Enjoy the current installment of "Weekend Reading For Financial Planners" – this week's edition kicks off with the buzzing industry news that Merrill Lynch is barring its brokers from receiving gifts, meals, or entertainment from its wholesalers, in what some see as a shift of even large brokerage firms to begin stamping out more conflicts of interest in the new era of Regulation Best Interest, and critics suggest is simply the new path of brokerage firms to require asset managers and product companies to go through (and revenue share to) the home office instead of its brokers directly (payments which must be disclosed, but are not against the rules for broker-dealers under Regulation Best Interest).
Also in the news this week are some notable new industry studies, including one that looks at what clients actually want to talk about in advisory meetings beyond their portfolios (from protecting against identity theft to new housing decisions), the latest data on which types of consumers are actually using robo-advisors (only 10% of Millennials with <$50,000 of assets but almost 50% of those with >$500,000!), and the latest trends in how advisory firms are investing (showing the continued dominance of ETFs, an ongoing decline in the use of individual stocks, bonds, and REITs, but what is still, at best, just a small minority of advisors who are actually 'passive' as most advisors appear to be using ETFs as their own active management portfolio building blocks).
From there, we have several more interesting investment-related articles, including the launch of the new Long Term Stock Exchange by Lean Startup founder Eric Ries, the growing turmoil in prime money markets as interest rates appear to be pegged near the zero-bound for a long time to come and 'gates' implemented to prevent a 2008-style run on money markets may actually be exacerbating one this time around, growing questions about the long-term viability of the 60/40 portfolio in a persistent low-yield environment and what the future alternatives may be, and a look at how no-commission annuities may be emerging as a bond alternative for advisory accounts.
We wrap up with three interesting articles, all around the theme of being (and feeling) wealthy and what helps us get there: the first is a review of the recent Morgan Housel book "The Psychology Of Money" which explores the differences between being rich and being wealthy; the second examines what it takes to not feel 'rushed' (hint: it's all about delegation to focus on the biggest and most important tasks); and the last explores recent research finding that those who work with financial advisors don't just do better with their money... they're also happier with it, too!
Enjoy the 'light' reading!
Merrill Lynch Bars Brokers From Accepting Wholesaler Freebies But Is It A Wall Street Card Trick? (Lisa Shidler, RIABiz) - The breaking industry news this week was a somewhat abrupt announcement on Tuesday that Merrill Lynch will no longer allow its 14,000 brokers to have any gifts, meals, or entertainment paid for by third parties - otherwise known as wholesalers - effective immediately. In the past, brokers were allowed to accept wholesaler gifts up to $100/year per provider, and third parties could sponsor events up to $300 per person (and up to $1,000 per client or prospect per year), but now will be limited to 'novelty items' bearing the third-party provider's name or logo (and only if they have a value of less than $50 and are not 'frequent and excessive') or meals at training/educational (but not entertainment) events. Ostensibly, the new rules are intended to limit conflicts of interest for broker-wholesaler relationships, particularly in light of the recent Regulation Best Interest effective date (which didn't specifically limit wholesaler gifts and support but has created scrutiny regarding a broad range of industry practices). However, critics note that ultimately, large financial services firms can still allow wholesalers access to brokers on their own terms - simply set nationally by (and paid directly to) the firm instead. In other words, Merrill Lynch's policy change doesn't necessarily limit the firm's conflicts of interest with asset managers and product manufacturers, it simply requires those payments to be made directly to the brokerage firm (e.g., via revenue-sharing, shelf-space, and similar payments), and the firm then determines how wholesaler access will occur, effectively preserving the brokerage firm's role as an 'intermediary' in the distribution process (on which it receives a portion of the advisor revenue). For Merrill brokers that historically have relied on working with wholesalers, particularly in their marketing and client events efforts, there may now be new temptation to shift to another wirehouse or into the independent broker-dealer community where other firms still permit such broker-wholesaler relationships. Still, though, the shift does mitigate at least some of the conflicts, and could presage a larger shift in how wholesalers of all types interact with financial advisors (if/when/as more broker-dealers mimic Merrill's approach, while the RIA community is already notorious for being difficult for external wholesalers to reach).
What Your Clients Want To Talk About (Michael Fischer, ThinkAdvisor) - According to a new joint study from AIG Life & Retirement and the MIT AgeLab, consumers who have the highest satisfaction with their advisors talk about more than just their portfolios, with 85% discussing future goals and aspirations, 77% discussing job transitions/new careers/retirement, 72% talking about potential expenses for their own future care, and 62% providing advice around their family members' finances as well. Notably, this doesn't mean that performance, service, and expertise didn't also matter (and drive satisfaction), but that consumers are increasingly looking for broader and more meaningful conversations. Other top-of-mind non-portfolio conversations of interest for clients included protecting one's self from identity theft and fraud, physical health, and housing (particularly younger clients, as virtual work is suddenly creating new potential for job mobility and relocation). More generally, the research did affirm that consumers are ever and increasingly interested in working with advisors who truly understand their financial and life goals, and want to established trusted relationships with meaningful conversations (that 'robo' advice alone cannot provide), with 40% of even younger clients stating that they saw their ideal advisor as a life coach, and clients were more likely to say their financial professional's network was a key driver of satisfaction (53%) over just their advisor's own personality (48%). Still, 19% of consumers stated that they were considering whether to leave their advisor, and the top two reasons were portfolio performance and service, which absolutely do still matter, too!
Who Actually Uses Robo-Advisors? New Data Reveals Surprising Answers... (Ryan Neal, Financial Planning) - In a recent new study from data and analytics firm Hearts & Wallets, nearly half of consumers using an automated portfolio service (i.e., a "robo-advisor") consider themselves to be experienced or very experienced at investing, 57% of them also use financial professionals, and use of robo-advisors is highest amongst those with at least $500,000 in investable assets. In a world where the prevailing view has been that robo-advisors primarily serve new less affluent investors, the results indicating that use of robo-advisors is growing amongst the affluent comes as a surprise to many (with as many as 50%(!) of Millennials with >$500,000 of investable assets allocating dollars to a robo-advisor, compared to only about 18% of Gen X and 5% of Baby Boomers, and only 10% of Millennials with <$50,000 of assets). Yet on the other hand, the results still show that consumers are not necessarily using robo-advisors to replace human advisors, and that in reality using a robo-advisor for a portion of the assets to complement the services of a human advisor is becoming the more common behavior amongst affluent (especially younger) consumers. However, the question arises as to whether robo-advisors will be able to gain more market share from 'traditional' financial advisors by expanding into more human advice to complement their technology offerings. More generally, though, the results simply suggest that, particularly amongst affluent Millennials, the value of an advisor is increasingly separating the portfolio (robo) and non-portfolio (human advisor) aspects of the financial advice value proposition.
2020 Trends In Investing Behavior Amongst Advisors (Financial Planning Association) - The FPA's "Trends In Investing" survey first began in 2006, and in the nearly 15 years since has documented a wide range of shifts in how advisors construct portfolios and provide recommendations to clients. The latest study shows a number of notable shifts in recent years regarding how advisors are constructing portfolios (and notably, was conducted in March before the disruption of the pandemic was even into full swing), including ongoing downticks in the use of individual stocks and bonds (down from 56% to 51% and 46% to 37%, respectively), along with a decline in individually traded REITs (from 22% down to 15%), non-traded REITs (down from 13% to 10%), private equity (down from 12% to 9%), hedge funds (down from 9% to 4%), and other alternative investments (down from 17% to 8%), while ETFs are now the dominant building block of client portfolios (at 85%, compared to 'just' 75% for mutual funds). In fact, the only notable upticks were indexed annuities (up slightly from 16% to 18%), and the use of ESG funds, which grew from 26% to 38% in the past 3 years. On a forward-looking basis, ESG continues to drive growing advisor interest as well, with 29% of advisors expecting to increase their use of ESG funds in the coming year, though notably 25% of advisors also indicated a desire to use more individual stocks (but only 11% of advisors planned to use more individual bonds), while the categories with the most likely decreases in usage included mutual funds (17%), individual stocks and bonds (15% each), and cash (14%). Overall, though, the trend remains that advisors are increasingly actively managing passive vehicles, with only 11% of advisors stating that they are active managers, 24% stating that they are passive, but almost 65% claiming they are a "blend of the two".
Silicon Valley's New Long Term Stock Exchange Opens For Business (Biz Carson, Protocol) - The good news of publicly traded stocks is that they have broad access to capital and give a wide range of investors the opportunity to participate in the economic growth engine; the bad news is that as investors buy and sell stocks, they can quickly reward or punish the stock price, which coupled alongside regulatory requirements for transparency to share key information, results in a challenging form of short-termism for management of publicly traded firms. To help fill the void, Silicon Valley entrepreneur and founder of the 'Lean Startup' movement Eric Ries has designed a new "Long Term Stock Exchange" (LTSE), built around five core principles of staying long-term focused on strategy, stakeholders, compensation, boards, and investors. The rise of the LTSE comes as companies in general are becoming more wary of public markets and IPOs, from more and more companies staying private before they go public, recent direct listings from Spotify and Slack, and the rise of the Special Purpose Acquisition Vehicle (SPAC) that facilitates IPOs via a merger. And of course, there are publicly traded companies that have managed to stay focused on the long term - even at the cost of being unprofitable for extended periods of time - including most notably Amazon itself, and raising the question of whether the LTSE is really creating anything distinct and new. Though ultimately if the LTSE becomes a window to finding companies that are particularly focused on long-term thinking and aligning themselves to LTSE's long-term principles, it may still become an appealing venue for a particular subset of investors who are focused on long-term opportunities to buy and hold innovative companies.
Money Markets Have A $750B Problem In A Zero-Rate World (Emily Barrett & Katherine Greifeld, Bloomberg) - Just four years ago, 'prime' money market funds (that invest in high-quality short-term corporate debt) were overhauled to minimize the risk of a future run on money markets (in the aftermath of the financial crisis when the prime Reserve Fund 'broke the buck'), but as interest rates dip down again amidst Federal Reserve rate cutting and stimulus in response to the pandemic, prime money market funds are facing a new crisis. In a roughly 6-week stint during the pandemic, assets in prime money market vehicles dropped 20% (with nearly $150 billion in outflows), raising concerns about whether new reforms may become necessary and whether a potential new money market cash crush could be looming, and Vanguard announced that it was converting its massive $125B money market fund to only buy government debt going forward (while Northern Trust and Fidelity have axed their prime money market funds altogether). The core issue is that, as part of the post-financial-crisis reforms, non-government 'prime' money market funds can potentially impose gates on redemptions if there's a rapid outflow... which was appealing in a world where at least investors could get paid a little more to give up that liquidity, but is concerning as low interest rates leave little room for additional prime money market yields and 'just' the risk that they will turn out to be less liquid when needed. Of course, the irony was that the whole point of redemption gates was to reduce the risk of a catastrophic run on money markets - not to amplify the risk by causing investors to run from prime money market funds in the face of a fear of a run on prime money market funds! Still, though, with interest rates likely to hold near the zero bound for an extended period of time, questions are now looming about what kind of future non-government prime money market funds will have going forward from here.
Can The 60/40 Portfolio Still Work? (Ben Carlson, A Wealth Of Common Sense) - With interest rates making yet more new lows, there is a growing chorus suggesting that the traditional 60/40 portfolio, and the approach of holding 40% of a portfolio in near-zero-yield bonds, will no longer be viable. Some, like PIMCO economist Paul McCulley, are going so far as to suggest that if the 60/40 portfolio keeps working from here, it means the system itself may be broken, as the 40-year run of the 60/40 portfolio has been driven heavily by a disinflationary environment that has occurred concomitant with a shift in the economy from labor to capital, driving up the value of income streams and leading to compounded returns since 1980 of 11.7% on stocks, 7.4% on bonds, and 10.4% on a 60/40 portfolio... in a way that can't sustain and continue compounding in its current direction. Of course, the reality is that stocks have often produced 10%+ returns over 40-year time periods... the real distinction is bonds, which produced a return of nearly 4% above inflation since 1980 but lost to inflation in the preceding 40 years (from 1940 to 1979). Which means in the end the 60/40 portfolio in the aggregate may not be broken - even in the earlier decades, it produced a return of 7.6%/year despite a nominal bond return of only 2.8% - but at the least, the burden will be almost entirely on stocks to be the engine of portfolio returns.
Low Rates Lead Investors to Look Beyond The Classic 60/40 Mix (Liz McCormick, Anchalee Worrachate, & Vivien Lou Chen, Bloomberg) - In the 1920s, a young accountant named Walter Morgan became alarmed at the rampant speculation of the booming 1920s stock market, and in response created a 'balanced' mutual fund - the Wellington Fund - to invest in both stocks and bonds to balance out the risk. Decades later, Harry Markowitz' "Modern Portfolio Theory" further laid out the mathematics of how a stock/bond mix could produce higher risk-adjusted returns than either stocks or bonds alone. However, with bond interest rates hovering so close to zero, there's little room for bonds to create any return (much less a higher risk-adjusted one), raising questions of whether the 60/40 portfolio may soon be replaced. As if the goal is the risk-buffering aspects of bonds - as a 'ballast' to stock volatility - there are arguably other ways to create 'resilient' (not-necessarily-bond-based) portfolios, from using a wider range of equity diversification itself (e.g., more sectors, more countries, more exposure to private equity and venture capital in addition to publicly traded stocks), as well as the growing number of 'alternative' investment options as well. And while historically many 'alts' were only offered in high-priced vehicles, the rise of alts in ETFs, along with a broader push towards alts in general, is beginning to bring down at least some of the costs. Of course, alts - and most other diversification options - do entail additional risks as well... but for investors stretching for yield in bonds and taking on increasingly risky 'junk' bonds, arguably the reality is that investors who want returns in today's environment are going to be stuck with some range of risky investments no matter what, for which the best solution may simply be to diversify amongst them to the extent possible.
No-Commission Annuities As A Substitute For Low-Yield Investment-Grade Bonds? (Rajiv Rebello, Advisor Perspectives) - With low bond rates putting more and more pressure on the bond portion of a 60/40 portfolio, there is more and more pressure on advisors to find alternatives to low-yield bond allocations that can drive greater returns (not to mention justifying the cost of the advisor's fees to manage and add value to the bond allocation of the portfolio). After all, a client with a 2% bond yield who faces a top tax rate of nearly 50% (Federal plus state in a high-tax-rate state), plus an advisory fee drag, may net no more than 0.25% in after-fee after-tax yield, akin to what could be obtained by simply putting the funds into a high-yield bank savings account and calling it a day. Tax-deferred - or better yet, tax-free Roth-style - retirement accounts can at least somewhat improve the equation by deferring or eliminating the tax drag on the bond allocation to the portfolio, but still have limited upsides in a low-yield environment. However, Rebello notes that some fixed annuities have higher yields than available high-quality corporate bonds, effectively substituting a broad-based corporate bond fund for the general account investments of a major insurance company (which functionally is a high-quality corporate bond, albeit one that also has an implicit or explicit state guaranty fund backing it as well). And with the rise of no-load annuity options, advisory firms increasingly have the availability to access such yields on behalf of clients directly, without the drag of commissions that they may not be able to accept (while still separately charging their own advisory fees directly from the annuity), or even to move slightly up the risk scale and allocate clients to an indexed annuity (that has more upside than a fixed-rate annuity, albeit with at least some risk that the contract fails to even produce the yield of bonds and instead provides 'just' its 0%-return floor). More generally, though, the key point is simply that due to the nature of long-term annuity companies' own bond portfolios, and the structure of the regulations and guarantees that wrap around them, advisors may actually find at least a slight 'arbitrage' opportunity between buying fixed income allocations directly with bonds or via an annuity company instead (or at least, a trade-off of the few restrictions that even no-load annuities do still have, in exchange for higher yields than what comparable-risk bond funds may provide).
Do You Know The Difference Between Being Rich And Being Wealthy? (Jason Zweig, Wall Street Journal) - The conventional economic view of money is that it is a store of value and a medium of exchange, but a new book by Morgan Housel entitled "The Psychology Of Money" makes the case that money is also "a conduit of emotion and ego, carrying hopes and fears, dreams and heartbreak, confidence and surprise, envy and regret". After all, for some people, money is a plaything (as Housel relates the story of one multimillionaire who bought $1,000 gold coins and then used them as skipping stones to throw into the Pacific Ocean), while for others it's a possibility (as Housel relates the story of a janitor who accumulated money for decades and then left $6M to local charities). For which the real distinction from an investing perspective is not one of IQ, but of 'character', where the janitor was effective at delaying gratification and didn't feel a need to spend for validation (he "didn't need to spend big so other people wouldn't think he was small"). Similarly, it's remarkable to recognize that even famed investor Warren Buffett accrued 95% of his wealth after the age of 65 (as he approaches age 90 this month), and even Buffett's first-30-year track record would have results in 99.9% less wealth than he actually has today (i.e., the skill may be investing, but the secret is time!). Ultimately, though, the key point is simply to recognize the difference between being rich (e.g., having a high income to spend) and being wealthy (having the freedom to choose to spend money or not as one wishes). Or stated more simply, "The ability to do what you want, when you want, with who[m] you want, for as long as you want to, pays the highest dividend that exists in finance".
True Wealth Is Never Feeling Rushed (Khe Hy, Rad) - Despite a pandemic environment that has forced so many of us to give up long-standing activities, few can freely say "I have so much free time". Yet every now and then, you meet someone who seems to always be on top of things, who's totally present in everything despite a seemingly busy life, who appears to 'never feel rushed'. In fact, the irony is that often it's the people who would appear to be the busiest and most prolific producers who seem to be the least rushed in doing so. So what's the key? Avoiding distractions - or what Dan Kennedy of "No BS Time Management" calls "Time Vampires that will suck as much blood [time] out of you as you permit"... where the key to productivity is not about getting more out of your time, per se, but fending off the time vampires. The starting point to combatting time vampires, though, is simply to identify them, for which Hy suggests the key is tracking your time.. and specifically, tracking how much time you spend on tasks that are $10/hour work, vs $100/hour, vs $1,000/hour, vs $10,000/hour. Because most of us get caught in $10/hour tasks - scheduling calls, formatting presentations, prepping meeting materials, etc. - or perhaps $100/hour tasks (e.g., client work), but rarely focus on $10,000/hour tasks (e.g., incubating a new service offering for clients, learning a key new skill, resetting the vision of the business, hiring a new key employee, etc.). Which means the real key for those who never feel rushed is simply that they're relentlessly focusing their time on the $10,000/hour work, and have best figured out how to let go of the rest.
People With A Financial Advisor Aren't Just Better With Money, They're Happier With Life, Too! (Tanza Loudenback, Business Insider) - In its latest "Planning and Progress Study", Northwestern Mutual found that "financial stability" plays an outsized role in one's overall life satisfaction, with 92% of people stating that nothing makes them happier or more confident in life than having their financial house in order, and those who have worked with a financial advisor more likely to report greater financial stability. In fact, 66% of respondents who had a financial advisor stated that they felt financially secure (compared to 30% of those who didn't pay for professional help), 85% who worked with an advisor stated that they felt their personal life was heading in the right direction (compared to only 71% who did not have an advisor), and 70% who work with an advisor stating that they're happy with their life (compared to only 50% of those who were self-directed with their money). Of course, the caveat is that financial advisors do disproportionately work with more affluent households, who arguably are already more likely to feel financially stable simply because they objectively do have more than the average American. Nonetheless, the research results also showed that those who worked with a financial advisor were more likely to have strong financial habits, including being more likely to know how to balance spending now and saving for later, to set specific goals and feel confident they'll be achieved, and to have a plan in place to weather economic ups and downs.
I hope you enjoyed the reading! Please leave a comment below to share your thoughts, or make a suggestion of 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, and Craig Iskowitz's "Wealth Management Today" blog as well.