Weekend Reading for Financial Planners (Dec 25-26)

Authors:

Ben Henry-Moreland

Team Kitces

Ben Henry-Moreland is a Senior Financial Planning Nerd at Kitces.com, where he specializes in writing and speaking on financial planning topics including tax, practice management, and technology. He also co-authors the monthly Kitces #AdvisorTech column. Drawing from his experience as a financial planner and a solo advisory firm owner, Ben is passionate about fulfilling the site’s mission of making financial advicers better and more successful.

Read more of Ben’s articles here.

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Adam Van Deusen, CFP

Team Kitces

Adam is a Financial Planning Nerd at Kitces.com. He previously worked at a financial planning firm in Bethesda, Maryland, and as a journalist covering the banking and insurance industries. Outside of work, he serves as a volunteer financial planner and class instructor for local and national non-profits.

Read more of Adam’s articles here.

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Biden Extends Student Loan Freeze To May 1 (Sylvan Lane and Alex Gangitano, The Hill) - In the early days of the COVID-19 pandemic, then-President Trump issued a temporary moratorium on payments for all Federal student loan borrowers, reducing the loans’ interest rates to 0% to allow borrowers to put off their loan payments without accruing interest. And as the pandemic and its economic effects dragged on into 2021, a series of extensions by the Trump and Biden administrations further pushed back the moratorium’s end date until, on August 6, 2021, the Biden administration issued what it explicitly called the “final” extension, setting a hard end date of January 31, 2022, after which loan payments would restart. But on Wednesday, President Biden reversed course and issued another extension (which, notably, does not contain the word “final”) prolonging the pause until May 1, 2022. While this extension was ostensibly due to the recent spike in nationwide COVID cases caused by the Omicron variant, some commentators had expected this move following the Senate’s failure to come to an agreement on the Build Back Better Act, which would have resulted in the lapse of the monthly Child Tax Credit payments occurring nearly simultaneously with the restarting of student loan payments. But whatever the reason, Federal student loan borrowers will have been without required payments for over two years once (if?) this extension lapses, meaning that planning conversations around subjects like Income-Driven Repayment plans and Public Student Loan Forgiveness could be much different for certain individuals than when the pause was first issued, as income, marriage, and family situations have shifted for so many borrowers during that time.

Investment Advisers Surpass Retail As Biggest Holders Of ETFs (Steve Johnson, Financial Times) - Though ETFs have existed since the 1990s, it has only been in more recent years that they have seen widespread adoption by investment advisors. Earlier on, this may have been due to the fact that many financial advisors were compensated with the commissions paid by A or C shares of mutual funds (making ETFs, which do not have share classes that offer sales commissions, of limited interest to commission-based advisors). At the same time, ETFs became popular with retail investors owing to their being easy to trade and inexpensive to own, as well as the exposure they could provide to asset classes like commodities and foreign currency that were difficult for retail investors to access previously. But as advisors began switching to fee-only and AUM compensation models (and overcome trepidation about ETFs pricing at a “discount” to their NAV during market volatility), they have increasingly adopted ETFs—either as components of a TAMP-managed model portfolio, or where the advisor disintermediates a mutual fund manager by using ETFs as the building blocks of their own actively-managed investment strategies. And with recent developments such as the large-scale elimination of ticket charges when buying and selling ETFs on custodial platforms, along with the ability to trade in fractional shares (allowing ETFs to trade in dollar-denominated amounts as mutual funds have always allowed), the trend has accelerated in the last few years. Now, according to research by Citigroup, investment advisors’ ownership of ETFs has finally caught up to that of retail investors, with each owning just under 40% of all US-listed ETFs by value (and institutional investors making up the remainder). Notably, much of the new ETF uptake for investment advisors was in fixed-income ETFs—which, despite worries about their liquidity during a financial crisis, did not live up to those fears during the market turmoil of March 2020. So while large asset managers pour money into direct indexing technology in hopes of disrupting the mutual fund- and ETF-based model of portfolio management, the current reality is that, at least thus far, ETFs are still ascendant in their use by investment advisors.

DOL Warns Firms About Conflicts Lurking In Payout Grids (Tracey Longo, Financial Advisor) - In the wirehouse brokerage business model, firms often structure their advisors’ compensation around a “payout grid”, which specifies that the advisor is paid a certain percentage of the sales commissions they generate (for the firm) from certain products, and often includes break points where higher-producing advisors are paid higher percentages of their gross sales. This model presents obvious conflicts of interest, since when brokers recommend products to their clients and are close to the next breakpoint, they can be incentivized to push for the sale to boost their compensation rather than making the recommendation in their clients’ best interests. Accordingly, a new FAQ released by the Department of Labor instructs firms to scrutinize the conflicts that their payout grids create, which have the potential to run afoul of DOL’s rule that recommendations involving a rollover from a qualified plan or IRA may be made only when they are in the client’s best interest. At heart is the idea that a firm paying an advisor based on a fixed percentage of the firm’s commission for a product effectively “passes along” the firm’s conflicts to the advisor, and when the conflicts are magnified even further – such as when the advisor receives a substantial boost in their payout percentage when reaching a certain sales threshold, and especially when the boost is retroactive to all of their sales (even those before the threshold was reached) – they risk violating the “best interest” rule. As a result, DOL recommends that broker-dealer firms establish systems to monitor and supervise their brokers’ investment recommendations and ensure their payout grids do not create “undue” sales incentives—though it stops short of specifying where exactly the line for “undue” conflict is. Which means that, by allowing some conflict to exist, but warning against too much conflict, while not defining where the threshold for “too much” is, the short-term effect of DOL’s guidance is likely to be confusion and inaction by firms until they are examined by DOL and told how to comply. In the long term, if broker-dealers are eventually forced to scale back payout grid arrangements, the regulation could continue to accelerate the movement of advisors away from broker-dealers and towards the RIA channel, where they can keep 100% of their revenue and gain independence… while having only a single (fiduciary) set of standards to comply with.

Do Retirees Want Constant, Increasing, Or Decreasing Consumption? (Anqi Chen and Alicia Munnell, Center for Retirement Research at Boston College) - An important part of retirement planning is understanding how a client’s spending is likely to change once they retire, and then through their retirement years. And while every client is different, research has identified certain consistent patterns in retirees’ spending habits (beyond the general “consistent inflation-adjusted spending for life”). In his book “The Prosperous Retirement”, Michael Stein popularized the concept of a three-phase retirement: the ‘Go-Go’ years (when retirees are active), ‘Slow-Go’ years (when activities like travel and eating out begin to decline), and ‘No-Go’ years (when activity-related spending declines sharply late in life). Building on this, retirement researcher David Blanchett identified a  “Retirement Spending Smile” that showed, using actual consumer data, that real retiree spending really does decrease slowly in the early years, more rapidly in the middle years, and then less slowly in the final years (when increasing medical bills at least partially offset the decline in lifestyle spending). In their own recent research, Chen and Munnell investigated how retirees’ health and wealth affect spending over the course of retirement. They found that while spending declines over retirement, the spending paths for wealthier and healthier households are flatter (i.e., decline less) than for those with less wealth and lower life expectations. The results suggest that retirees across the wealth spectrum might want to have relatively stable spending profiles in retirement, but only those with sufficient assets can afford to do so. In addition, healthier individuals are more likely to smooth their consumption across an expected long retirement, while those with shorter life expectancies tend to front-load their consumption (and therefore have fewer assets to spend if they live longer than they anticipate). This research suggests that for advisors, in addition to adjusting projected spending in retirement by age, considering a client’s relative wealth and health can potentially create a more accurate picture of their future spending preferences (and an appropriate safe withdrawal rate), and that in general the clients of advisors (who do tend to be wealthier and healthier than the average American) actually may be more likely to maintain consistent spending in retirement after all!

Are You Saving Too Much Money? (Darius Foroux) - With the decline in defined-benefit pensions and the rise in defined-contribution plans (and the associated shift of the risks of providing adequate retirement income from business and governments to individual retirees), Americans have been encouraged to increase their savings rates to build up a large enough portfolio for a sustainable retirement. Some individuals have taken this to the extreme, with the boldest members of the “Financial Independence, Retire Early” (FIRE) movement saving upwards of 70% or more of their income in order to have more flexibility in whether or how much they work in the future. However, having a high savings rate comes at the cost of consumption today, and the desired balance between these two goals will vary for each person. Foroux gives the example of his dentist, who spent generously throughout his life (and even took a two-year sabbatical) while also saving for retirement, but tragically died at age 57 in a motorcycle accident. This balance allowed the dentist to get the most out of life during his working years, even if it meant not maximizing his retirement nest egg (which he never got to use himself!). And even though most people plan on living long enough to enjoy their retirement savings, the story illustrates the fact that we can't always fully control our futures, and that sacrificing a "good life" today in order to save for the future might not always work out as planned. So advisors working with younger clients can consider their expected income growth curve during the course of their working years to show that they can possibly afford increased consumption in their early years (particularly one-time, rather than permanent, lifestyle boosts) because their ability to save for retirement is likely to increase along with their income. The key point is that while consumers have been conditioned to save what they can for retirement, some can take this too far and would actually maximize their happiness by saving less!

A Useful New Tool To Help You Pick A Place To Live (J.D. Roth, Get Rich Slowly) - For many individuals, retiring means not only the end of their working career, but also an opportunity to move to a different location. For instance, some might want to move from a suburb (that previously had benefits when they were raising their kids) to a city, to be able to attend cultural events in their retirement years. To help facilitate this choice, the New York Times has created a tool that allows individuals to find the ‘best’ city for them (out of 16,847 options!) based on 35 different factors. These include quality of life aspects including climate and crime, but also more financial-related characteristics, including the cost of housing. And while making decisions based on surveys and studies does not necessarily maximize happiness, the tool offers a methodical way to sort locations by their characteristics. For advisors, while a client might not be planning to move for many years, using the tool as a way to discover the types of places where they might want to live in the future (and the associated cost of living) could provide better estimates of the spending adjustments a client might make in retirement. And so, whether a client wants to make a move to a sunny rural area or to a major city with plenty of live music, using the tool with clients – for example, working through the tool during an annual review meeting as a way to improve how clients relate to their “future selves” – can spur a positive discussion to help them discover potential options (and assist their advisor in making sure their finances can support the move, too!).

Forget Referrals. In 2022, Focus On Social Proof (Samantha Russell, Advisor Perspectives) - The internet has greatly expanded opportunities for consumers to use ratings and reviews to select goods and service providers. Often, a company with more positive reviews (ideally from verified users) will attract even more customers than one with fewer (after all, who wouldn’t wonder about the quality of a restaurant with nobody eating there?). This psychological concept is called ‘social proof’, and can be summed up in the assumption that “if everyone else is doing something, then I probably would like it too”. Yet while social proof is a great opportunity for financial advisors, the Securities and Exchange Commission (SEC) previously limited advisors from using testimonials in their marketing. But in May, the SEC finalized its updated marketing rule to allow the use of testimonials in RIA marketing materials, opening the door for advisor to deploy testimonials as part of their overall marketing strategy, the best of which are authentic and specific. Similarly, advisors can demonstrate social proof by showing the (hopefully large) number of subscribers to their email list, or by listing the awards they have received. Also, Google Screened is a new tool that provides additional social proof for advisors appearing in search results (although advisors will want to ensure that doing so meets with approval from their compliance department!). In addition to the opportunities created by the updated marketing rule, advisors can also continue to gain social proof by demonstrating their expertise through publishing (whether it is books, blog posts, or even Facebook comments!) and by being quoted in respected media outlets (which should be highlighted on their websites and marketing materials to highlight that social proof). In the end, the SEC’s change provides advisors with a new tool for demonstrating social proof, but it’s up to the advisor to optimize their marketing strategy to leverage social proof in order to attract potential clients!

Why Your Centers Of Influence Don’t Refer Back To You (Beverly Flaxington, Advisor Perspectives) - Referrals can be an excellent source of prospective clients for advisors. At the same time, advisors also refer clients to other professionals, such as accountants for tax preparation needs and attorneys for estate document preparation. Often, advisors look to these centers of influence (COIs) not only as a vetted service provider for their clients, but also as a potential source of reciprocal referrals for the advisor themselves. For advisors who feel that they are not getting sufficient referrals back from the COI partners they refer out to, Flaxington suggests the first step is to realize that the COI is already providing the advisor with a service by being an effective partner for their clients… Which means having the COI also refer their clients to the financial advisor can be considered an additional benefit of the relationship (rather than an expected part of the relationship). To encourage COIs to make referrals – beyond ‘just’ providing their clients good service – an advisor must make sure the COI not only understands the services the advisor offers, but also how they are different from other advisors the COI might work with (recognizing that good COIs likely receive referrals from a lot of different advisors, and may have trouble reciprocating to all of them). This points to the benefits for an advisor of having a (truly!) unique value proposition or a niche target client (particularly if the COI shares the same niche!). Advisors can also better generate referrals by partnering with COIs that are thriving and pushing themselves to find new opportunities (as relying on a COI who is about to retire might not be referring prospects for long!). Further, nurturing the relationship with the COI (just as an advisor would continue to engage a prospective client) is important not only to build trust, but also to reinforce the advisor’s potential value to the COI’s clients. The key point is that advisors should not expect to receive referrals automatically from COIs, but rather can approach COIs as they would build a relationship with a prospective client, which requires building trust and demonstrating their unique expertise that would make the COI want to refer at least certain types of clients to that advisor in particular!

How To Repel The Wrong People From Your Company (Angel Gonzalez, Advisor Perspectives) - Many of the most successful companies have distinct cultures that set them apart from their competition. From the Hawaiian shirts worn by Trader Joe’s employees (that help create a casual, fun atmosphere) to the strict no-talking-or-texting rule of Alamo Drafthouse (that signals a high-quality experience for serious moviegoers), a company’s culture can set expectations for employees and customers alike. For financial advisors, particularly those starting out in their own firm, it can be hard to say “no” to a prospective client, even if the advisor knows the prospect’s personality or financial situation would be a bad fit for the firm’s culture. But while it might be difficult to turn down a client upfront, taking them on can reduce productivity for the rest of the business, and could lead to the potentially even more difficult conversation of letting a client go later. The importance of firm culture also applies to its employees, who contribute significantly to the firm owner’s enjoyment of running the business (in addition to the firm’s bottom line). To create a solid team culture, advisors can take a systematic approach to leadership through set meetings and activities, in order to both hold everyone on the team accountable for their work, in addition to making the firm an enjoyable environment to work in. Further, in addition to establishing the firm’s culture, it is important to communicate these standards and expectation to both clients and employees. This could include stating the company’s values publicly on its website, or explicitly communicating the firm’s target client niche using ideal client personas. For advisory firms, establishing a strong company culture, communicating it to prospects and employees, and following through with expectations set can not only lead to a more pleasant work environment by consciously screening out those employees or prospective clients who aren’t a good fit, but a more productive firm as well!

What Is Web3 And Why Should You Care? (David Nield, Gizmodo) - 2021 has seen a boom in both cryptocurrency (whose global market capitalization has nearly tripled over the course of the year, from under $1 trillion to over $2.7 trillion today) and Non-Fungible Tokens (NFTs), which have risen in popularity both as a perceived investment opportunity and as a status symbol among enthusiasts. The common link between those phenomena is the blockchain (the decentralized public ledger of ownership that was developed alongside Bitcoin in the early 2010s), and backers of blockchain-based technology – which count venture capitalists, hedge funds, and tech moguls among their numbers – envision a future where the blockchain underpins much more of what we do on an everyday basis. Their name for this future is Web3, a term which has taken hold in recent months to describe the paradigm shift between the current Web 2.0 (where much of the wealth and decision-making power is concentrated among a handful of corporations like Apple, Amazon, and Facebook) and a decentralized future where, at least in theory, ownership of technology is distributed among its users rather than a small group of tech founders and investors. But despite the hype, Web3 still has its share of skeptics, who critique everything from the scalability of the underlying blockchain technology to its impact on the environment. And given the fact that many of Web3’s current backers are already large investors like venture capitalists and hedge funds, the argument that decentralization will distribute the benefits of new technology more equitably than Web 2.0 did is also worth re-examining (as on its current trajectory, the financial benefits of Web3’s growth may accrue to the small number of large investors currently making big bets on its future). Still, the fact remains that almost any new technology will have hiccups in its early implementation, and while we are certainly seeing that with companies trying to implement the technology today, it is yet to be seen whether today’s buzz over Web3 will be a repeat of 2018’s mini-boom in speculative enthusiasm over the blockchain, or if it is a bump in the road towards widespread adoption and a true change in how we use (and own) our technology.

Move Over, Microsoft Word: The Race To Reinvent Document Editing (Jared Newman, Fast Company) - For decades, Microsoft Word has been the dominant software for creating and editing documents. Its basic interface, which mimics the printed page, mirrors the way that people have intuitively read and written text on paper for millennia, and so even its competitors, like Google Docs, that have tried to capture some of Word’s market share, have end up mostly looking and feeling similar to Word. But the fact is that today, unlike the vast majority of human history, most of what we read is not on the written page—it is on our phones and computer screens, and many “digital natives”, who were raised in the era of web browsing, are more comfortable with a document-creation process that feels more website-like than the static documents of the past. And so a new generation of document editors, like Notion and Coda, have arisen that give a long-overdue makeover to the process of document creation. Beyond eliminating the page breaks that are the default for legacy programs like Word and Docs, they are interactive (containing forms, checklists, and drag-and-drop elements) and more readily linkable from one document to another. Furthermore, the way that newer editors store documents largely replaces the traditional file folder system with a virtual, web-based hub which allows for easier collaboration on projects, and the ability to access documents from any location or device with a web browser (making it easier, for example, for remote or hybrid workers to edit documents from a remote or mobile office on a shared/collaborative basis). But as new solutions for creating and managing documents proliferate (and legacy providers like Microsoft and Google begin to incorporate some their new competitors’ elements), pointing toward a future without a single dominant, Word-like platform, an important new workplace skill may be the ability to learn and adapt to new platforms (and their surrounding software ecosystems)—a skill that may come more intuitively to younger, digitally-native workers, but may prove more challenging to adapt for those for whom Word has, until recently, been the only option.

The Coming "Teleshock" That Will Transform The U.S. Economy (Tyler Cowen, Advisor Perspectives) - Traditionally, companies hiring for a certain job have been limited to a pool of candidates who were located (or were willing to relocate themselves) physically near enough to commute to the workplace. Improvements in telecommuting technology in recent years have allowed for some companies to make the shift to more of a remote workforce, and the COVID-19 pandemic pushed this transition into overdrive. Yet while the move to remote has benefited many workers so far – often involving less commuting time, more flexibility in working hours, and the ability to relocate without needing to look for a new job – it has not been without its downsides. Because for those who are seeking work (particularly in knowledge-based industries where telework is more feasible), the pool of candidates for many jobs is no longer limited by physical location, making the competition for those telework-conducive jobs (at least in theory) much stiffer. Furthermore, a hypothetical global pool of candidates means that American knowledge workers could find themselves outcompeted by candidates in other countries, who are willing to accept lower pay, much like how many American manufacturing workers lost out when corporations moved those jobs overseas to cheaper labor 20 years ago. But unlike those developments, which took place largely within a generation or two, the “teleshock” of the future may in practice be more of a gradual evolution from a local to a global job market. Because, while technology can be developed rapidly to enable a global workforce, the shifts in companies’ culture, communication, and logistics that would accompany such a transition would require much more time to take hold. Still, though current workers may not need to worry about their jobs being outsourced anytime soon, future knowledge workers may require new skills – like the ability to communicate across time zones, cultures, and languages – to compete for the jobs that are often taken for granted as “American” today.

We hope you enjoyed the reading! Please leave a comment below to share your thoughts, or make a suggestion of any articles you think we should highlight in a future column!

In the meantime, if you're interested in more news and information regarding advisor technology, we'd highly recommend checking out Craig Iskowitz's "Wealth Management Today" blog, as well as Gavin Spitzner's "Wealth Management Weekly" blog.