Executive Summary
Enjoy the current installment of "weekend reading for financial planners" - this week's issue starts off with a series of practice management articles, including a discussion of the emerging talent shortage for experienced advisors, how to choose a practice management coach to work with, and making a decision at the crossroads of business growth about whether to continue being an advisor or become a CEO of an advisory firm. There's also an article on the importance of watching the words that you use in your business, another about the positive impact that happiness can bring to your business and your success (the reality is that it's not success brings happiness, but that happiness brings success!), and a good reminder that even when you're building an online marketing effort there's a difference between platforms you can control and those you can't so be cautious that you don't turn yourself into a "digital sharecropper" with landlord risk.
From there, we look at a few technical planning articles, including a recent study finding that health insurance cost inflation may be slowing, a discussion of whether it makes sense to shift from current health care coverage to the coming new "Obamacare" health plans coming in the insurance exchanges this fall, a look from David Blanchett at how the factors of alpha, beta, cash flows, and delayed retirement impact retirement success, and the latest from Michael Finke on how there may be too much emphasis on the 4% rule and not enough on balancing out the longevity and "upside" risks that are also embedded into its assumptions.
We wrap up with three more introspective articles: the first looks at some recent research suggesting that seniors may not quite have the memory and cognitive decline once believed but that instead they're just better at prioritizing what to remember and what's irrelevant; the second examines our tendency to underinsure ourselves against high-impact low-probability events and that sometimes we need insurance to be "sold" to us to overcome our biases; and the last is an interesting piece about how forcing people to give a small "prosocial" bonus to others can actually be more effective for team-building and business success rather than just giving employees bonuses they can spend on themselves. Enjoy the reading!
(Editor's Note: Want to see what I'm reading through the week that didn't make the cut? Due to popular request, I've started a Tumblr page to highlight a longer list of articles that I scan each week that might be of interest. You can follow the Tumblr page here.)
Weekend reading for May 25th/26th:
Firms Face Advisor Talent Shortage - In Financial Planning magazine, Charlie Paikert explores the increasingly competitive environment for experienced financial advisors, as a talent shortage is emerging, especially amongst the family office firms serving ultra high net worth clientele. As a result, the search process for a new advisor can take months or sometimes more than a year, the required compensation to attract an experienced advisor is rising dramatically (with compensation of half a million to a million dollars for an experienced advisor in a client-facing role in a family office environment), and in some cases firms are even offering equity to bring mature advisors in the door. On the other hand, the squeeze has also pushed more firms to improve compensation to retain existing advisors, which appears to be working, as the number of advisors saying they're looking to make a change has dropped significantly since 2009; yet the improved retention is making the hiring shortage even more acute. While the competition isn't as severe for the "mid market" firms - for instance, an advisor with a $100M AUM client book and a clean regulatory record - it's still a seller's market for such advisors too. The cost of hiring experienced advisors is also driving firms to focus more on investing in and developing younger advisors to mature into such roles in the future.
How To Choose A Great Coach - John Bowen of CEG Worldwide provides a good discussion of the value of coaching and how to select a great coach; although Bowen is arguably conflicted (as CEG offers advisor coaching), the article nonetheless provides some good insight about what's really involved. The first key distinction is that coaching - at least done well - is about a holistic approach to improvement, as distinguished from reading business books or going to conferences where the outcome is often just one or two discrete takeaway ideas. Like a trainer in the athletic context, the goal of a coach is to help advisors implement lessons to achieve improvements, and get faster results than they would have on their own, including enhanced client impact, growth of income or business equity, and higher quality of life (i.e., work/life balance). Outcomes might be measured by improvements in AUM, type and number of clients, capacity to serve clients, and better systems to attract and service clients. To get real value from the coaching experience, Bowen notes that it works best for advisors that have an entrepreneurial attitude to capitalize on the coaching guidance. Key factors for selecting a good coach includes industry-specific experience, actionable strategies that have been tested, a screening process (be wary of coaches who will work with just anyone), toolkits to help advisors implement, and clear metrics to determine if the coaching is working. At the core of a great coaching experience, though, is the relationship with the coach... so be certain to have someone you can work with, who can help you work towards goals, including holding you accountable and able to give you a push when needed.
Advisor Or CEO - In Financial Advisor magazine, Philip Palaveev examines the fork in the road that advisory firms face as they grow, when at some point the founder must make a decision whether to remain an advisor or to become a CEO. The former keeps a personal relationship with clients, while the latter shifts to building an ensemble team to handle clients to allow personal attention on growing the business itself. The upside of the CEO approach is nearly unlimited business growth potential, and a potential to expand the profitability of the business by leveraging team members (leading to significantly higher income per owner at larger firm sizes); the downside is a loss of control as responsibility is delegated to the team, and a significant personal transformation in role. There is no definitive right-or-wrong answer, as both have benefits and disadvantages, but Palaveev suggests that most firm founders simply subconsciously defer the decision, which is not always a good resolution as it often leads to the business outgrowing the capabilities of the individual and forcing the decision anyway. If the team approach will be pursued, it should be done deliberately and proactively, with a focus on breaking down the roles of the firm to determine what exactly can be delegated to associated team members (increasing the operational leverage of the practice), and creating a holistic brand for the firm overall (as distinct from the identities of individual advisors). Perhaps most notable, though, is Palaveev's comment in the middle that the key for leverage is to fully determine team members, which means you shouldn't just delegate to them the smallest clients, but instead give them smaller roles with all clients including the largest ones; if your new team members never get a chance to practice with big clients, they'll never learn to handle such clients in the future. Palaveev suggests that for firms who want to pursue this route, the transitions often begin around $1M of revenue, where the firm has the financial wherewithal to afford necessary investments in staff.
Toxic Words: The Importance of the Language You Use in Your Firm - In his monthly column for Investment Advisor, Mark Tibergien provides a cautionary note about how the language that we use in our practices can impact its culture, and that failing to be cautious and cognizant about the words being used - especially by the leader of the firm - can adversely impact and otherwise-strong advisory firm. But the issue is not only about what the leader says, but also about having a culture that holds everyone accountable for what they say. This isn't just about saying things that are negative, but also just recognizing when we're saying things that have too much jargon and wouldn't be understood by others, whether it's clients, or even fellow employees, who might have trouble following the conversation. So what's the solution? Tibergien emphasizes the importance of a culture of accountability, where everyone is responsible for the outcomes; don't let people evade their own accountability responsibility with statements like "I don't want to throw him/her under the bus" or deflect their lack of understanding or responsibility with comments like "that's above my pay grade" or "I don't have the bandwidth to deal with that." After all, if the problems are really there, allowing these dismissive statements to occur just lets small problems compound into bigger ones that will be even harder to deal with later.
Don’t Worry, Be Happy: Your Business Will Thank You - For her monthly Investment Advisor column, Angie Herbers digs into the book "The Happiness Advantage" by Shawn Achor, a Positive Psychology researcher who studies how happy people have brains that perform better (making them more successful employees and business owners), how happy people live longer lives, and most importantly how happiness is actually far more in our control than we often recognize. The key is to recognize that the usual formula - that success will bring happiness - is wrong, as such success-driven happiness moments tend to be fleeting as we adapt to the new, higher success bar, and become unhappy again. Instead, the reality is not that success leads to happiness, but that happiness leads to success, and in fact success is predicted more by optimism, social support, and our ability to see challenges and not opportunities, rather than "traditional" predictors like IQ. The good news, though, is that it doesn't take much to bring us small doses of happiness, which in turn can add up to significant life change. Achor recommends five daily actions to become happy and remain that way: express three gratitudes (state three specific things you're grateful for at the end of each day); journal by writing down one positive thing that happened in the past 24 hours; exercise, even if it's just 10 minutes to get the blood flowing; meditate for two minutes; and practice at least one small random act of kindness every day. While this may seem small or even trivial, Achor's research suggests that doing them consistently can have far more of a positive impact for our mental state and our success than we realize.
The Most Dangerous Threat To Your Online Marketing Efforts - From the popular Copyblogger, this article makes the interesting point that as advisors (or anyone) build out online marketing efforts, that it's important not to place too much faith in any particular digital platform, or run the risk that a change in the terms of the provider could adversely impact your business; just as an otherwise-profitable sharecropping farmer can go out of business if the landlord comes in and raises the rent too much, so too are online marketing efforts at risk if your "digital sharecropping" is usurped by a provider that adversely changes the costs or terms of service - or at the extreme, decides you've done something inappropriate and just outright shuts your account down. The point here is not that you should therefore avoid any/all digital marketing, but that you should build the anchor of your digital marketing efforts around things you can control - your own website, your own email list, and your own brand and reputation. Particular platforms like Facebook or Google+ may come and go, but if your business is built around what you control and just uses those platforms as a means of distribution (and not the ends itself), you can protect yourself and your business from unexpected bumps in the road.
Retirement Healthcare Costs Decline - This article from Reuters summarizes the latest Fidelity retiree healthcare research, which found this year that the anticipated cost of healthcare for a 65-year-old couple will be $220,000 (present value) through retirement... although large, the number actually represents a decline of about 8% from the 2012 estimate, as healthcare cost inflation slows. In fact, the study results note that Medicare's per enrollee spending increased by only 0.4% last year, and only 1.9% between 2010 and 2012; this is a drastic decline in cost growth from the 7% annual increases that were averaged from 1985 to 2009. Overall healthcare spending has been rising at a 3.9% annual rate for the past 3 years, which is slightly higher than the 3.2% annualized increase in CPI over the same time period, but far below the 6.6% increase in 2009. While some have suggested the slower rate of growth for healthcare costs may just be due to a weak economy reducing utilization, other factors are noted as well, including a large number of common brand name drugs that have gone generic in recent years, Obamacare's limitations on payments to hospitals and physicians, and the entry of baby boomers into Medicare that is actually bringing down the average age of Medicare enrolles (by adding more 65-year-olds at the lower end of the Medicare age range). Ultimately, it's not clear whether this moderation of health care costs is really a sustained new trend or just a temporary phenomenon.
Should You Skip Obamacare And Keep Your Old Plan? - This Reuters article looks at whether people should seek out the new health insurance plans coming via insurance exchanges under Obamacare this fall, or stick with their current "grandfathered" coverage received from an employer. The difference is that older plans don't have to conform to the new coverage mandates, including annual caps on coverage and pay for preventative services with no out-of-pocket costs; such differences mean older plans may often be cheaper than the new coverage, but notably grandfathered plans may also end out providing less coverage, too (the new mandates were intended as consumer protections, after all). Notably, plans that have been rolled out to employees since March 23, 2010, are not grandfathered, which means the coverage under the existing plan will be required to change to conform to the new rules, and premiums will be adjusted accordingly. In fact, premium changes are really the driver to the entire discussion; the new policies with new mandates may provide more comprehensive coverage, but are anticipated to be more expensive as a result, and the appeal of grandfathered plans, at least for the first few years of Obamacare, may be the opportunity to keep the lower-coverage-but-lower-cost plan.
The ABCDs Of Retirement Success - In the Journal of Financial Planning, David Blanchett looks at the factors that impact accumulating for retirement, which he labels the "ABCDs" of success, including Alpha, Beta, Cash flows, and Delayed retirement. Different factors have a varying degree of impact on the outcome of a plan, depending on the current situation, but the differences can often be significant. In some cases, the results are fairly intuitive - for instance, Blanchett demonstrates how cash flows have far more impact on accumulators than returns (either from alpha or beta) when account balances are small (though investors and sometimes planners seem to forget this!); however, Blanchett also quantifies some of these effects, for instance showing that delaying retirement by one year for an individual with a large account balance can have as much positive impact as generating a whopping 100 basis points of alpha during every year of retirement itself. Other somewhat surprising results include the fact that for longer retirement time horizons, alpha can actually become a greater contributor to retirement success than beta (due to the volatility drag that occurs by just taking on higher beta), which also means that avoiding negative alpha (i.e., minimizing fees) is crucial, although once again the magnitude of cash flows (i.e., withdrawals) still has the greatest impact. Ultimately, Blanchett suggests that effectively managing the ABCDs of retirement for accumulation clients provides significant opportunities for planners to add value, similar to his previous Gamma research on retirees - especially given that the "C" and "D" parts for accumulators (cash flows and delayed retirement, respectively) are almost entirely planning driven, not market driven.
Is The 4% Rule Folly? - In Research magazine, Texas Tech professor Michael Finke takes a deep dive into the 4% rule, which he acknowledges was a useful starting point for retirement analysis but suggests may have gone too far in its adoption. His criticism stems in part because his research suggests that the 4% rule itself will not hold in today's return environment (though as I've previously written, those results may be overstated), but more because the safe withdrawal rate approach relies upon selecting a specific time horizon, which in turn can exacerbate longevity risk concerns as clients may outlive the time horizon (though again as I've previously written, the safe withdrawal rate approach usually leaves over several times the starting principal in reserves against long life). While retirees can try to manage the longevity risk by picking a highly conservative time horizon, Finke notes that conservative assumptions and an ultra-careful approach can in turn lead to a very constrained retirement, as clients reduce their spending to the point that will succeed 95%+ of the time, but as a result also create a high likelihood of leaving over unnecessary wealth (the opposite side of the aforementioned "benefit" that safe withdrawal rates have a high likelihood of leaving over principal). Finke suggests that instead, solutions should more readily consider hedging the longevity risk with an annuity and/or using other products for a more rounded series of tradeoffs than just conservative spending that has both a risk of failure and a "risk" of significant (and not necessarily desired) legacy; ultimately, though, clients will choose the relative trade-offs for themselves based on their risk tolerance.
Why Older Minds Make Better Decisions - This article by Dawn Carr, a research associate with the Stanford Center on Longevity, looks at the emerging field of "decision neuroscience" which studies how the brain makes decisions, which in turn provides insights on how age impacts our decision-making capabilities. And the research finds that while certainly there are some aspects of cognitive decline as we age, older people often make better decisions in many regards; for instance, they are more likely to walk away from bad decisions and not get hung up on sunk costs, and while they are not able to remember as much they may actually be better at remembering the most important information. The latter point may be especially important, as it suggests that perhaps our brains are actually trying to cope and adapt to general declines in memory function by learning to better prioritize what to really pay attention to.
Hurricane Lessons - In Research magazine, Bob Seawright examines a recent research paper by Wharton professor Robert Meyer, who found that even with good information, people often make remarkably poor risk management decisions about high-impact low-probability events. The research was based on a series of experimental scenarios where people were given information about a building (theoretical) hurricane, its strength and anticipated trajectory, and offered the chance to buy hurricane insurance that got increasingly more expensive as the hurricane approached. The results found that although a few (ostensibly highly risk-intolerant) people over-insured, but most seriously under-protected their homes, even when the risk was serious and imminent and obvious; even worse, the results showed that when limited damage was sustained in the prior round, people consistently reduced their protection the next time, which meant even those who weren't under-insured initially often shifted to become under-insured if the first few disasters didn't hit. The results are troubling, as it not only explains the pattern of hurricane and flood insurance activity (for instance, after Hurricane Katrina there was a 53% increase in flood insurance purchases nationally, but within two years cancellations brought coverage back down to pre-Katrina levels), but also our behavior around markets and personal risks. In fact, Seawright points out that this means there really are benefits to having agents who "sell" insurance, noting that the emphasis on selling isn't just about getting the agent paid, but recognizing that sometimes we really do need significant nudges to make the best decisions and overcome our own biases.
The Best Bonus Is One You Can't Spend On Yourself - While the standard approach to incentivizing employees is to pay them as much as possible and let them enjoy their money, recent research finds that bigger bonuses can actually become distracting and create counterproductive stress. Instead, the research finds that bonuses may actually make us happiest when we are not allowed to spend it on ourselves, and must instead use "prosocial bonuses" that must be spent on other team members - by being forced to spend bonuses on teammates, the team ultimately forms stronger bonds that lead to better results. Notably, the bonus amounts involved were somewhat small - although prosocial bonuses had a positive effect, it doesn't necessarily mean it's a good idea to eliminate all personal bonuses and make them purely prosocial. Nonetheless, the article makes the interesting point that it may not take much to get the positive effect; even making modest prosocial bonuses like $20 that must be spent on a random co-worker may help to force co-workers to learn more about each other and bond, reaping a significant reward for the business overall.
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!
