Executive Summary
Enjoy the current installment of "weekend reading for financial planners" - this week's edition starts out with reports emerging that Scottrade Advisor Services appears to be strategically shifting away from its position as one of the more startup-friendly custodians, imposing a new asset minimum of $7M, or a potential $12,000 custodial fee for advisors who don't meet the minimum; dozens of advisors who don't meet the minimum are now shifting away to the leading startup-friendly alternatives, SSG and TradePMR instead. In a related story, the latest data on RIAs suggests that notwithstanding industry consolidation and the push towards larger advisory firms, there is still a lot of growth with new RIAs being formed every year (though a significant number of other firms appear to be closing their doors at the same time, leading to a smaller level of net growth in RIAs).
From there, we have several articles on practice management and advisor technology this week, including: how advisory firms need to shift away from revenue-sharing-based compensation to build enduring businesses; a look at some less expensive rebalancing software tools for advisors including RedBlack, Trade Warrior, and TRX; the re-emergence of consumer-targeted BloombergBlack as an advisor-targeted account aggregation and analysis/reporting platform called CircleBlack; and a look at the ongoing aggravation many advisors still face with account aggregation tools, and a new entrant (Quovo) that's attempting to solve the issues.
We also have a few more technical financial planning articles, from an analysis via Morningstar that finds tactically-based target-date funds are outperforming purely strategic TDFs, to a discussion of the various options for long-term care insurance (and alternatives to "traditional" coverage), and a look at how the line-of-credit borrowing limits are determined for clients who want to obtain a standby reverse mortgage to support their retirement income needs.
We wrap up with three interesting articles: the first gives a credit list of important lessons from the research in social psychology, some of which have significant implications for us as financial planners and how we build a business; the second is a fascinating look at how the pricing of your services dramatically impacts the long-term growth of the business, when you take into account the potential of reinvesting profits back into the business to get new clients in the future and how it compounds over time; and the last reports on a recent research study finding that financial knowledge/acumen is a poor predictor of making good financial decisions, and that the better predictor is whether the individual tends to focus more on the past, present, or future... and notably, the best results are not from those who focus on the future, but those who focus on the past!
Enjoy the reading!
Weekend reading for August 2nd/3rd:
Scottrade Culling Some RIAs And Imposing 'Unpublished" $12,000 Fee On Others (Lisa Shidler, RIABiz) - Scottrade Advisor Services has seen rapid growth in RIAs over the past decade, now numbering over 1,000 advisors on the platform. The growth has been driven in large part by its startup-friendly minimal admission requirements and no minimum fees (supposed by a good reputation for service and technology), but the platform appears to be in the midst of some radical changes since the departure of its leader Brian Davis last summer. In recent weeks, "smaller" advisors have been receiving notices that they will have to quickly ramp up to at least $7M of AUM on the platform, or pay a(n annual) fee of up to $12,000 to remain with Scottrade; otherwise, Scottrade will terminate the advisor relationship and convert clients to retail accounts. In light of the shifting winds, smaller Scottrade advisors are abandoning the platform for the other two leading startup-friendly custodians, Shareholders Service Group (SSG) and TradePMR; SSG alone has added 40 advisors from Scottrade over the past 2 months, and TradePMR indicates about 20 applications from Scottrade advisors as well. Notably, the trimming of "smaller" advisors is not unique to Scottrade; last fall, Fidelity announced that it would begin charging $2,500/quarter as a custodial fee for advisors with less than $15M of AUM, and the other leading custodians also typically impose either AUM minimums or require a clear business plan indicating that the advisory firm will be sizable soon enough. However, the shift has been received with more surprise from Scottrade, as the firm has long had a reputation for its willingness to serve smaller and newer advisors, and now appears to be in the midst of a significant strategic shift.
2,280 New RIA Firms Were Started From May 2013 to May 2014 (RIA In A Box) - Based on Meridian-IQ data, the total number of RIAs grew from 30,995 firms in May of 2013 to 31,739 in May of 2014, an increase of approximately 2.4% (744 firms). However, this net increase of 744 obscures what appears to be a more significant amount of "churn" underlying the RIA landscape, as the data finds there were a total of 2,280 new firms created over that time horizon. So where did the rest go? Schwab Advisor services estimates there were (only) about 54 completed merger-and-acquisition transactions for RIAs last year, indicating a mere 0.17% consolidation rate amongst the industry, and that there are 42 new RIAs being started for each acquisition exit! With a net increase of only 744 firms (against a 2,280 gross and only 54 M&A transactions), this implies the other 1,482 firms closed up shop, retired, or otherwise went out of business - a surprisingly high 4.8% attrition rate. When broken down by state, RIA in a Box finds that the fastest growing states are those growing from a small base (Hawaii, Utah, Nevada, New Mexico, and Idaho had 17%-40% growth rates, but all their RIAs combined are still barely more than 1/10th the RIAs in California, and similar California alone added 4x the number of new RIAs in 2014 as all those states combined). Overall, the largest headcount of RIAs correlates highly to the most populous states, but on a population-adjusted basis, the highest density of RIAs are in Connecticut, Massachusetts, Colorado, New York, and New Hampshire, while perhaps surprisingly the density of RIAs is lowest in some of the most popular low-tax retiree states, including Florida and Texas.
How Indy Advisors Can Remodel Cash Flow to Build Businesses of Enduring Value (David Grau Sr., Wealth Management) - As also discussed in his recent new book "Succession Planning for Financial Advisors", David Grau believes the advisory world is in the midst of a transition, where in the past advisory firms treated their practices as income-generating vehicles, but now are realizing the opportunities to actually build them into bona fide enduring businesses that create opportunity for future generations of advisors and are capable of serving multiple generations of clients. However, this transition is being hindered by the fact that most advisory firms are still structured in various forms of "Eat What You Kill" (EWYK) revenue-sharing models, with advisors compensated accordingly to top-line dollars of their clients instead of bottom-line profits of the business - and, unsurprisingly, as a result advisors tend to focus more on their clients than on finding a commonality of purpose to grow the overall business. Given this dynamic, Grau suggests that to build businesses, advisory firm owners must ultimately restructure the cash flow of the business to get advisors more focused on the bottom line (as well as the top line). Offing revenue-sharing just "siphons off" profits of the business to advisors who become compensated like owners but without the risks of ownership; by restructuring cash flow, firms can get away from revenue-sharing-based EWYK compensation, and into a more standardized structure of compensating advisors with competitive wages (and benefits) for work performed, providing bonuses that reward actions that benefit the business, and then distributing profits afterwards to those who have invested in the business and taken on the risks of ownership. Such a structure creates an incentive for newer advisors to want to buy in and participate in the future growth of the firm, and help build a business in the process.
Rebalancing Made Easy (David Lawrence, Financial Advisor Magazine) - While there are a growing number of portfolio management and rebalancing software solutions now available for advisors, the breadth of choices makes it more important than ever to match the rebalancing tool to the needs of the advisory firm; for instance, Envestnet Tamarac is a well-known highly efficient solution (as is iRebal), but at a highly sophisticated and more expensive price point that may not be appropriate for smaller firms with more modest needs. For some quality but less expensive (and complicated) solutions, Lawrence suggests checking out three options. The first is RedBlack, which can import data from all the common sources (TD Ameritrade's Veo, Fidelity, Schwab, Advent, etc.), build model portfolios by asset classes, security type, or a model-of-models approach, and can then monitor households based on tolerance bands (and also monitor cash balances) and work up the necessary trade orders. The next solution is Trade Warrior, which focuses heavily on its easy-to-use interface and a low price poit (no setup fees and a 60-day risk-free trial period); like others, it works with most custodians (and even multiple custodians simultaneously). The last offering is Total Rebalance Expert (TRX), which integrates with most custodians and also directly to portfolio management software tools like Advent or Orion Advisor Services; founded by a CPA, Total Rebalance Expert also takes a strong focus on tax efficiencies in rebalancing, in addition to providing the usual custodian connections and rebalancing trade workups.
BloombergBlack rematerializes as CircleBlack minus Bloomberg (Kelly O'Mara, RIABiz) - Last year, Bloomberg launched its BloombergBlack service that was supposed to provide high-quality portfolio analytics and tracking to individual investors... and then abruptly shut it down after just a few months. But the service has resurfaced again, rebranded now as CircleBlack (as it is no longer affiliated with Bloomberg), and with an intention to target advisors rather than going directly to investors. Although the CircleBlack software is an entire rewrite from what was done at Bloomberg, the new offering retains most of the same leadership and brainpower as the original, including chief executive John Michel whose prior achievements also include helping to create the successful Merrill Edge program. It appears that CircleBlack will be aimed at providing advisors with similar services to BloombergBlack, including account aggregation and portfolio analysis details for advisors and their clients (along with relevant news alerts and some "client communication tools"), and is being positioned not as a robo-advisor but a tool for human advisors to leverage themselves to compete against robo-advisors. The price point has not been set yet, but Michel indicates it will be a flat fee that is "not that high."
Advisor Aggravation (Joel Bruckenstein, Financial Advisor Magazine) - There are many reasons that advisors might use account aggregation software, including simply giving clients a better consolidated view of their own holdings, automatically populating other applications with data (e.g., pushing updated account balances into financial planning software), or comprehensive advisor performance reporting on all (including outside) assets/holdings. However, these different functions place different demands on the detail and quality of the data; for performance reporting, there must be an exceptionally high degree of accuracy, all the way down to the individual transaction level; by contrast, for just providing a consolidated balance sheet or updating planning software, the account balances need to be correct but the transaction details are less critical. Unfortunately, for much of its history, advisors have focused on account aggregation tools primarily for the performance-reporting approach that requires quality transaction-level data, only to find that the data is more spotty than anticipated, and using account aggregation for just account balances was inefficient given the price point. For these less incentive needs, the situation is beginning to shift, as MoneyGuidePro recently announced a deeply discounted partnership with Yodlee at an introductory price of just $365/year. However, for transaction-level data, the "only game in town" for years has been CashEdge (until it was acquired by FiServ) and ByAllAccounts (recently acquired by Morningstar but still available to independent advisors). A new upstart in the space, though, is Quovo, which is aiming to solve a lot of the data issues and provide transaction-level account aggregation (after having started as a direct-to-consumer solution but pivoted to serve advisors instead). In fact, Quovo is looking to go even deeper, beyond just capturing account balances and individual investment transactions, but also further scrubbing the data to verify it is accurate (called "data normalization"), and even performing some of its own additional analytics for further insight (and then making them available on both a Quovo dashboard and via an API to integrate into other software as well). Perhaps most appealing for Quovo, though, is that the platform offers tiered pricing based on the needs of the advisor (and unlike most others, priced by the household rather than the account); if only basic account balances for net worth statements are desired, there's a less expensive option, and for those who want to go deeper for individual investment transactions and more analytics they can pay accordingly.
Are Some Flexible Funds Proving Academics Wrong? (Janet Yang, Morningstar) - Notwithstanding all the research against market timing, Morningstar's recent 2014 Target-Date Research Paper finds that target-date funds that can tactically deviate from the funds' strategic, long-term asset allocation are generally beating their purely strategic allocation peers; the average return of the strategic funds ranks in the 54th percentile (beating 46% of peers), while the tactical funds have a 39th percentile average rank (beating 61% of peers). At this point, the tactical funds appear to be outperforming by having a slight overweight to equities; tactical funds are averaging 63% in equities, versus only 59% for purely strategic funds, but even when looking at risk-adjusted return results, the tactical funds are doing slightly better on average. A deeper look at where the tactical funds are shifting their allocations finds that the greatest equity overweightings are actually for those closest to retirement - the typical 2015 tactical target-date fund has about 7.4% more in equities than 2015 strategic target-date funds (47.4% vs 40%, respectively), ostensibly due to a concern about the potential impact of rising rates on what would otherwise be a very bond-heavy portfolio. Other target date funds have been tactically adjusting by reducing exposure to interest rates within the fixed income segment as well, buying less-rate-sensitive parts of the fixed income market. Of course, it's not surprising that tactical TDFs overweighting equities have done well in the past 5 years of a bull market; the real question is whether they will be able to shift their allocations more conservatively before the next bear market emerges.
LTC Options (Ben Mattlin, Financial Advisor Magazine) - For those who want to protect against potential long-term care needs in the future, there are a growing range of insurance options available to clients. While standalone long-term care insurance is still available - and many advocate it is still the simplest and most direct way to cover LTC risk - there are also a number of hybrid (or combo) policies that merge together life insurance and long-term care benefits, popular both because they pay a death benefit if never used for long-term care insurance, and also because the costs are generally guaranteed (though the rates of return are not, which ultimately leads to the same non-guaranteed outcome as traditional LTC!). However, with hybrid policies the premiums are not tax-deductible (even as a medical expense), and the policies themselves require far more capital to fund in the first place. Beyond full hybrid life-LTC policies, there are also life insurance policies that offer chronic-care riders; the LTC coverage for such policies may be less expensive in the long run, but typically requires a permanent (chronic) condition to trigger a claim (thus, for instance, a broken hip could generate a claim from traditional LTC coverage but not a life-with-chronic-illness-rider policy). Beyond hybrid life-LTC policies, there are also hybrid annuity-LTC policies available, which similar to their life counterparts have limited underwriting, a large up-front cost, guaranteed ongoing costs, and a pool of money for LTC benefits that may be several times the cash value (though at death, the amount paid is typically "just" the cash value, and not the full death benefit). While some people are buying these hybrid policies with new dollars, many are actually using no-longer-necessary cash value life insurance or annuity policies and repurposing the funds for the LTC purpose while avoiding tax consequences through a 1035 exchange. Notably, even without hybrid policies, many life insurance policies do offer accelerated death benefits for those who are terminally ill.
Reverse Mortgages: How Large Will A Line of Credit Be? - (Tom Davison, Tools For Retirement Planning blog) - The maximum borrowing amount for a reverse mortgage line of credit is ultimately driven by four key factors: the 10-year LIBOR swap rate; the lender's margin (added to the rate of the loan); the appraised value of the home, and the age of the borrower (or for a couple, the age of the youngest spouse). The LIBOR rate (which is available from the Fed's website as is marked as "Interest rate swaps - 10-year") and the lender's margin (typically 2.25% - 3.0%) are combined together into what is called the "Expected Rate", which is used to determine the maximum borrowing amount (known as the Principal Limit Factor). Notably, this interest rate structure for determining the Principal Limit Factor (PLF) is different than the rate that will ultimately accrue on any balance (and the amount by which the maximum line of credit will grow over time), which is based on 1-month LIBOR plus lender's margin plus the Mortgage Insurance Premium of 1.25% (at least for HECM reverse mortgages). Technically, the PLF (which is analogous to the Loan-To-Value (LTV) for a tradition mortgage) is computed as a percentage of the home's appraised value (up to a maximum home value), and the percentage itself is based on the Expected Rate and the age of the borrower (or youngest spouse for a couple). For instance, a 72-year-old client facing a 10-year LIBOR swap of 3% and a lender's margin of 3% would have an Expected Rate of 6% and looking up in the HECM PLF tables would find a PLF of 46.7%; if the home was worth $300,000, then the maximum borrowing amount would be $300,000 x 46.7% = $140,100. PLFs are greater when rates are low and ages are older, and vice versa with higher interest rates and younger ages.
The 20 Best Lessons from Social Psychology (Zach Hamed, Medium) - Research in social psychology has revealed some amazing insights about how we interact with each other and the world around us, which in turn has some interesting implications for the work we do as advisors. Key ideas from this list include: reciprocity has a strong effect on us (we'll give back to someone who gives to us, even if the original gift was entirely unsolicited); how requests are framed matters a lot (we volunteer more for an "Experiment at 7AM" than a "7AM Experiment" because the former puts less focus on the early time!); being watched by others improves performance on simple tasks but hinders performance on complex tasks or when learning a new skill; comparing people to their friends is the most effective way to make them do something; the more you're exposed to something, the more you like it (the fundamental principle of advertising); we want to be happy, but being too happy all the time can actually be worse in our environment (extremely happy people get worse grades and lower salaries than merely moderately happy people); we do stupid things because we want to conform; and people aspire to round number goals (why we like lists of 10 and not 9, and perhaps why we want to retire with $1,000,000 but never $999,999!).
Why Real Businesses Don’t Charge $5/month (Justin Mares, LinkedIn) - The fundamental equation for any business to succeed is that the lifetime value of a client (LTV) must be greater than the cost to acquire the client (CAC); in other words, either LTV > CAC, or the business will eventually die. Yet the challenge is that some businesses just barely price their services to ensure that the value of the client exceeds the cost to acquire the client; even if the business could charge a lot more, they price in a deeper discount. While this may still ensure that LTV > CAC, the problem with this approach is that it leaves little in the way of resources to actually (re-)invest into acquiring those future clients, and with the benefits of compounding over time, the difference can be tremendous. For instance, imagine a software business that is trying to decide whether to charge $10/month or $29/month for their service; the company has figured out that it costs an average of $16.67 to acquire a new user with various advertising strategies. At $10/month, the CAC is recouped by the end of the second month, with a little bit to spare to reinvest into new user acquisition; by contrast, at $29/month, the entire cost is recovered, and then some, in just the first month. Executed systematically for a year, though, the difference can be astounding; using excess revenue to reinvest for new users leaves the $10/month business up to $1,420/month in revenue after 12 months (a fine little profit for a "side project"), while the $29/month version will have almost $1.2M/month of revenue. In other words, charging 3x as much doesn't just result in 3x the revenue, or 9x the revenue, but over 800x the revenue, thanks to the compounding growth opportunities of continually reinvesting for marketing. The bottom line: while you might be able to survive "profitably" by being a very inexpensive provider, charging more and having greater profits to reinvest can build a business exponentially faster, a lesson that's equally relevant whether you're designing a software app or building an advisory business.
The Personality Trait That Predicts Financial Health (Gil Weinreich, ThinkAdvisor) - A recent global study of over 3,000 people across six countries found that having financial knowledge does not necessarily predict financial health; those with poor financial acumen didn't make the worse financial decisions, and those with the highest financial acumen did not make significantly better financial decisions (and in fact there was some indication those who rated themselves with the most financial acumen were more likely to be poor financial decision makers!). Instead, the trait that researchers found does correlate to good financial decision making is the individual's perspective on time. Those who tend to dwell in the past tended to make good financial decisions; those who live in the present are poor financial decision-makers; and those who live in the future are not generally financially health but avoid some of the worst "sick" financial behaviors (like borrowing from payday lenders or filing for bankruptcy). The purported reason for the results is that those who live in the past tend to base their decisions and actions on memories of prior results; they learn from negative experiences, and tend to take less risk in the future and avoid financial ruin (though they may be 'unnecessarily' conservative). Those living in the present are more apt to be "hedonists" who enjoy in the moment without enough (or any) thought to future consequences; other present-oriented personalities struggle not by living too much in the moment, but feeling stuck in the present and viewing themselves as being powerless to influence their futures (and thus less motivated to take steps to improve their situation). Future-oriented personalities often insure against risks to protect themselves, but may be prone to over-insuring. Notably, the study finds that millenials are more likely than boomers (25.3% vs 16.5%, respectively) to have the 'healthiest' focus-on-and-learn-from-the-past orientation. An extended summary of the study can be seen 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.
and as for TradePMR, the smaller RIA’s can use their Wells Fargo’s Growth Accelerator Program. Hopefully those who jumped (errr, had no choice but to leave) from Scottrade can utilize the benefits of this program boosting AUM, profitability and growth.
Hey Marty, can you elaborate – what is the “Growth Accelerator Program”?
Greetings Phillip, TradePMR uses First Clearing as their clearing agent and offers a program called the Growth Accelerator. Its used by their Well Fargo Advisors but First Clearing has agreed to make Growth Accelerator available to TradePMR advisors as well. The program assists individual financial advisors to grow their business (“Growth Accelerator”) through various practice management programs and tools.
Personally I do not think many advisors take advantage of all the services their custodians offer.
Cheers,
Marty Morua
Interesting. I have been trying to get Scottrade to create some sort of advisor referral program with no luck so far. It makes sense as Scottrade ensures the assets stay with Scottrade either through their retail platform or their advisor network. Alas, I may not get the chance if I am to be kicked off the platform. Still hoping that doesn’t happen. Their customer service has been great so far.
That Scottrade news was huge and I remember when I worked at TDAmeritrade years ago and they made a similar announcement. I had to make many calls to financial advisors I serviced explaining the new fees TDA was charging. Important thing is that clients trust and have deep relationships with their financial advisor, regardless of what custodial platform they use.
Hi Michael, thanks for the very informative article. My business partner and I use eMoney for account aggregation, which I noticed wasn’t mentioned. How would this software compare with Yodlee, or the others you mentioned?
I’ve followed your blog for well over a year, but never commented before. Thank you for all of your insights. You’ve been more helpful to us in our practice management than you’ll ever know! Look forward to hearing you speak at the FPA of Miami-Dade Symposium.
Jonathan,
Thanks so much for the kind words! Glad to hear the blog has been helpful!
I haven’t done a hands-on comparison across all of them, but from everything I’ve seen the eMoney tool for account aggregation is quite strong, especially regarding client experience and usability and integration into the planning software. I’ve heard less about it from the perspective of trying to do comprehensive performance reporting, so I can’t speak to that part.
The primary distinction of eMoney from the other platforms noted here is that it is fully and SOLELY integrated into eMoney. Which means any user of OTHER financial planning software is “stuck” and doesn’t have access to eMoney. Similarly, it means that if an eMoney user wants to shift to other planning software, they will “lose” the account aggregation tools as well. Not that eMoney software is bad by any means, but I do know advisors who have decided that they prefer another platform, but continue to use eMoney because they don’t want to give up the account aggregation client portals – because, at least up to this point, the alternatives have generally been pretty weak.
Ultimately, to me the challenge is simply that eMoney will have to continue to reinvest heavily into their account aggregation tools to keep them competitive, while simultaneously continuing to reinvest into their core financial planning software as well. To be fair, they’ve certainly been pretty successful at doing so thus far. But the pressure is now growing for them to at least be certain they sustain the pace and continue to keep a product as successful as their account aggregation tool has been (which is not “perfect” but reportedly as strong as most others out there).
I hope that helps a little?
– Michael
It does. Thank you!