Weekend Reading for Financial Planners (Feb 23-24)

Posted by Michael Kitces on Friday, February 22nd, 9:01 pm, 2013 in Weekend Reading

Enjoy the current installment of "weekend reading for financial planners" - this week's issue starts off with a great article for newer advisors (although experienced practitioners will it relevant as well!), providing guidance on how to cultivate new relationships with centers of influence.

From there, we look at a number of practice management articles, including one looking at the costs and challenges of starting up an independent advisory firm, another that includes an interesting discussion of whether the new training programs being rolled out by large firms will help to bring in the next generation of advisors or is more like rearranging deck chairs on a sinking wirehouse Titanic, a third providing a fantastic summary of the various rebalancing software platforms discussed at the Technology Tools for Today (T3) conference, and the last an interview with technology consultant Bill Winterberg.

We also have a few more technical articles on advanced financial planning issues, including one from Jon Guyton on how to structure client retirement accounts to help them manage their own discretionary expenses (so the planner isn't stuck in the position of parenting client spending), another from Wade Pfau looking at how to craft an "efficient frontier" of retirement income products, a discussion of a recent tax court case the IRS lost that may lead to a significant boost in deferred private annuity estate planning strategies, and a look at how managing online accounts (or just trying to access them!) after death can lead to a lot of new world estate planning problems.

We wrap up with three very interesting articles: the first takes a deep look at the history of hyperinflations for the past century and how the government just printing money alone does not lead to an inflationary spiral; the second takes a look at how to rebuild consumer trust in financial services globally, making the notable point that just increasing disclosures may provide more/better information to consumers but may also be providing them more reasons not to trust; and the last providing a poignant reminder for all planners that being a good advisor also means living your own advice, which means make sure your own financial house is in order and that you're fitting your business into your life, not the other way around. Enjoy the reading!

(Editor's Note: Want to see what I'm reading through the week that didn't make the cut? Due to popular request, I've started a Tumblr page to highlight a longer list of articles that I scan each week that might be of interest.You can follow the Tumblr page here.)

Weekend reading for February 23rd/24th:

The New Adviser’s Strategy for Working with Circles of Influence - This must-read article for new advisors is from Dan Allison in the Journal of Financial Planning, and provides some great suggestions about how to cultivate relationships with centers of influence, recognizing that most new planners don't necessarily have a 'natural market' of friends and family to do business worth (or worse, who know you don't necessarily have much experience yet!). Allison suggests viewing meetings with centers of influence as "interactive surveys" where you request a one-hour meeting with the goal and intention of getting advice on how you can reach and do business with other people who happen to be like them (but not soliciting them directly) and gain insight into what they think is most useful/valuable/relevant. The point is to focus entirely on asking for advice, not selling; yet the reality is that by asking advice and getting insight, you also cultivate the opportunity for people to get to know you better and understand what you do as well! The article even provides a series of suggested scripts you can adapt, and provides guidance on how to conduct the one-hour meeting (first and introduction, then explain your service, then solicit genuine feedback and listen and learn. And notably, although the article is written with newer advisors in mind, it's arguably pretty good advice for any advisor looking to expand his/her referral network!

How And Why I'm Starting An RIA From Scratch - On RIABiz, new financial advisor Lyman Howard explains why and how he's starting up his own independent (state-registered) RIA to serve individual clients, after a career as a Navy lieutenant and an institutional bond broker. The article provides some good perspective on what's really involved for those who want to start a firm from scratch in today's environment, including how much money it takes to get up and running. The article starts out by noting the indirect costs and challenges of starting up: it could take a few years before being able to draw a salary, depleting a significant amount of family savings, and can be stressful on the family life as well, especially if there's no employer health insurance or retirement savings plan; in addition, the lack of a track record and established presence can be difficult for a new firm. Nonetheless, Howard and his partner took the plunge, inspired by a local CFA Society chapter meeting that had several RIA owners share their own experiences and answer questions (and a supporting article from the CFA Magazine). Upon taking the plunge, Howard focused on a largely cloud-based business structure, which eliminated a lot of technology needs; basic phone forwarding service was $14.95/month, and a suite of advisory firm software packages (including Redtail CRM, MoneyGuidePro for planning, Black Diamond for portfolio reporting) ran about $500/month; in addition, $2,000 bought a well-designed and functional website, and the firm is focusing on social media to keep marketing costs low. Some additional services were implemented at a low cost by asking for deals from family members in areas like video production, website design, a company logo, tax preparation, entity filings, and even office rent, and the firm uses ZipCar to get around for client meetings. With the infrastructure in place, the focus shifted to maximizing networking opportunities and bringing in clients.

Can Training Programs be Saved? - This Wealth Management article provides an interesting glimpse at how some of the large-firm training programs continue to struggle, with traditional programs facing a cost as high as $300,000 per recruit in a four-year training program where fewer than 20% even survive into the second or third year - a problem that hasn't been helped by many firms' focus on hiring away experienced advisors and chasing ultra-high-net-worth clients rather than building the next generation of advisors and clients. Some broker-dealers are trying to reinvent their programs to deal with this, reaching out more proactively to financial planning colleges and students, and focusing more on education, internships, and a better onboarding process including a steadier income ramp up ($40k - $60k of salary in the first year or two before transitioning to more individual-performance-based compensation) that they hope could boost retention rates to 40% to 60% (which would be a major success in overall industry retention). Notably, though, many wirehouse firms are finding that career changers - who enter the industry a bit older, more experienced, and with a better existing network of friends to market to initially - are having better success than college students, suggesting that the ideal age to begin an advisory career is somewhere between 28 and 40. In addition, it's notable that while many large broker-dealer firms try to focus on training by pairing newer advisors with experienced ones, the adoption has been slow industrywide, for issues ranging from veteran advisors who don't want to change what they're doing, to a generational gap on communication and technology. Additional challenges include the difficulties of cold calling in the age of the Do-Not-Call list, and the fact that many large firms have taken orphaned accounts (clients whose advisor has since left the firm) and shifted them to internal staff and call centers, so there are fewer internal clients available to new advisors to help them learn and grow their business. The bottom line to the article is that as consumer preferences shift towards more independent advisors and the demand for wirehouses shrinks (as they lose both market share in clients and assets, and a decline in the total number of advisors), it's not clear whether the new training programs will reinvigorate the channel with a new level of higher quality client-centric advice, or whether it's simply rearranging deck chairs on the wirehouse Titanic.

Which Portfolio Rebalancing Software Is Right For You? - This article from the blog of advisor consultant Craig Iskowitz provides a great review of the rebalancing software discussion from the recent Technology Tools for Today (T3) conference, which included panelists from Total Rebalance Expert (TRX), Envestnet/Tamarac, TDAmeritrade's iRebal, and TradeWarrior. Iskowitz starts out by noting the similarities between the offerings - they all have cloud-based versions of the software, and they are custodian-agnostic (i.e., will work with any major custodian). Primary differentiators include integrated proactive portfolio monitoring (iRebal), education/training/consulting on implementation (Tamarac University from Tamarac), pulling in information from outside accounts to manage the household more tax-efficiently (TRX), and having a simple and easy-to-use interface (TradeWarrior). The article notes many of the benefits of using rebalancing software, including minimizing trade errors, coordinating complex client situations, improving staff scalability, more proactive monitoring of client portfolios, and outright faster implementation of rebalancing than by a manual process. Costs vary significantly, from a starting cost of $5,000 for TRX and Tamarac (although costs rise with larger firms and more accounts), $4,000 for TradeWarrior, and $20,000 for iRebal (although notably while iRebal has higher minimum costs, the total expense larger firms may be comparable to other packages). If you find the article interesting, note that it's a 2-parter - you can read the second half here.

10 Questions With Bill Winterberg - For its monthly "10 Questions" interview, the Journal of Financial Planning spoke to Bill Winterberg, a former software engineer turned financial planner who now provides consulting to advisors on technology issues. Winterberg suggests that in today's environment, one of the greatest challenges for advisors is simply the number of choices now available for technology, leading to "analysis paralysis" for advisors who feel stuck and uncertain about how to pick the "best" solution. In terms of Windows 8 - a pressing issue for many advisors replacing computers and equipment already - Winterberg suggests that there's no rush to buy Windows 8 yet, citing potential compatibility problems with some legacy software, although Winterberg notes that he actually runs on a Mac operating system himself. Other good tips from the article include the shift to mobile (Winterberg suggests advisors still underutilize tablets, but also cautions on the importance of using tablets securely), the shift to the cloud (the cloud is good, but beware popular service Dropbox unless you've got additional security precautions in place!), using Google Hangouts (similar to other web-conferencing tools, but on the Google platform, free, and with some nice features of its own), the use of social media (if you're worried about the time it will take, get RescueTime software and install it so you can track how long it's taking, and be certain to have a software solution to archive everything), and a nod to emerging innovative financial planning software platform inStream Solutions.

When An Ounce Of Discretion(ary) Is Worth A Pound Of Core - In the Journal of Financial Planning, Jon Guyton takes a deep look at the challenges that arise when retired clients start taking "extra" distributions from their portfolio for one-off expenses, especially when there seems to be an ongoing series of "just this once" withdrawals that are starting to add up. Guyton notes that the first step is simply to recognize that ongoing one-time withdrawals really amount to a higher level of ongoing withdrawals, and that a client's recommending spending and sustainable withdrawal rate may need to be adjusted accordingly. However, Guyton notes that often the real issue is internal to the client; after all, no one wants to go down a road fraught with financial danger, so if it's really happening, something else may be going on - but talking about it after the client has already decided to make the expenditure and take the withdrawal is a dangerous approach. So what's a better way to tackle the issue? Guyton suggests a choice architecture approach by creating two separate portfolios: one for "core" expenses, and the other for "discretionary". The point here is that by structuring the portfolio this way, clients have a specific and known pool of money to draw on for the one-time or more frequent standalone expenses - and likewise, a pool of money that can potentially be depleted, and that clients can monitor to help recognize their own risks and spending behavior. The point here is not that the client necessarily gets better investment or spending results per se - the pools of money could still be mixed into one - but by framing for the client that one-off spending comes from a separate and limited pool of money (the "discretionary" account might only be $50,000), the burden shifts more effectively back to the client to help self-moderate spending, rather than keeping the planner in the position of always saying "no" in a manner that may undermine the whole planning relationship.

A Broader Framework For Determining An Efficient Frontier For Retirement Income - In this Journal of Financial Planning article, retirement researcher Wade Pfau sets forth an interesting new framework for looking at retirement income decisions, and how to make allocations amongst the different types of products and approaches available, from portfolios of stocks and bonds, to inflation-adjusted and fixed immediate annuities, to variable annuities with living benefit riders; the ultimate goal is to map out an "efficient frontier" of allocations to various retirement income products, similar to the efficient frontier for allocations amongst various portfolio assets. To analyze this, Pfau uses a Monte Carlo approach - notably incorporating expected returns based on today's marketplace, with lower-than-average real returns for stocks and bonds - that tests a wide range of allocations to various product combinations. Notably, given Pfau's assumptions about the current market environment, the optimal results are actually a combination of stocks and a single-premium immediate annuity, without any variable annuity living benefit contracts nor even any bonds! While some might argue with the particular assumptions that Pfau makes in the article in some areas, the fundamental point is still important: we can use Monte Carlo analysis to test not just how much is safe to spend (or not) in retirement, but also amongst competing allocations to various retirement income products to determine what single solution or combination of solutions is best. Although this couldn't be adopted widely by advisors until Monte Carlo software improves, it nonetheless presents an interesting glimpse of how software could be used to better test a range of retirement income strategies and match an ideal solution to a client's specific goals, needs, and circumstances by modeling actual retirement income products available at any particular time.

A Major IRS Estate Tax Loss - This article discusses the recent tax court case of Estate of Kite v. Commissioner, where the IRS lost their challenge against an unusual intra-family deferred private annuity transaction done for estate planning purposes. The scenario dates back to 2001, when Mrs. Kite - then aged 74 - transferred a significant amount of assets to her children in exchange for a private annuity, with payments that were not scheduled to begin for another 10 years. Because of the deferral period, the payments after 10 years would have been huge, but the reality is that Mrs. Kite was in poor health, and died only 3 years later. As a result, the children received all the property and never paid a dime in annuity payments back to their mother; not surprisingly the IRS challenged it accordingly. However, because Mrs. Kite did receive a letter from her doctor stating that she was expected to live at least 18 months, which is the primary IRS requirement to be allowed to use normal mortality tables, the tax court upheld the planning strategy. While this tax court case ultimately deals with a strategy that was done 12 years ago, and in fact some rules for private annuities have changed to make them less favorable since then, expect to see more ultra-high-net-worth clients being recommended for intra-family private annuity transactions given that the IRS lost this case.

What A Tangled Web We Leave - This Wall Street Journal article paints an interesting picture of estate planning challenges in today's world of electronic banking and online accounts, which create a whole new myriad of post-death challenges to unwinding automatic bill-paying services, accessing virtual accounts, and winding up other online relationships. For instance, one bank required a widow to transition from a joint account to a brand new individual account online at the death of her husband, instead of just removing the husband's name from the existing account; this was problematic, since the existing account was also the one already configured to receive her direct deposit paychecks! Beyond the bank account, there were struggles to get into the deceased husband's email account, and online entertainment sites like Netflix and Spotify. So how can this be better managed? Some of the standard advice remains - such as ensuring proper beneficiary designations for accounts, or having couples own assets as joint with rights of survivorship - but also be aware of what happens when a joint account is changed in today's world (for instance, at another bank removing one spouse's name caused the account to suddenly and unexpectedly sever all existing bill-pay details for the survivor!). But perhaps the biggest issue - make sure a surviving spouse has details of online accounts and passwords, at least until states adopt statutes that provide better guidance about how to handle post-death access to digital assets and accounts.

Hyperinflations, Hysteria, and False Memories - This article on Advisor Perspectives from the brilliant James Montier of GMO takes an interesting look at the history of inflation and hyperinflations - debunking along the way a number of popular misconceptions about how such hysterias have played out in the past. Montier starts out by reviewing the "classic" view of hyperinflation: that it is caused by central banks printing money to finance government deficits, and as money is printed, not only does the supply increase, but the velocity increases as well as people no longer want to hold cash, and prices rise even faster as sellers anticipate the frenzy and try to get ahead of it. The end result is a rapid upward explosion of prices that spirals out of control, and the implied recommendation is to follow a path of fiscal austerity to avoid it ever happening in the first place. Yet Montier suggests that our recollection that this is how hyperinflations play out is actually a false memory. After all, if "just" printing money was all it takes, hyperinflation should actually be much more common! Instead, Montier yets other lesser-recognized commonalities in how hyperinflations occur, including: large supply shocks (which create excess demand and become a necessary ingredient to kick off a hyperinflation spiral); big debts denominated in a foreign currency (which encourages the country to devalue the currency, and that in turn leads to inflation in the form of import price increases, although monetary-driven hyperinflation theorists usually imply the opposite sequence); and a transmission mechanism (i.e., a way for rising prices to propagate into rising wages to begin a spiral, such as nationally indexing wages to inflation). Montier then proceeds to explain how this factors were relevant in most of the "popular" historical hyperinflations from the Weimar Republic to Hungary (where money printing couldn't be the blame because after World War II the retreating fascists had literally stolen the currency printing plates!) to Zimbabwe. The fundamental point: while "printing money" may be a necessary condition for a hyperinflation, it alone is far from sufficient, just as it is true that a vehicle cannot move with the brake on but releasing the brake is not the cause of the vehicle to subsequently move.

Point, Counterpoint: What is the Best Way to Build Consumer Trust? - This article from Financial Planet looks at the challenges of building consumer trust in financial services, with some very interesting perspectives on the benefits (or lack thereof) of disclosure. For instance, is disclosure really even feasible in a financial services environment given the complexity of the products involved, or is the asymmetry of knowledge too great? Does disclosure actually build trust at all, or does it simply provide consumers with a list of reasons to not trust the person they're working with? Is the real key better disclosure, or simply eliminating more conflicts of interest to make the need for disclosure unnecessary - i.e., a move towards a bolder fiduciary standard? But what about the people who really do need to be "sold" a product, such as the reluctant family that really should have life insurance but may need a persistent salesman to really make it happen? Although the authors are based in the UK, the discussion seems equally relevant in the US.

The Business Of Life - In Financial Advisor magazine, Roy Diliberto provides an important reminder that financial planners need to avoid "the cobbler's children go barefoot" syndrome - in other words, don't spend so much time focused on doing financial planning for your clients to help them achieve their goals that you forget to mind your own financial planning and life goals! Diliberto suggests this is especially true amongst life planners, who take an even deeper focus on helping clients to find a life they enjoy living, they as planners fail to lead by example and do so themselves. At the same time, Diliberto criticizes practice management experts who differentiate between "lifestyle businesses" and other practices that are implied to be more [financially] successful, suggesting that it shouldn't be a choice between financial and life success but a simultaneous pursuit of both. Diliberto makes the point most poignantly when he aptly states "If your business does not serve your life and it becomes your life, you may want to ask yourself why you do what you do." At the least, if you're that immersed in your practice, you better have a good answer ready when you're looking in the mirror, and that you're not heading down the road of "practicide" - building a business that may eventually kill you, or at least burn you out/up to the point where you can't serve your clients effectively anyway! But the bottom line is that you should find a way to fit your business into your life, not your life into your business; you may even find that the satisfaction and fulfillment it gives you allows you to build a more successful business, too.

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!

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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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