Enjoy the current installment of “weekend reading for financial planners” – this week’s edition starts out with the news that another planner is threatening to sue the CFP Board over its compensation disclosure rules, after being told that the relationship between his “fee-only” advisory firm and commission-based family real estate firm meant that his advisory firm must describe itself as “commission and fee” instead. Also in the news this week was the latest study from the CFP Board that the public awareness campaign continues to have a material impact on consumer awareness of the CFP marks, and a decision from the SEC on new rules for money market funds that may introduce a floating-NAV to institutional funds and the potential for “gating” on redemptions and potential 2% exit fees on retail money market funds during times of financial distress.
From there, we have a few articles on technical planning issues this week, including a look at how sometimes Social Security beneficiaries should actually claim early to take advantage of dependents’ benefits, an overview of the current landscape for annuities of all types (including which have been more popular lately, and which are declining), and some fresh analysis comparing systematic withdrawal strategies in retirement to partial annuitization approaches.
We also have several practice management articles, from a discussion of whether we need to start teaching personal finance in high schools not just for financial literacy but to encourage young people to aspire to become financial advisors when they go off to college, to a look at the recent failed effort by Savant Capital Management to launch an e-platform for their advisory firm and what they learned from the experience, to the highlights of the latest RIA industry study from Financial Advisor magazine.
We wrap up with three interesting articles: the first raises the interesting idea that perhaps we should focus less on “time management” and more on energy management like athletes, recognizing that one highly energized hour can be far more productive than several tired ones; the second article looks at some of the ongoing discussions about changing the accredited investor rules and the challenging reality that income- and wealth-based tests may simply not be the best measure of determining whether someone is “savvy” enough to select complex investments; and the last provides a valuable reminder that there are a lot of great questions we ask our clients about how they vision their retirement and their future that we might consider asking inwardly of ourselves sometime as well…
Enjoy the reading!
Weekend reading for July 26th/27th:
Planner Threatens Suit After CFP Board Order – This week, the CFP Board sent an official letter to CFP certificant Rick Kahler that he must cease referring to his practice as “fee-only” in light of the fact that he owns a 50% stake in a family-run (commission-earning) real estate firm that occasionally cross-refers clients with his planning firm, though he does not otherwise receive any commissions on insurance or investment products. Kahler claims that the board’s action is punishment for speaking about his case in a prior Financial Planning magazine article; although he has been talking with the CFP Board about his situation since August, the board notified Kahler of its decision just four days after his recent article appeared (which was covered last month in Weekend Reading). Kahler states that to address the CFP Board’s concerns and try to comply, he halted his salary from the real estate firm, and has offered to make further changes, including transferring ownership of the firm to his wife, cease taking a dividend from the firm, cease referring clients between the operations, and even dropping any planning client who insisted on using the real estate firm, but claims he has encountered nothing but “confusion, contradiction, and broken promises.” As a result of this outcome, Kahler is declaring that he will either drop his CFP certification (ostensibly so that he can continue to refer to himself as “fee-only” outside the CFP Board’s purview), or that he may sue the CFP Board over what he claims is a change in its rules that has led to this outcome. Michael Shaw, the CFP Board’s managing director of professional standards and legal, has responded that the CFP Board’s decision is in no way retribution for Kahler’s public comments, and stands by its decision that a CFP professional cannot describe his/her compensation as “fee-only” while being associated with a commission-generating business. (Michael’s note: While I truly do not believe that the CFP Board’s actions represent ‘retribution’ for Kahler’s publicity about the case, this situation – and in particular, CFP Board’s unwillingness to resolve the issue even if Kahler takes steps to ensure that no clients of the planning firm ever do business with the real estate firm, continues to highlight the CFP Board’s problematic rules that ascribe “commissions” to client transactions even when no commission actually exists in the first place!)
Study: CFP Certification Stands Out in “Alphabet Soup” of Financial Services Designations – The CFP Board has released the latest results of its brand-tracking study measuring the impact of its ongoing four-year $40 million public awareness campaign. Based on an IPSOS-run survey of 600 mass affluent initiators (those with $100,000 to $1M of investible assets who are interested in seeking the help of a professional, who have been the target demographic for the campaign all along), the CFP mark now has an unaided awareness of 30%, up from 24% in 2013. The survey also measured total awareness of the CFP certification, and compared it to other population designations, and found that the CFP certification dramatically leads the alternatives; while total awareness of the CFP certification was at 79%, it was only 25% for the CFA and CLU designations, 19% for the PFS, and 14% for the ChFC. The study also found that the CFP brand is viewed positively, with more than 73% of consumers saying that the CFP marks demonstrate competence, and another 65% said the brand represents accountability. The CFP Board began the Public Awareness campaign in April of 2011, associated with what at the time was an increase in CFP certification dues of approximately 80% to fund the awareness effort.
SEC’s Long Path To Money Market Fund Reform Ends In Compromise – On Wednesday, the SEC adopted “moderate” new reforms for money market mutual funds in a 3-2 split vote affirming the changes. The biggest change is that “prime” money funds – used by institutional investors – must adopt a floating NAV instead of maintaining an arbitrary stable $1/share NAV. Funds will also have the option of “gating” redemptions, or charging exit fees of up to 2%, if the fund’s liquid assets fall below 30% during times of market stress. Notably, the floating NAV rule will not apply to retail money market funds (which can still maintain their $1 NAV, though the gating and redemption fee rules may apply), and retail tax-exempt municipal money market funds would not be required to have a floating NAV either. The measures will take effect in 2 years. In related news, the Treasury also issued new guidance this week on how owners of floating-NAV money market funds should calculate gains and losses (since the NAV may move higher or lower than $1!), providing owners the option of simply netting gains and losses in the aggregate without determining gain/loss for each particular redemption (which could be plentiful for taxpayers that use such funds for cash management and have a high frequency of transactions); the wash sale rules will also not apply to floating-NAV money market funds.
How To Calculate Social Security’s Maximum Family Benefit – From Social Security expert Mary Beth Frankiln, this articles provides a good discussion of one of the few times it can be especially good to start Social Security benefits early: when there are minor children at home who would be eligible for dependent benefits of 50% of the retiree’s Primary Insurance Amount. Dependent benefits are only paid until the children turn age 18 (or 19 if they are still in high school); in addition, a spouse is also eligible for a special spousal benefit if he/she is caring for a child under age 16. As a result of these additional family benefits for minor children and a spouse caring for them, a retiree who starts early could actually get as much as 150%-180% of their full retirement benefit at age 62 (which is the maximum family benefit after blending all of these together). Thus, for instance, a retiree eligible for $2,500/month at full retirement age would get only about $1,850/month by starting early at age 62, but this could be boosted to $3,750/month or more with dependent benefits; by contrast, waiting would allow the retiree to get the “full” $2,500/month, but not the $3,750/month if the children has reached age 18 by the time the retiree reaches the $2,500/month benefit at full retirement age. The biggest caveat to the strategy, though: watch out for the Social Security earnings test, which still applies if the retiree starts benefits early (before full retirement age) and earns more than the $15,480/year threshold, and can reduce both the retiree’s benefit and all the family benefits based on that reduced amount. Notably, the earnings test no longer applies, though, once the retiree does reach full retirement age.
Assessing The Annuity Landscape – This article builds on recent industry research about how advisors currently are (and aren’t) using various types of annuities. Overall, annuity use has slowed in recent years; a recent FPA Trends in Investing study found that 58% of advisors were using variable annuities in 2006 (and as recently as 2008), but the number has fallen to only 41% today. Similarly, the number of advisors using fixed annuities is only 29%, down from a high of 49% just 4 years ago. Notwithstanding the decline in use, industry-wide annuity sales (of all types) were still $56.1B in the first quarter of 2014 (up 13.1% over the prior year); on the other hand, a significant portion of the business appears to be exchanges from existing business, as Cerulli estimates that net new sales for variable annuities will only be $22B by 2018 (a 57% increase from 2012 levels, but a small slice given the total volume of variable annuity sales). In terms of products themselves, the trend in variable annuities has been towards more complexity, with more details about how owners can actually exercise the products’ living benefit features, though overall annuity sales are still driven overwhelming by their guarantees (90% included a guaranteed income rider, and 84% had some form of principal protection). Notably, the driving factor for variable annuity guarantees in recent years, and going forward, is actually interest rates on bonds; higher rates can bring down everything from the cost to hedge living benefits to reserve requirements, not to mention likely boosting immediate annuity payouts and rates on fixed annuities as well. In the meantime, though, some insurers have been shifting to lower cost no-guarantee death-benefit-free variable annuities that are just designed for tax-deferred growth for higher income clients. Other notable news in the annuity landscape – with recent new Treasury Regulations, longevity annuities (in retirement accounts) may soon be on the rise, and Congress is considering the National Association of Registered Agents and Brokers Reform Act (also known as NARAB II) that would establish a one-stop national licensing clearinghouse for advisors holding insurance and annuity licenses in multiple states.
How To Choose The Best Retirement Income Strategy – This article by Joe Tomlinson in Advisor Perspectives takes another look at comparing the “systematic withdrawal” portfolio-based approach to one that uses single premium immediate annuities to guarantee retirement income (at least for “essential” spending). The systematic withdrawal approach has been more popular in adoption by advisors, managing retirement savings holistically and using it to maintain an overall retirement lifestyle (as opposed to just meeting subsistence needs), and even using a rules-based approach to make adaptations along the way. Yet Tomlinson suggests that systematic withdrawals should be reconsidered in an environment of low interest rates and lower-than-historical-return prospects for stocks, and that the economist approach of splitting into essential versus discretionary expenses (and securing the essential with annuitization) may be preferable in that context. To test this, Tomlinson creates his own retirement experiment, for a 65-year-old female with a life expectancy of 90 years who has $1M of savings (with low-return bonds and a historical equity risk premium on top of that lower return), and needs to withdraw $30,000/year (inflation-adjusting) for essential expenses and another $10,000/year for discretionary (which means her overall spending aligns with the 4% rule). Given the significant return haircut to both bonds and stocks, Tomlinson finds that the 4% rule has a failure rate as high as 16%, and that mixing an inflation-adjusted SPIA (that covers all the essential expenses) into the analysis can drop that failure rate under 4%, though it requires annuitizing almost 2/3rds of the portfolio. On the other hand, at a higher 5% withdrawal rate, the portfolio is actually so stressed that the SPIA scenario is worse and the systematic withdrawal approach is better. Ultimately, Tomlinson concludes that there appears to be some appeal to the SPIA scenario depending on spending circumstances, but that results are clearly also dependent on the advisor and client’s expectations about future returns, and that many clients still may be unwilling to purchase the sheer magnitude of annuities that would be necessary to produce the results (though a longevity annuity may be more appealing as a compromise).
Going Back To Basics To Rebuild Our Business – From Investment Advisor magazine, practice management guru Mark Tibergien raises the concern that while every generation seeks to leave the world in a better state than it was in when they arrived, today’s advisors are running the risk of failing the task when it comes to the financial services industry. Trust is terribly low; potential clients view the industry with “suspicion and disdain” and in global surveys it is the least trusted industry in the world, ranking below oil, media, alcohol, tobacco, and even government. The problem comes within the industry as well; 53% of advisors say their personal brand is more important than their firm’s, suggesting that even advisors don’t want to be associated with the companies they represent! The problem is further exacerbated by our ongoing failure as a country to improve financial literacy amongst consumers, including the fact that a financially illiterate public becomes prey for the least scrupulous amongst us to abuse and further drag down our collective reputation. Perhaps most serious, though, is the fact that these problems are leaving a lasting negative impression of the industry amongst young people, who are both eschewing it for do-it-yourself approaches with their own finances, and choosing to avoid it as a future profession themselves, resulting in a concerning dearth of future talent in the pipeline as the number of advisors will be shrinking at 2%+ per year for the foreseeable future. Notwithstanding all these challenges, Tibergien suggests the outlook is not hopeless; he has personally become involved is supporting personal finance classes in high schools to both improve financial literacy and show young people the positive opportunities in financial services that they can aspire to as they head off to college. Ultimately, Tibergien calls on all advisors to consider their own capabilities to help build an industry to last (and tweet them using the #FutureofFinServ hashtag!).
How To Succeed When Projects Fail – In this Financial Planning magazine article, Glenn Kautt, a partner in mega-RIA Savant Capital Management, discusses his firm’s unsuccessful attempt to develop a profitable, web-based wealth management service to complement its in-house (in-person) solution. The goal was to push themselves forward in innovation and leveraging technology for more productive growth, but in practice the web-based platform turned out to be a very expensive advertising proposition to drive traffic to the site, and conversions from visitors into inquiries and from there into actual clients was quite limited. The conclusion after two years of implementation was that the website was more appealing than the service offering itself (as a result, they did incorporate many of the features of the e-commerce site into the firm’s main website as well), and that most who shop online in an e-commerce environment prefer an electronic solution, not one that still revolved around live (albeit distance-based) advisors. Nonetheless, the outcome did have some ‘salvage’ value (such as adaptations of the firm’s main website), and Kautt concludes with some valuation overall business lessons, including: growth isn’t easy (if it were, everyone would be a billion-dollar business!); some problems aren’t solved even when gobs of money is thrown at it; know how a new project fits into your business strategy; have an exit plan for when an idea isn’t working; in a collaborative organization, don’t view an unsuccessful project as a personal failure, but a learning experience for the team for future improvement.
Focus On Growth – This cover article from Financial Advisor magazine highlights the results of their latest industry RIA survey (though many of the graphs and charts are more useful than the story article itself!). The 2013 study finds that positive growth continues for RIAs; the average firm saw a jump in AUM of more than 20% last year, following on 19% growth from the year before. However, the article also notes that organic growth rates appear to be slowing, and inorganic growth from mergers and acquisitions is picking up. M&A activity jumped 20% last year, with RIAs buying other RIAs as the biggest share of deals. Amongst firms that didn’t grow through mergers or acquisitions, though, growth is attributable mostly to big stock market returns and not new client flows… which raises questions about how vulnerable those firms might be when returns are negative with the next bear market. The biggest growth by percentage was amongst firms with $50M to $300M, though the biggest chunk of overall growth was amongst the “megafirms”, $1B+ RIAs that had an average growth rate of 20% (which is a significant amount of assets given their size in the first place!). The biggest primary custodian of the survey was Schwab at 53%, with Fidelity at 30%, TD Ameritrade closing the gap at 22%, and Pershing at 9% (some firms listed more than one primary custodian, so numbers add up to more than 100%). Notably, the survey found that while an unsurprising 98% of RIAs charge AUM fees, 33% also charge hourly fees for some work, and 405 include some flat fee or retainer fees as well. In terms of advisor concerns, some noted the robo-advisor “threat” as putting value pressure on advisory firms, though regulatory issues were also cited as a key challenge.
Time Management Skills Are Stupid. Here’s What Works. – This article is an interesting review of The Power Of Full Engagement by Jim Loehr and Tony Schwartz, which finds that the key to peak performance is not necessarily about time but about energy; or viewed another way, if you just focus on time management alone, you may miss the fact that not all time you invest is equal. After all, most people will accomplish a lot more in one hour of energetic, optimistic, engaged time than in three hours of sleep-deprived mediocre effort. The trade-off is significant, as it implies that we might be able to get far more done in LESS time by focusing on making those fewer hours more energetic and focused ones; for most people, good work happens in sprints, not marathons, but time management skills tend to focus on managing a marathon. Continuing the athlete analogy, the reality is that top performing athletes design their entire lives around being able to sustain and renew their energy to apply competitively in short, focused periods, structuring their daily routines to support the approach – and to simplify the rest of their lives, as separate research has also shown that the more choices we present to ourselves, the more it depletes our willpower and self control. The bottom line: get enough sleep, know your prime hours, time your meals to align with it, strategically use rituals to help keep you refreshed, and schedule evening and weekend activities that recharge you. It’s time to focus less on working more, and more on working better.
The Risk Of Being Seen as Savvy – From the Wall Street Journal, this article by Jason Zweig highlights the recent discussion by the SEC that it may revisit the rules for becoming an “accredited investor”, driven in part by a mandate from Dodd-Frank that the rules be re-evaluated after 4 years (and Dodd-Frank was passed in 2010). The accredited investor rules provide access to “Reg D” (after the Regulation D SEC rule that permits them) private investments for those individuals who have at least $200,000 of annual income ($300,000 for married couples) or more than $1M in net worth (excluding the value of the primary residence). Reg D offerings are dominated by institutional investors, including hedge funds, venture capital funds, private equity funds, etc., that bought up more than 3/4ths of the assets, but the overall marketplace is huge – in 2012, there was $900B of capital raised amongst 31,471 private offerings, compared to 2,427 public offerings that raised $1.2T. Yet the challenge of updating the rules for this large, complex marketplace is the recognition that just because someone has money doesn’t necessarily mean they’re actually a savvy investor… which also means that raising the income/net worth thresholds won’t necessarily help. And arguably, net worth thresholds are a poor test anyway; the current structure allows for such perverse outcomes as someone who has only $999,999.99 of net worth can’t invest a penny into a private deal, but someone with a $1M net worth can invest everything into a single deal and lose 100% (and of course, if/when someone goes broke it really doesn’t matter how much wealth they started with!). Nonetheless, current proposals do consider raising the net worth and income thresholds (adjusting the original rules for inflation might lead to new thresholds like $400,000 of income or $2.5M in net worth), excluding some additional assets out of the net worth calculation (which indirectly helps to protect people in the event of a catastrophic loss), or limited the percentage of liquid financial assets that can be invested into private offerings, though none of the rules are likely to be implemented until 2015 at the earliest.
Great Client Questions You Should Ask Yourself – This article from the blog of advisor consultant Julie Littlechild highlights from the FPA’s recent Research & Practice Institute study some of the interesting questions that advisors use to try to get their clients to open up – things like “You are retired. It is Wednesday morning at 10:30AM. What are you doing all day?” or “If I gave you all the money you’d ever need to live you life and I only required you to get up every day and do something that totally excites you, or fills your tank, but you didn’t have to do it for the money, what would that be?” or “Five or ten years from now, what sort of things would you like to have crossed off your list that would make you feel like you’ve accomplished something?” Yet Littlechild points out that in a separate recent advisor study, only 5% of advisors said they had clearly defined their own goals for retirement… raising the interesting issue of whether advisors need to spend more time thinking about these very kinds of retirement questions for themselves, first. Especially since recent studies are also finding that having a clear vision of your own business and where it should fit into your life is crucial for effective time management and to feel in control. In light of all this, Littlechild created her own “What If I Were My Own Client” Assessment tool, where advisors really can put themselves through the process, and then reflect back on the results. You can check out the assessment questions here.
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!
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.