Enjoy the current installment of "weekend reading for financial planners" – this week’s edition starts off with a discussion by compliance consultant Brian Hamburger, suggesting that while the investment adviser world seems to prefer SEC user fees to FINRA as a regulator, it may be better to step back and ask more basic questions about what effective enforcement and the role of regulation should really be in the first place. From there, we look at an array of practice management articles this week, including a discussion of how to protect your firm from fraud, how to better engage clients (and generate more referrals as a result), how to get past the growth wall once you hit it, the problems with micro-managing staff instead of empowering them and getting out of their way, and a look at a new tool to benchmark the compensation of advisors and staff. We also look at a few more technical articles, including a research paper on how to evaluate non-qualified stock option decisions, how to incorporate interior finance issues into your practice and work with clients, and a look and what "endogenous risk" means and how it impacts portfolios. We wrap up with two interesting articles; the first provides a good warning about how advisors can better navigate copyright laws when writing material for their blog or website, and the other is a lighter article on "10 Things Happy People Do Differently" which may not provide any great revelations but may provide some nice reminders for a few of you. Enjoy the reading!
Weekend reading for October 27th/28th:
Sleight Of Hand – This article by compliance consultant Brian Hamburger from Financial Advisor magazine discusses the current landscape for potential regulation of investment advisors, noting that while the RIA community helped to beat back the proposed legislation from Congressman Baucus that would have likely put FINRA in charge of investment advisers, the battle is far from over, and that even the alternative – the SEC user fees proposed legislation from Congresswoman Waters – is still problematic. The issue remains that Congress still believes investment advisors do not have enough on-site examinations – despite, as Hamburger points out, that there’s little actual evidence that more frequent examinations are actually beneficial, as evidenced by incidents like Bernie Madoff and the Lehman Brothers’ Repo 105 balance sheet manipulations which all occurred under the watchful eye of annual FINRA exams. And it’s not clear that user fees to the SEC would help either, as even if the organization’s revenue increases, it is still staffing constrained and it’s not clear exactly where/how additional resources would be allocated, and the current proposal would actually allow the SEC to generate more revenue with arduous inefficient exams than efficient ones! So what’s the alternative? Hamburger suggests a third-party system that reviews advisors and highlights warning signs for the SEC to investigate may be a more effective solution.
Less-Risky Business: Protecting your Financial Planning Firm from Fraud – This article by Deena Katz in Financial Planning magazine discusses how to protect your firm from fraud – another article along the theme of this weeks’ earlier blog post, "Wire Fraud: A Terrifying New Trend Targeting Advisors" – and discusses the concept of "vulnerability management" where firms works to identify, classify, remediate, and mitigate potential security/software/technology vulnerabilities. Katz notes that one key step was to outsource many security functions, such as using third party secure cloud files rather than relying on their own internal process to encrypt client files; while Katz acknowledge that not even big firms are always perfectly secure, if they have difficulty, then is it really realistic to think a small financial planning firm will have a better chance? It’s also important to bear in mind that software isn’t the only weak point; for instance, how effectively do you screen employees when you hire, and do you have new hires sign a confidentiality agreement to obligate them to help protect client information? The article also notes that in practice, good compliance procedures should be viewed as an opportunity to shore up the security of your client data and improve its safety.
4 Ways for Advisors to Better Engage Clients – This article by practice management consultant Julie Littlechild looks at her firm’s research to delve into the issue of how to really engage clients, noting that it is clients who are engaged – not just those who are "satisified" – that actually drive referrals. So how do you engage clients? The first step is simply to regularly survey them and ask for feedback; clients who feel they can voice feedback, and that it will really be heard, have more of a connection and sense of ownership of their relationship with the firm. The second step is to really define who is a target client; firms have a tendency to accept anyone who can afford their services, despite the fact that it’s the ideal (and engaged) clients who tend to drive referrals anyway. The third step is to actually try to build a deeper connection, by focusing on client contacts, offering appropriate services, and being certain to actually communicate those offerings to clients. The fourth step is to take an effective leadership role with clients, truly helping them navigate some of their greatest challenges and difficulties. As Littlechild’s research notes, once these engaging steps are built, leveraging them for referrals becomes dramatically easier.
Where There’s A Wall, There’s A Way – This article by Mark Tibergien explores how firms that "hit the wall" – where they get stuck mired in all the work of the firm and can’t find the time to grow – surmount the challenges through process improvement. Research from Pershing Advisor Solutions notes that the average advisor devotes only about 50% of his/her time to actual client service and business development – implying a great deal of time spent on non-essential tasks – and that only 41% of firms even have their processes documented in the first place (if it’s not documented, it’s hard to manage or improve the process!). The result of inefficiencies is that the advisor spends too much time on organizational issue, overhead costs increase, and margins get squeezed, which Tibergien suggests is happening right now to many firms. Tibergien makes the case that the way past the wall is to systematize and improve processes, noting that while many advisors like to treat each client as unique and individual to customize for them, in practice it simply results in inefficiencies and potential mistakes and possibly even a lower level of service. The ultimate goal, according to the research, is to reduce the cost and amount of support staff, as Tibergien suggest many firms have been forced to add too much staff to deal with poor processes and inefficiencies.
The Cost of Management: Making More From Less – This article by Angie Herbers explores the idea that many planning firms may be over-managing staff – being so hands-on that the management creates more problems than it solves. Herbers suggests that especially in smaller businesses, its crucial to empower employees and encourage their initiative, rather than micro-manage them and insist that all decisions must be made by the owner. By overmanaging, employees lose that initiative and empowerment, and become demotivated. So what happens if you step back and empower employees instead? Ultimately, Herbers’ research indicates that owner-advisors at employee-centered firms earn significantly more take-home pay from similar revenues, and do it working far fewer hours. Overall, the basic focus is to view the owner’s role less as a boss and more as a coach – a step away from the "traditional" management world, to something that works better in a small business environment.
Simplicity Itself – This article by Bob Clark discusses a new salary tool available from practice management consultant Angie Herbers on her website at www.angieherbers.com/salary, which allows advisors or their employees to answer some basic questions about their job description and get an estimate of appropriate salary and total compensation. The key benefit of Herbers’ tool is that rather than relying on job titles, which are often inconsistent in how they’re used, the tool inquires about primary job duties as well and provides compensation information based on the work that’s actually being done. Overall, the tool determines salary based on firm size, experience, training and education, location, and responsibilities (as determined based on primary job duties and also the job title).
A Decision Model for Non-Qualified Stock Options – This article by Roy Ballentine in the Journal of Financial Planning provides a decision-making framework for evaluating a client’s non-qualified stock options. The article finds that in general, it’s best to delay the exercise of an option for as long as possible, allowing just enough time to exercise before the expiration date (and taking into account any employer-specific policies or personal cash flow constraints). The benefit of delaying holds even if the stock is expected to appreciate and there is a large gap between ordinary income and capital gains tax rates; the only real exception where it pays to cash out early is if the stock’s expected return is flat or negative going forward. For those who aren’t interested in the formulas and math that Ballentine uses for his analysis, skip to the last half of the article where he demonstrates how to use the model to analyze various strategies and client scenarios (although you may have to read back to understand what the abbreviated terms mean).
Interior Finance: The Micro-Level Exploration of Individual Client Money Scripts – This article by Rick Kahler from the Journal of Financial Planning shares his perspective on Interior Finance – which he differentiates from behavioral finance in that the latter helps to identify illogical behaviors, but the former helps clients actually achieve the behavioral change to change those behaviors or move past them. And Kahler notes that most clients have interior finance issues, even if they’re outwardly successful; in fact, Kahler notes that while he once tried to avoid emotional client situations – "after all, they were paying me for my financial expertise" – he now acknowledges that helping clients through some of their concerns and the emotional baggage attached to money can be extremely valuable as well. And many of these issues are at the forefront when clients come in the door, especially since significant life transition events often trigger a need to meet with a planner. However, Kahler emphasizes that interior finance is a building process, and needs a trusting relationship first – so don’t be too blunt and quick to delve into interior finance issues before the client is ready. First, though, Kahler suggests that planners should explore their own interior finance issues before working on them with clients.
Even Riskier Than You Think: Financial Planners Learn to Minimize Risk in Turbulent Markets – This article from Financial Planning magazine explores the concept of "endogenous risk" – where risks emerge not merely because of external market events, but because of the behavior of the market participants themselves, such as the crash of 1987 or Long-Term Capital Management in 1998 or the financial crisis in 2008. The article suggests that endogenous risk is higher than ever, due to the expanded reach of markets, the concentration of wealth in the hands of the wealthy few and the financial sector (and the shadow banking sector), and an explosion of speculation especially around derivatives. So what should advisors do? The author suggests that clients should be prepared for endogenous risk events and that they will and do happen from time to time; diversification helps, but also consider just investing more conservatively in a riskier world; and invest directly in sound, well-run companies and avoid the middleman that may exacerbate the problems. Overall, I’m not certain that many planners will necessarily change how they invest simply due to an acknowledgement of endogenous risk, but the discussion is nonetheless valuable to accentuate the fact that market risk is about more than just random economic shocks.
Legal Danger For Financial Bloggers – This article from Susan Weiner’s Investment Writing blog provides a good reminder for advisors that are writing and blogging about how to keep out of trouble – not from regulators like the SEC and FINRA, but from violating copyright laws. Weiner’s article notes that copying someone else’s work is a copyright violation, and just crediting and linking back to it doesn’t get you off the hook; at best, you should only be excerpting a portion of the work, but even then there’s no minimum limit that says "if you only copy XXX words, it’s okay" – it’s often not. So how do you know if what you’re using/copying is acceptable? The question is whether or not it falls within the "fair use" guidelines, which is a facts and circumstances-based test; Weiner provides some resources to give further guidance to help advisors keep themselves out of trouble.
10 Things Happy People Do Differently – This article from Psychology Today provides some nice tips about how to stay happy in the midst of a busy, complicated professional life, from Positive Psychology student and stress management expert Paul Davis-Laack. While the tips are probably not going to be any startling revelation, they still provide a nice reminder, and include: build a strong social fabric of relationships; engage in activities that fit your strengths; practice gratitude; keep an optimistic thinking style; do good and volunteer; recognize that material wealth is only a small part of the equation; establish healthy coping strategies for stress; focus on health; cultivate spiritual emotions (or whatever religion or spiritualism appeals to you!); and have meaningful life goals to work towards.
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!