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Weekend Reading for Financial Planners (July 14-15)

Posted by Michael Kitces on Friday, July 13th, 7:01 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 by Bob Veres, suggesting that most advisors may be undercharging their clients, by as much as 50%! From there, we look at a number of practice management articles, including a nice piece from Bill Winterberg about using online video, the shift to a more 'conversational' approach to marketing, a strongly-worded article from Mark Tibergien suggesting that women are NOT a practice niche, and an article highlighting the recently enacted 408(b)(2) fee disclosure rules for retirement plans (is your practice in compliance?). We also look at a number of investment articles this week, including one from Dan Moisand questioning the use of many types of "alternatives", another from Ed Easterling of Crestmont Research suggesting that we may still be in the early stages of the secular bear market (a nightmare for Wall Street and the advisory world?), and an intriguing article in the Journal of Financial Planning showing how guaranteed products may deserve less of an allocation after adjusting for their credit and illiquidity risks. We wrap up with two interesting policy articles - one about healthcare "myths" we must confront to move forward with reform, and another exploring how government policy decisions might be better shaped with input from behavioral scientists - and close with a nice light article from Morningstar Advisor with "23 Best Practices" tips for planners to implement. Enjoy the reading!

Weekend reading for July 14th/15th:

Why Are Advisory Fees Lower Than They Have To Be? - This article by Bob Veres on Advisor Perspectives looks at the fees financial planners charge for their services, noting the incredible range of cost for apparently comparable services from advisors, unlike other professions (like doctors, lawyers, and accountants) where costs tend to be much more in-line. For instance, in a recent mystery shopper exercise, an advisor pretending to be an investor with a $3.4 million portfolio was quoted anywhere from $750 to $44,200/year for roughly equivalent ongoing planning work! What's notable from Veres' perspective is not just that some firms are as high as they are, but that some firms are as low as they are; why is it that, absent any apparent competitive pricing pressures, many advisors seem to have voluntarily chosen to discount their fees and charge less than what the market will bear? Veres then looks at a number of different ways to estimate the cost for planning and investing that consumers are willing to bear - again concluding that many planners may actually be dramatically undercharging for their services by as much as 50% - and explores some ideas about why advisors might be persisting in this behavior. 

Technology To Build Successful Online Video - This article by advisor technology consultant Bill Winterberg for Morningstar Advisor explains how advisors can craft videos effectively to use in their practice. Winterberg notes that it's important for the video to incorporate the firm's logo and complement the overall marketing material, and it's important to get not only a reasonable quality video camera, but also good audio equipment. Consider writing a script of what will be said, or even setting up a teleprompter, both to reduce mistakes or inappropriate comments, and also because it allows the advisor to ensure what will be said is compliance-appropriate. Once recorded, the video needs to be editing in the "post production" phase, and then hosted by uploading to a site like YouTube or Vimeo. The basic package for everything, though, is only about $1,000 in today's world, making video accessible for most advisors, and there are vendors who can further help to support to ensure the video comes out as desired.

From Hunter To Farmer - This article by John Bowen in Financial Planning magazine discusses "conversational marketing" - which essentially is relationship-driven marketing in a niche, where you find a focus, connect with centers of influence, and simply try to create conversations and engagement to begin cultivating and farming future prospects, rather than hunting for quick new business. Although niche marketing has been written about by many others as well (including yours truly), the strength of this article is the list at the end of ways to build engagement and influence with your target market. 

Women Are Not A Niche - This article by Mark Tibergien makes the case, as the title implies, that marketing to and working with women is not a "niche" (as Mark notes: "How can a group that represents 51% of the U.S. population be a niche?"); instead, the key is simply that women investors want equal (but not necessarily identical) treatment and respect to their male counterparts. Tibergien notes an example in a car dealership - but potentially replicated in many advisors offices - where the sales consultant repeatedly directed comments at the husband, failing to realizing that the wife was not only a part of the decision, but actually the driver. The bottom line is that, in Tibergien's view, the dismal statistics of how women tend to leave their advisors after a death or divorce may be less about focusing on women as a niche, and more about doing a better job relating to them in the first place.

Time's Up On DOL's 408(b)(2) Deadline - This article in Investment Advisor explores the implications and potential complications now that the Department of Labor's new 408(b)(2) fee disclosure rules have taken effect (starting July 1st), which require so-called "covered service providers" to deliver information to retirement plans about compensation received by the provider (along with disclosing conflicts of interest). At this point, many plan fiduciaries are likely writing requests to their service providers who either failed to provide disclosures or offered incomplete disclosures - and fairly to comply may ultimately have ramifications for providers for failing to follow ERISA. Unfortunately, though, some of the rules details still appear to be ambiguous - for instance, whether using asset allocation models trigger additional "designated investment alternatives" disclosures, and just how broad the scope is for what constitutes "indirect compensation." For most advisors who are active in the 401(k) space, they're probably on top of the new rules, but advisors who have a limited number of retirement plan clients may still be caught unaware.

Why I Won't Use Alternative Investments - This article by Dan Moisand in Financial Advisor magazine is a follow-up to Moisand's column last month which expressed concern that some advisors seem to be including alternative investments in client portfolios for the sake of diversification without doing proper due diligence. In this context, Moisand refers not to readily marketable distinct asset classes like TIPS and publicly traded REITs, but the alternatives that are generally "illiquid, expensive, dependent on purported management skills, are often hard to value, and/or lack transparency" such as hedge funds, private equity, and non-traded REITs. Moisand's primary concern, though, is cost, and that it's already difficult for managers in traditional investments to beat their benchmarks as costs weigh them down - which means alternatives with a higher combination of costs from trading, management fees, sales costs, and leverage make the odds even less favorable. From there, Moisand expresses criticism about a range of "common" alternatives, and while some of his conclusions may be debated by supporters of alternatives, the concerns are certainly legitimate.

Nightmare on Wall Street: This Secular Bear Has Only Just Begun - This article by Ed Easterling of Crestmont Research in Advisor Perspectives looks at the history of secular bull and bear market cycles - and finds that, because market valuation got so high in 2000, that contraction in P/E ratios over the past 12 years has merely gotten markets to the point that secular bear markets normally begin! Easterling suggests that these cycles in turn are driven by an inflationary cycle from price stability to rising inflation to disinflation to deflation to reflation and then back to price stability again. The ongoing relative price stability in recent years has helped to stabilize the P/E ratios at their current levels, but Easterling notes that they are still at the levels at which secular bear markets typically begin, not end, and suggests that when prices eventually do destabilize through inflation or deflation, P/Es will begin to contract again.

Estimating Credit Risk And Illiquidity Risk In Guaranteed Investment Products - This article by James Xiong and Thomas Idzorek of Morningstar, published in the Journal of Financial Planning, attempts to evaluate how to incorporate the credit and illiquidity risk of guaranteed investment products (such as stable value funds or deferred fixed annuities) into a client's asset allocation decisions. The fundamental concern is that because such investments are not marked to market the way bonds and other fixed income alternatives are, guaranteed options appear to have comparable returns with lower volatility risks, when in reality it's simply because their prices are prevented from varying with the underlying risks that are present. After all, guaranteed options do still have credit risk, and their illiquidity impacts not only accessibility of the money from the investor's perspective, but can also lead to inefficiencies in asset allocation because of rebalancing constraints. The paper then provides some suggestions, albeit a bit complex, about how to adjust the standard deviation of guaranteed investments to account for credit and illiquidity risk. The bottom line: once accounting reasonably for these risks, guaranteed options don't generate nearly the same allocations in an optimized portfolio.

The Healthcare Myths We Must Confront - This atricle, from AQR manager and principal Cliff Asness, takes an interesting look at the current healthcare environment in the US. The article focuses on four purported "myths" regarding healthcare and reform: 1) that healthcare prices have soared in the recent past (Asness suggests that spending and cost has soared, but that's because we're buying more and more advanced solutions, not because the raw prices of basic healthcare are dramatically rising); 2) that our system was 'insurance' even before ObamaCare (Asness suggests it is not; insurance is about catastrophes, whereas what we have had is closer to a government-subsidized payment plan funneled through insurance companies); 3) stopping insurance companies from charging based on pre-existing conditions was a good aspect of ObamaCare (better to let insurance companies underwrite properly, and decide separately whether or not to directly subsidize costs for those less fortunate, than to hide costs and transfer payments from those without conditions to those with them); and 4) that healthcare costs are very high in the US compared to socialized countries (Asness explains why many of the studies are flawed or have a significant anti-US bias in their methodology, and notes that some of our higher costs are because of our culture and personal decisions, not our healthcare system). Although the article will be a somewhat controversial read, and Asness clearly has his own political leanings, the discussion makes a lot of intriguing points that I haven't seen discussed elsewhere.

Watching Behavior Before Writing The Rules - This Op-Ed article in the NY Times by behavioral economist Richard Thaler explores what might happen if government rules were not merely written by lawyers who occasionally take input from traditional economists, but instead gathering input from other social scientists including behavioral researchers. Thaler notes that there is some promise to the idea, looking at the British Behavioral Insights Team as a model (which Thaler is involved with), and points out that just having scientific rigor to policymaking is valuable, as driven by the two "team mantras" he has set: "If you want to encourage some activity, make it easy" and "You can't make evidence-based policy decisions without evidence" (the latter has led to randomized, controlled trials to test and measure suggested initiatives). Thaler then cites some interesting examples of policy adjustments made based on behavioral research - sometimes leading to remarkably effective improvements for astonishingly little actual work. One wonders what aspects of behavioral research could be adopted for setting more effective financial planning policy, as well?

23 Best Practices for Financial Advisors - This article from Morningstar Advisor provides a nice list of 23 ideas for advisors to be effective in their practices. For some, the tips may just be good reminders; for others, good suggestions to consider; and for others, a nice actionable focus point for improvement. While some are immediately actionable (synchronize the time on your cell phone, clocks, and watches, so you're on the same page with everyone else!), others are more long term ("build a powerful team"), but there's probably a few good takeaways for almost everyone.

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!

Michael E. Kitces

I write about financial planning strategies and practice management ideas, and have created several businesses to help people implement them.

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