Enjoy the current installment of "weekend reading for financial planners" - this week's edition kicks off with a new industry white paper finding the ongoing shift of advisor compensation from commissions to fees has reached a crossover point, where fees now top commissions as the primary advisor revenue source (as trend that may only accelerate as the Department of Labor's fiduciary proposal rolls out later this year).
From there, we have a number of practice management articles this week, including: a look at the history of the Rule 206(4)-1 limitation against testimonials and what to watch out for; tips on communication not with potential new clients but existing ones; a look at what advisors serving ultra-high-net-worth clients are providing as "value-added" services; a review of how some value-added services and "perks" are being adopted by a wider range of advisory firms (not just those serving the super-rich); and a look at how mutual fund fees continue to be squeezed, and whether an advisor's AUM fee may be next (though the short answer is "no", probably not, because it's still so hard to comparison-shop advisors!).
We also have a couple of technical articles this week, from a look at the latest research on retiree spending patterns which finds that affluent clients tend to under-spend in retirement (creating a "consumption gap" between what they could spend and what they actually do), a look at the coming Actuarial Guideline 49 rules next month that will curtail the return assumptions used in sales illustrations of equity-indexed Universal Life (and whether the policies may still be over-projected), and a review of the Qualified Charitable Distribution (QCD) rules from IRAs now that they've been made permanent by last December's "Tax Extenders" legislation.
We wrap up with three interesting articles: the first is a look at why, despite all the ongoing warnings of disruption, big companies continue to get disrupted by start-ups that build on top those big companies' existing technology or service stack; the second is a look at the concept of "Deep Work" and how Bill Gates had incredible productivity by being able to apply an intense focus for extended periods of time; and the last explores how the biggest factor that drives our success is our personal engagement with what we're looking on (and how to refine it if you're not feeling fully engaged yourself).
And be certain to check out Bill Winterberg's "Bits & Bytes" video on the latest in advisor tech news at the end, which this week includes a playlist of all the video highlights from his live coverage of the TD Ameritrade LINC National Conference!
Enjoy the "light" reading!
Weekend reading for February 6th/7th:
Fees Now Top Commissions As Advisor Revenue Source (Emily Zulz, ThinkAdvisor) – A new research white paper from CLS Investments entitled “Making the Switch” finds that the ongoing shift of advisors from commissions to fees is reaching a tipping point, as they estimate that advisors in the aggregate derive more total revenue from fees (46%) than commissions (45%). In the past decade alone, the amount of assets in fee-based accounts nearly tripled, from $987B (in 2003) to $2.7T (in 2013). And the shift is only expected to accelerate as the Department of Labor’s fiduciary proposal rolls out this year. The CLS white paper suggests that the commission-based model is also under pressure from the explosion of low- or no-trading-cost ETFs, online fund “supermarkets” offering no-load funds, and robo-advisors offering low-cost managed accounts. Notably, though, the research finds that advisors don’t appear to be completely abandoning commissions; the largest segment of advisors (66%) are using a blend of both fees and commission to service their clients, based on Cerulli data.
Is Your Advertising Prohibited? (Tom Giachetti, Investment Advisor) – Under Rule 206(4)-1 of the Investment Advisers Act of 1940, it is prohibited for advisors to directly or indirectly publish a “testimonial of any kind concerning the investment adviser, or concerning any advice, analysts, report, or other service rendered by such investment adviser.” The rule itself originated in 1961, when the SEC expressed concern that because of the complexity in evaluating investment advisers (often by unskilled/unsophisticated investors), consumers might be misled by testimonials that could create a mistaken expectation of (investment) results. Unfortunately, though, the rule itself never actually defines what a testimonial is in the first place! The SEC has interpreted it to mean a statement by a client (current or former) that endorses the advisor or refers to a favorable investment experience with that advisor. Notably, this limitation on testimonials applies only to testimonials in advertisements by an advisor (e.g., for their investment services), though Giachetti notes that the SEC has applied the rule so broadly (e.g., in regulatory interpretations and no-action letters) that it can even limit testimonial statements about advisors that have almost nothing to do with actual investment-related activities! In particular, this means that even statements about the quality of an advisor’s financial planning services (outside the scope of investments) can still run afoul of the anti-testimonial Rule 206(4)-1 if that advisor is otherwise a registered investment adviser!
6 Ways To Develop The Most Essential Communication Skills (Ric Edelman, Financial Advisor) –While good communication is a vital skill to getting clients and growing an advisory firm, Edelman makes the case that communication skills are not just about new clients but also retaining clients. However, the essential communication skills for client retention are different, in part because they cover a much wider range of possible communication channels. For instance, when you meet with clients in person and face-to-face, “good communication” is about not only being able to speak well, but also to listen well, and ensure everyone is on the same page. However, communication doesn’t end with the in-person interaction; having a system for regular communication is also important, whether it’s via emails (or even regular mail) or phone calls periodically throughout the year, both to check in about what’s new for the client and also to proactively share new planning opportunities or relevant news and information (e.g., from recent changes in Social Security to timely wisdom about market volatility). Other communication opportunities (and skillsets) include: surveys and opinion polls to your clients (to gauge what you could do differently or better); how to communication the fact that an error may have occurred and how it was corrected; formal communication about significant changes/events in the business; and periodic newsletters to demonstrate your ongoing expertise. Of course, some of these communication skillsets are relevant for new clients as well, but Edelman emphasizes that his firm’s priority is simply to serve (and communicate with) existing clients first.
The Power Of Value-Added Services (Russ Alan Prince & Brett Van Bortel, Financial Advisor) – The benefit of offering “value-added” services beyond just the core financial matters is that it helps to position the advisor as the “go-to” professional, cementing the relationship in a manner that can help to mitigate the occasional periods of substandard investment performance. For very high-net-worth clients, key value-added services generally fall in the category of “lifestyle” services, and includes support in areas like Concierge Health Care (from a 24/7 on-call physician service, to having a physician that can provide complete case continuity and even tele-diagnosis and treatment) and even “longevity programs” (providing holistic advice to maintain health and wellness in the later years of life). Other areas of special value for high-net-worth clientele may include arranging for family security firms to provide help with everything from cyber protection to personal protection for travel safety and security (given that high profile families can be targets for everything from kidnapping to extortion, and don’t always want the public involvement of law enforcement to resolve the matter). Some advisory firms will support unique “special projects” as well, which could include anything from facilitating an adoption, to overseeing the construction of a mansion, or arranging the process for admission to a private club. Notably, for most advisory firms providing such services, the work is not actually done internal to the firm, and instead is done by external specialists – but the advisor is expected to be able to conduct due diligence to vet such professionals up front, and provide a level of oversight and follow-up as well. And again, having a network of such qualified external providers in the first place just further helps to cement the advisor as a “go-to” resource, driving both client retention, and also potential referrals (especially since value-added services are more likely to be discussed by clients with their peers than investment performance results!).
What Some Financial Advisers Now Do To Earn Their Fees (Anne Tergesen, Wall Street Journal) – Offering “concierge” services has long been the domain of private banks catering to the superrich, but the ongoing advisor crisis of differentiation means that more and more firms (even those not serving the ultra high net worth) are adding in various types of concierge helps to help clients beyond just their money management needs. Cerulli estimates that almost 20% of advisory firms are offering some type of concierge services, though exactly what those services are varies greatly. Examples include everything from accompanying clients on visits to assisted-living facilities, to negotiating discounts on homes or automobiles, to arranging medical appointments, or providing career coaching to adult children of clients or education to small business owners on how to set up and use accounting software. Notably, though, having “too many” concierge services can potentially backfire as well; for instance, some clients who really do just want their advisor to focus on their finances and perceive the “extra” services driving up the advisor’s fee may seek out a more “pure” low-cost advisor instead.
The Squeeze On Fund Expenses: Will Financial Advisory Fees Be Next? (John Rekenthaler, Morningstar) – There has been a substantial shift in where investors are allocating their investment dollars in recent years, as investor willingness to pay (investment) fees tumbles towards zero… such that virtually all the new dollar flows into investments are going to the lowest cost solutions (except perhaps the occasional higher-cost strong performer). Notably, though, this has been a relatively “recent” phenomenon, with the ascent of low-cost funds really only gaining market share since 2003… and accelerating since then, with higher cost funds now experiencing not just less in inflows but outright net withdrawals. Which raises the question of whether the same fallout may ultimately befall advisors themselves. Yet Rekenthaler notes that, at least so far, there’s little evidence of a similar price war playing out. Advisors who charge 1% AUM fees are still thriving (at least so far?), though it’s not clear whether it’s because advisors are better able to justify their fees, or simply harder to compare in the first place (since their performance/results are not as public as registered mutual funds, and there’s no third-party service evaluating and comparing their results). Accordingly, while Rekenthaler suggests that technology robo-advisor services will at least try to threaten advisor fees, the difficulty of comparing and vetting advisor results – when every client may have a different portfolio personalized to their needs – will greatly slow any pace of change.
Spending In Retirement: Determining The Consumption Gap (Chris Browning & Tao Guo & Yuanshan Cheng & Michael Finke, Journal of Financial Planning) – The traditional view of retirement planning is that retirees will spend the same amount (adjusted for inflation) in retirement, ultimately spending down their assets in their later years. However, a growing base of research is finding that in practice, the account balances of retirees tend to grow over time, to the point that even the onset of required minimum distributions does not typically begin to deplete the portfolio (implying that most RMDs are simply reinvested into other investment accounts). This behavior implies that retirees may actually have a “consumption gap” between what they could consume to spend down assets, and the lesser amount they’re actually consuming in failing to spend down assets instead. In this study, the authors found that this retirement consumption gap is especially pronounced at median and especially higher income and net worth levels, where retirees have significant flexibility in their discretionary spending, and appear to spend far more conservatively than is “necessary”, producing significant net savings during retirement. Of course, maintaining some contingency for unexpected health or other events in retirement is reasonable, but the authors found that the highest income quintile drastically underspends during retirement, even assuming a whopping 40% set-aside reserve! Of course, the question remains open about whether retirees are “underspending” in this manner due to some cognitive “error” or behavioral bias, or simply because affluent retirees in practice may weigh other goals and priorities higher than “just” maximizing retirement consumption.
New Rules For Indexed Universal Life Insurance Underscore Due Diligence Concerns (Greg Iacurci, Investment News) – Last June, the National Association of Insurance Commissioners (NAIC) adopted Actuarial Guideline 49, which for the first time set uniform standards governing the illustrations that insurers can use for indexed universal life policies, as such policies have ballooned to a whopping 54% of all universal life premiums sold (in the first three quarters of 2015). The new AG 49 rules were created to create consistency in projections – as similar companies with similar crediting rules might have illustrated policies at different return assumptions – and also to limit what have been seen as “unrealistically high return assumptions” in indexed UL policy sales illustrations. The new rules will also limit the illustrated spread between the assumed crediting rate on the policy, and the underlying borrowing rate for policy loans, to better reflect the risks of using them as a quasi retirement planning strategy. Once the two-phase implementation is complete – with the second stage taking effect on March 1st – AG 49 is expected to lead to a reduction in the maximum illustrated interest rates for indexed UL policies to a level below 7%/year. Though notably, some commentators have expressed concern that the AG 49 maximum-illustrated rates may still be too high of a rate to reflect what is likely to occur for actual policies in the future.
IRA Charitable Giving Goes Permanent (Ed Slott, Financial Planning) – At the end of 2015, the “tax extenders” legislation made permanent the rules for making a Qualified Charitable Distribution from an IRA, ending what had been nearly a decade of the QCD rules being lapsed and reinstated and lapsed and reinstated. Going forward, all clients will be eligible to make a QCD directly from an IRA to a charity, without having that distribution including in income at all. Of course, the retiree must still otherwise qualify in the first place – by being over age 70 ½ - but fortunately the QCD also satisfies the retiree’s Required Minimum Distribution (RMD) obligation (which is relevant since the account owner must be over age 70 ½!). Notably, the QCD rules do not apply to employer retirement plans, nor to any SEP or SIMPLE IRAs that are still receiving ongoing employer contributions, nor to any private grant-making foundations, donor-advised funds, or charitable gift annuities. In addition, QCDs are capped at a total of $100,000 per person per year (which means up to $200,000 for a married couple, as long as each contributes no more than the $100,000 limit from his/her own IRA). It’s also important to remember that to qualify for the QCD rules, a direct transfer must occur, which means the IRA custodian should make the distribution check payable directly to the charity. And the IRA cannot receive anything back in exchange for the charitable contribution; it must be a distribution that would otherwise have been fully deductible (not even a meal or small token in return should be accepted).
Why Big Companies Keep Getting Disrupted (Christopher Mims, Wall Street Journal) – Despite the growing recognition in recent decades of the importance for large companies to continue to innovate in order to survive, many are still continuing to fall prey to more nimble competitors. And a recent theory has emerged about why it’s happening, from venture capitalist Anshu Sharma, who has dubbed the phenomenon as the “stack fallacy” – the mistaken belief by companies that if they’ve already built one layer of services for a customer, that it will be trivial to build another layer on top. For instance, Oracle is primarily a database company, and ultimately CRM powerhouse Salesforce is just a formed of “hosted database app”, yet in practice Oracle has struggled and failed to compete in building a CRM system despite being a leading expert in the underlying database layer. Samsung originally made components for Apple, and tried to move up the stack by creating its own cellphones, but now is struggling. Google tried to move up the stack from search to social networking, but its Google+ platform has largely been a failure. The reason why the failures keep occurring is that the companies lower on the stack may have all the “parts” to build higher on the stack, but lack the fundamental connection to the customers that consume at the higher levels, and what they really want. Notably, companies that are already higher on the stack often do succeed by moving down the chain – from Google creating its own servers and data centers to Apple making its own chips. But the implications are significant, as it implies that Uber will be more successful at trying to make cars for its ride-sharing service, than a car-maker like GM could succeed at rolling out ride-sharing. Or in our industry, it implies that technology (i.e., "robo") companies will struggle more in going directly to consumers and competing against advisors, than it will be for advisors to build and adopt new technology tools in response to support their higher position on the stack (but that existing direct-to-consumer brokerage platforms may struggle greatly to compete).
The Productivity Secret Behind Bill Gates’ Incredible Success (Jessica Stillman, Inc) – A new book by Cal Newport on productivity claims to have identified what it is that distinguishes elite performers who creating prodigious quantities of valuable work from everyone else: their intensity and ability to do “Deep Work”. The key insight is that for most people, they switch tasks too often, or outright succumb to the problems with multi-tasking, and fail to achieve the levels of deep focus necessary for significant creativity and success. High producers like Bill Gates, on the other hand, was known to work with such intensity he’d keep working until he literally fell asleep at the keyboard… and then upon waking, would get right back to work where he left off. The distinction, though, was that Gates wasn’t simply exhibiting a tendency to be a ‘workaholic’ – it’s that his “deep work” focus in those periods of time allowed him to produce so much. Which means that while not everyone will necessarily try to work the same number of hours that Gates did, anyone can try to replicate his strategy of setting aside stretches of time each week to do nothing else but truly focus on a substantive task at hand.
If There Is A Magic Bullet, This Is It (Julie Littlechild, Absolute Engagement) – While there are many key skills and traits necessary to build a successful business, Littlechild makes the case that the one most critical driver of great success is personal engagement: the extent to which you are deeply and personally engaged with the work that you do on a daily basis. And notably, personal engagement is not just about the work that you do per se, but the clients for whom you do it, and the role you play in the business itself. If you’re not feeling fully engaged at all points along the spectrum, it’s likely that your own disengagement will hold you and your business back from success. For those who already are personally engaged, this may already seem obvious. But for those who are not, or who are uncertain of how to get there, Littlechild suggests focusing around a 5-step process: Awareness (get real with yourself about what your strengths are, and what really energizes you); Audacity (have the audacity to redesign the business and your role in it so you can be best positioned to pursue the engagement path, recognizing that setting big goals can actually help drive you to achieve them); Action (which requires executing your “audacious” vision, including taking the big steps like redefining your target clientele, adding team members, or even bringing someone in to manage the business); Accountability (create a form of personal accountability, such as with a coach or Mastermind Group, to ensure you follow through); and Renewal (have a means to renew yourself and your energy, because focused personal engagement can be tiring, 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!
In the meantime, if you're interested in more news and information regarding advisor technology I'd highly recommend checking out Bill Winterberg's "FPPad" blog on technology for advisors. You can see below his latest Bits & Bytes weekly video update on the latest tech news and developments, or read "FPPad Bits And Bytes" on his blog!