Weekend Reading for Financial Planners (Jan 11-12)

Author: Michael Kitces

Team Kitces

Michael Kitces is Head of Planning Strategy at Buckingham Strategic Wealth, which provides an evidence-based approach to private wealth management for near- and current retirees, and Buckingham Strategic Partners, a turnkey wealth management services provider supporting thousands of independent financial advisors through the scaling phase of growth.

In addition, he is a co-founder of the XY Planning Network, AdvicePay, fpPathfinder, and New Planner Recruiting, the former Practitioner Editor of the Journal of Financial Planning, the host of the Financial Advisor Success podcast, and the publisher of the popular financial planning industry blog Nerd’s Eye View through his website Kitces.com, dedicated to advancing knowledge in financial planning. In 2010, Michael was recognized with one of the FPA’s “Heart of Financial Planning” awards for his dedication and work in advancing the profession.

Read all of Michael’s articles here.

Envestnet Buys Stake In Dynasty Financial Partners (Sam Steinberger, Wealth Management) - This week, large-RIA service provider Dynasty Financial (with 45 firms that in turn manage $40B of assets) announced a partnership with Envestnet as a part of a new "Advisor Services Exchange" (ASx) that will roll out some of Dynasty's services, including lending for growth capital, outsourced CFO and marketing capabilities, and consulting services, to the broader base of advisors using Envestnet (whereas in the past, Dynasty's services were only available to Dynasty's partner firms). As a part of the partnership announcement, though, was the revelation that Envestnet has taken a "minority, nonmaterial investment" in Dynasty as well, raising questions of whether Envestnet is moving towards a potential full acquisition of Dynasty in the future... which for Envestnet could be a conduit to the large wirehouse teams that Dynasty has developed a reputation for drawing out and launching into the RIA channel and a way to expand its business beyond 'just' technology and into services, and for Dynasty represents an opportunity to expand the reach and scale of its service offerings beyond 'just' its own base of advisors (given that Envestnet works with nearly 4,700 advisory firms to Dynasty's 45).

Dodd And Frank Agree SEC's Reg BI Violates Their Namesake Law (Melanie Waddell, ThinkAdvisor) - One of the key legal issues in both of the lawsuit challenges against the SEC and its Regulation Best Interest (Reg BI) is whether the SEC had the authority to issue a new (non-fiduciary) standard of conduct for broker-dealers in the first place. The key issue is that under Section 913 of the Dodd-Frank Act of 2010, subsection 913(f) stipulated that the SEC "may commence rulemaking... to address the legal or regulatory standards of care for brokers, dealers, [and] investment advisers... for providing personalized investment advice about securities to retail customers", and subsequently subsection 913(g) granted the SEC the authority to make that standard of conduct a fiduciary duty "no less stringent than the [fiduciary] standard applicable to investment advisers". The SEC has maintained that subsections 913(f) and 913(g) should be read independently - that the SEC had a choice about whether to make a rule and a separate choice about whether to make that rule a full fiduciary duty for broker-dealers - while the legal briefs for XY Planning Network and a coalition of seven states challenging the SEC both claim that Congress' intent was for the provisions to be read together (effectively granting the SEC authority to make a fiduciary rule for broker-dealers but only a fiduciary rule if the SEC decided to proceed). And now this week, former Senator Dodd and Representative Frank - the architects (and namesakes) of the legislation itself - filed an Amicus Brief supporting the XY Planning Network vs SEC lawsuit stating that it was their intent, as the writers of the law, for 913(f) and 913(g) to be treated as linked, and that the SEC's Reg BI (enacting a non-fiduciary standard for broker-dealers) is outside the authority that Dodd-Frank intended to grant to the SEC and that the SEC did not have the authority to publish Reg BI as written, and that "the rule therefore cannot stand". Ultimately, the SEC itself will have until early March to respond to the XY Planning Network vs SEC lawsuit - including the Amicus Brief filed by Dodd and Frank on behalf of the challenges - with a ruling anticipated in the spring to potentially vacate Reg BI before it takes effect on June 30th.

Massachusetts Governor Asks Galvin To Withdraw His State Fiduciary Proposal (Tracey Longo, Financial Advisor) - Last summer, the state of Massachusetts requested comments about the potential for the state to adopt a uniform fiduciary standard that would apply for both broker-dealers and RIAs providing advice in Massachusetts, and in late November Massachusetts proceeded with an actual fiduciary rulemaking proposal and a public comment period for feedback. And notably, amidst a flurry of public comments from fiduciary advocates supporting the rule and industry product manufacturers and distributors (e.g., insurance/annuity companies and broker-dealers) opposing it, comes a public letter from Massachusetts' own Governor Baker opposing the rule on the grounds that the fiduciary rule would harm the business models of broker-dealers and reiterating the talking points of brokerage industry lobbyists that the draft regulation "does not... sufficient[ly] account for differences in the industry..." and suggesting that the SEC's non-fiduciary Regulation Best Interest standard would be sufficient once it takes effect. Ultimately, it remains to be seen whether the Massachusetts regulators will proceed with a final rule based on the feedback provided, withdraw it altogether, or simply try to amend the rule to be more palatable to the industry, as friction increasingly heats up between regulators and consumer advocates pushing for both Federal and state fiduciary rules, and the product manufacturing and distribution industry increasingly fighting against being held to a higher standard for their financial product advice and recommendations.

Trade Organizations Seek 20% Pass-Through Deduction For Advisors In 2020 (Tracey Longo, Financial Advisor) - The biggest new tax rule created under the Tax Cuts and Jobs Act of 2017 was the introduction of the new 20% "pass-through deduction" for Qualified Business Income, that provided any non-C-corporation business a 20% income deduction against its own income, effectively reducing its tax rate to be only 80% of the normal rate after the deduction. The caveat, though, was that the new QBI deduction does not apply to so-called "Specified Service Trade or Business" (SSTB) activities, which include a broad range of service businesses including those in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics... and financial services and brokerage services (i.e., all financial advisors) once income exceeds specified thresholds (at the time, the phaseout began at $157,500 for individuals and $315,000 for married couples, and is indexed annually for inflation). The basic reasoning for the limitation was that the QBI deduction was intended to support and encourage businesses that hire and create jobs, not those in high-income professional services jobs who are simply paid for their own labor. However, the rising growth and scale of financial advisory firms arguably means the business of financial advice is no longer necessarily 'just' about the income of an individual's own labor, and that advisory firms are 'job creators' that should be eligible for the deduction as well. Accordingly, a coalition of industry associations, including the Investment Adviser Association, the Financial Services Institute, the FPA, and NAPFA, along with a group of large independent broker-dealers including Commonwealth, LPL, Cetera, and Raymond James, are lobbying the House and Senate tax-writing committees to alter the rules for financial advisors and to permit the QBI deduction, especially since the deduction is permitted for insurance agents and real estate brokers. Though ultimately, it's unclear whether Congress intends to take up any changes to the QBI deduction and other provisions of the Tax Cuts and Jobs Act in 2020.

Don't Hire Experienced Advisors: How A Counterintuitive Practice Is Propelling This RIA's Growth (Gary Stern, RIA Intel) - The traditional approach for advisory firms to hire financial advisors is to hire 'older' advisors... those who have more advisory experience, or at least who have more life experience and can ostensibly better relate to the traditional client (who is older and has had more time to accumulate assets and wealth about which they need advice). However, The Mather Group (based in Chicago), founded by now-41-year-old Stewart Mather and overseeing nearly $4.4B of AUM, takes an alternative approach of hiring younger advisors instead, with a median staff age of 'just' 31 amongst its 72 employees. The key, according to Mather, is that while older team members bring experience, younger team members are better able to drive innovation that ultimately helps the business to better scale its efficiency (e.g., being 100% digital with zero paper since 2014), which in turn has led The Mather Group to increasingly take a 'one-stop-shop' approach with attorneys and CPAs on staff, together with traditional advisors). In addition, Mather notes that because it's so tiring for prospective clients to seek out and find an advisory firm in the first place, it's an edge for the firm to have younger advisors who can actually be in an advice relationship with the client for the entirety of their retirement (rather than needing to switch advisors when they're in their 70s or 80s because their advisor themselves retires). Furthermore, Mather suggests that because young innovative people like to spend time with others who are similar, the ability to attract young creative talent itself helps to perpetuate the system by attracting more young top talent.

Why Your [Millennial] Financial Planning Employees Quit (Millennial Planners) - One of the striking paradoxes in the current landscape of advisory firms is that there's reportedly an ever-growing shortage of financial planners, yet younger financial planners themselves seem to be increasingly quitting and switching advisory firms because they're unhappy. The reason appears to be a growing gap in the management skills of advisory firms that want and need talent, but aren't very effective in actually managing that talent... or as the saying goes, "people don't leave jobs; they leave [bad] managers". Which arguably shouldn't actually be surprising, as most founders of advisory firms entered the profession to be financial planners for their clients... not managers of teams and organizations. Yet with the compounding growth of high-retention advisory firms, it is virtually inevitable that eventually the aggregate accumulation of clients will necessitate a growing team and therefore a growing management responsibility or need in the business. Accordingly, increasingly common scenarios continue to play out in advisory firms that cause their next-generation talent to leave, including: young advisors that are hired to become financial planners but end out in primarily or solely administrative jobs that don't give them any opportunity to actually develop their skills (which means it's important not to try to hire aspirational top talent if the firm doesn't really have the client planning opportunities to put that talent to work); dropping too much work on inexperienced employees without taking (or having) the time to coach and develop them to work more efficiently, leading to rapid burnout with the employee not feeling like they have a lifeline to a manager to advocate for them; and young employees who get 'stuck' in a particular role and have no opportunity to move up in the organization, eventually deciding that they have to move on to another organization to get the promotion opportunities because their manager isn't helping them open any doors where they are. Which ultimately boils down to a few key management traits for supporting next-generation talent: expectations management is key; direct managers should be advocates for their team members; managers shape the experience and opportunities of their team members; good managers create goals with their team members; and middle managers need to be empowered to support their employees and adapt as necessary to retain top talent.

Creating A Culture That Promotes Work/Life Balance In Your Firm (Kate Ross, XY Planning Network) - As advisory firms grow, so too does the workload on the founder, sometimes leading to unduly long workdays and workweeks, an increasing risk of burnout, and a need to hire staff to delegate and share the workload. Yet with continued growth comes the risk that employees, too, will also end out taking on unmanageable workloads that can lead to burnout. Which is important not only for the potential that employees may leave unhappy but also for the fact that those with poor work/life balance often tend to be less productive at work anyway; in fact, one recent study found that those working 70 hours per week weren't getting any more work done than those who work 50 hours per week (as all the extra hours were lost in the reduced productivity of those long hours!). And unfortunately, because "work tends to expand to fill the hours allotted", firms that don't have a good culture of work/life balance will tend to have employees that work unduly long hours (even if it's not necessarily improving business productivity and results by doing so!). So how can advisory firms develop a culture that actually supports a reasonable work/life balance to support productivity and reduce burnout? Ross suggests that the starting point is to consider whether or how "wellness" in its various forms (financial, mental, spiritual, social, and physical) is represented in the firm's Core Values in the first place. From there, consider tactics or programs that can support a good work/life balance, including: flexible work schedules (allowing employees to focus their work whenever they are most productive during the day, and reducing non-work distractions by allowing them the flexibility to handle those non-work needs as they may arise throughout the day or week); a Wellness fund that encourages employees to invest into their own well-being (e.g., to use for a gym membership, health screenings, or other wellness activities); arrangements for child care (anything an employer can do to support child care reduces the employee's distractions on child-care-related issues!); flexibility for family leave (as the reality is that even if the firm can't 'afford' to have employees take time off for family issues, the reality is the employee will be so distracted with a serious family issue that productivity will be greatly diminished anyway); and an open vacation policy (as if you're going to hire self-motivated employees who are good at getting the work done, there's no reason to overly manage how much time they're taking off). Of course, supporting some of these programs may require firms to better cross-train employees to ensure the firm can handle their duties while they're out... though the reality is that cross-training itself is another way to help employees break the usual routine and can itself help support better mental balance at work!

How To Pick The Best Successor For Your Firm (Kelli Cruz, Financial Planning) - According to a recent FA Insight People And Pay study, nearly 2/3rds of advisory firms are now developing an internal succession plan to transition clients and/or management or leadership of the firm in the future. However, because most advisory firms are solo (or at least silo'ed) practices, few have any experience in how to actually pick the 'right' successor in the first place. The first key is to recognize that as someone who may well be a future partner in the business (and may work alongside the founder for literally a decade or more), character, culture fit, and shared vision are far more important hiring criteria than 'just' financial criteria (e.g., whether they bring enough current revenue to the table). In addition, it's crucial to recognize that long-term leadership talent develops over time... which means giving those potential future successors opportunities to take on a leadership role and see how they do (or if something goes wrong, how they handle it and learn/adapt for the future). Other key talents and competencies include: the ability to help the business establish focus and communicate it effectively; fostering teamwork; empowering and developing others; managing change and influencing others; and building collaborative relationships. On the other hand, traits that firms often find are not relevant when it comes to picking the right successor include the ability to engage with clients, business development ability, entrepreneurial spirit, and professional maturity... all of which can ultimately be developed over time with someone who is otherwise the 'right' fit.

How To Prepare Our Future Leaders (Angie Herbers, ThinkAdvisor) - For many advisory firms, succession plans end out failing because the founder isn't ready, willing, or comfortable to actually let go of control and transition leadership to the next generation when the time comes. In other situations, though, the problem is that founders actually are willing to relinquish and transition control... but as Herbers notes, those transitions often shift leadership responsibilities to next-generation talent that hasn't actually had any training and development in how to be effective leaders in the first place! Especially since the reality is that taking on the leadership reins in a mature established business is very different in scope and responsibility than even the founder's path of leadership (in launching and growing that firm in the first place); consequently, while founders may focus on vision, mission, values, and business development and growth - because that's what it takes to succeed from launch - next-generation leaders often need more focus in employee management, financial strategy, allocating capital resources, and operational processes. So how should that next-generation leadership be trained in the relevant skills they'll actually need in the future? Herbers suggests that the starting point is all about interpersonal communication skills (as technical skills can be learned along the way, but even good technical skills get lost in poor communication), and the founder recognizing that truly developing successor talent is about shifting from being the leader of the business to becoming a teacher of business leadership instead.

The Failure Of Specialization And The Rise Of Financially Independent Generalists (Mr. Tako Escapes) - The traditional view is that specialization is a good strategy; specialized jobs typically pay more, and even the great Charlie Munger recently stated "I think the right strategy for the great mass of humanity is to specialize. Nobody wants to go to a doctor that’s half proctologist and half dentist, you know? So, the ordinary way to succeed is to narrowly specialize." In turn, the specialist has the opportunity to increasingly delegate more tasks - from parts of their work that don't fit the specialization, to home tasks (e.g., mowing the lawn or cooking) because their return-on-time is better when focusing on their specialized tasks (and mathematically, the non-specialist tasks can be delegated for less cost than what the specialist earns by staying focused, producing a positive return on that further specialized focus). The caveat, though, is that focused specialization creates the risk that if the world changes in a manner that that specialization is no longer necessary or relevant, the specialist can quickly find themselves without a role at all (e.g., think 'highly evolved' animals that have a change in their environment, cannot adapt quickly enough due to their specialized evolution, and quickly go extinct). Of course, the most straightforward alternative is simply to be a generalist instead... except that businesses increasingly want specialists to fulfill their own work functions, which means a specialist may be unemployed if the needs for specialization change, but a generalist may not get any job in the first place! So what's the alternative? Mr. Tako suggests a balance of keeping the specialized focus in your work, but deliberately cultivating more 'generalist' skills outside of work... which in the long run, can open new doors if the particularly specialist journey that's been chosen ends out changing in the future. Or stated more simply, there's nothing wrong with being a specialist per se, but even specialists must always retain some ability and opportunity to adapt as well.

When Generalists Are Better Than Specialists, And Vice Versa (Florenta Teodoridis, Michael Bikard & Keyvan Vakili, Harvard Business Review) - The conventional view is that the key to having creative breakthroughs is to assemble a team of generalists who can brainstorm various ideas and perspectives to create something new and different (e.g., Henry Ford's revolutionary idea of the car manufacturing assembly line as inspired by Singer sewing machines and meat-packing plants). Yet in an increasingly complex world, arguably now the key to creative breakthroughs are specialists, who have the requisite depth of knowledge and understanding of their subject matter to spot and capitalize on emerging opportunities. Teodoridis and her colleagues suggest that ultimately, both approaches can be correct and that it's the nature of the field of study in the first place that determines whether the generalist or specialist approach to creativity and innovation is better. In fields that tend to have a slower pace of change, there often isn't much opportunity for a specialist to discover something not already found, while generalists who can incorporate ideas from other fields may be better. On the other hand, in fields with a fast pace of change (e.g., quantum computers), generalists will struggle to stay up to date, while specialists can better make sense of new developments and spot opportunities. As a way to test this, researchers looked at how nearly 4,000 Russian mathematicians performed in the decades before and after the collapse of the Soviet Union - when their talent was suddenly introduced to the rest of the world, across a wide domain of mathematics sub-fields (some of which were faster-paced in change and others slower) - and found that the specialists were more successful in the faster-evolving fields, while the generalists published more in slower-evolving fields. Which is notable, as others have suggested that when it comes to faster change, specialists are at risk of being unable to adapt quickly enough... while the researchers found that in practice, in areas that have complexity, it's the specialists who were best able to spot the new opportunities and adapt (in a field where the generalists couldn't understand and appreciate the emerging changes until it was already too late?).

The Generalized Specialist: How Shakespeare, Da Vinci, And Kepler Excelled (Shane Parrish, Farnam Street) - From a young age, children are often asked what they want to be when they grow up... setting the seeds for the seeming inevitability of eventually choosing some path of career specialization. And usually, the process of specialization only amplifies once into a particular career or industry... at least, until the industry changes, or you move up the organizational chart to the point where that prior specialized expertise is no longer as relevant anymore. Yet not being a specialist isn't necessarily better, as businesses increasingly look to deeper and deeper specialists for their most critical (and well-paying) jobs. This distinction has become known as the difference between "The Hedgehog [which knows one big thing] and the Fox [which knows many things]", where the hedgehog represents the specialist and the fox is the generalist. In his famous 1950s essay on "The Hedgehog and the Fox", philosopher Isaiah Berlin suggested that ultimately the reason why the distinction matters is about adaptability - one of the reasons generalists survive (whether in business, or 'generalist' species in nature like the fox) is their ability to adapt to change, while specialists can be more efficient but also more prone to be threatened by change (rather than finding opportunities in it). In fact, even within businesses, there are often generalists (in the role of managers and leaders because they need a more comprehensive perspective on the organization) and specialists (who do the focused work of the business). Leading to a conclusion that perhaps the safest path is the 'Generalized Specialist', one who does become a specialist in one area, but still retains some broader or interdisciplinary skills as well; in other words, while a specialist has one specialized knowledge domain, and a generalist has only a rough working knowledge of multiple areas, the Generalized Specialist has a 'core competency' but also learns about a wider range of topics as well. In fact, Parrish suggests that many of the 'Great Thinkers' were generalizing specialists, from Shakespeare (specialized in writing plays, but also an actor, poet, and part-owner of a theater company, with knowledge in Latin, agriculture, and politics) to Leonardo Da Vinci (who dabbled in everything from engineering to music, literature to mathematics, botany to history), and Johannes Kepler (who combined physics and optics into astronomy), and John Boyd (who designed aircrafts with insights from divergent areas from thermodynamics to psychology). In other words, generalized specialization is about seeking out interdisciplinary knowledge... but then still trying to apply it in a particular more-specialized focus.

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 as well.