nice and helpful if there is a way to make college affordable as much as possible.

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