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Public Comment Letter on the SEC Advice Rule and Separating Advice from Sales

July 30, 2018 07:03 am 0 Comments CATEGORY: Regulation & Compliance

Earlier this year, the SEC proposed its own long-awaited overhaul of the regulation of broker-dealers and investment advisers. At the time, the Department of Labor’s fiduciary rule was still the law of the land, and the pressure was on the SEC to “harmonize” – both the SEC’s regulation with the DoL’s version, and to close what has long been perceived as a concerning gap in the standards of conduct that apply to the “suitable” advice delivered by brokers versus the “fiduciary” advice of (registered) investment advisers.

And while the DoL fiduciary rule has since been struck down, consideration of the SEC’s advice rule is still, thus far, proceeding as planned, with a controversial overhaul of the standards of conduct for broker-dealers that would require them to act in the “best interests” of their customers when making a recommendation (but not as a fiduciary at all times in their relationship with clients) under the new Regulation Best Interest, along with a new Form CRS (Customer/Client Relationship Summary) to better describe the nature of the broker or investment adviser’s relationship with the consumer, and a potential limitation on the use of the “financial advisor” title by at least the brokers at standalone broker-dealers who have no RIA affiliation.

Yet, while the SEC’s efforts to lift the standards of advice being delivered by brokers is laudable, arguably its effort to do so by applying Regulation Best Interest to the “pay as you go” episodic or transaction advice of brokers inappropriately redefines the Investment Advisers Act of 1940 itself… which knowingly subjected broker-dealers to a lower standard than that of investment advisers specifically because brokers are not supposed to be in the business of advice (ongoing or episodic) in the first place, and were only permitted to provide advice to the extent that advice was/is “solely incidental” to the sale of brokerage products and services. In other words, the problem is not that broker-dealers are giving advice without being subject to a fiduciary standard under FINRA regulation; the problem is that broker-dealers giving such advice are required to register as investment advisers, and if they did, they would already subject them to the fiduciary standard that applies to registered investment advisers, rendering the entire Regulation Best Interest proposal moot anyway!

In this context, it is especially concerning that the SEC’s proposals appear to undermine the clear choice between sales versus advice that Congress intended when establishing the ’40 Act in the first place. After all, it’s hard to imagine that consumers will understand the sales-versus-advice distinction when the proposed Form CRS disclosure states that consumers may receive advice from a broker on a transactional or episodic basis or from an investment adviser on an ongoing basis (when the SEC already requires advisors providing transactional or episodic advice in the form of hourly and project planning fees to become investment advisers anyway), and it is unclear how any consumer could understand their choices given the Form CRS disclosure that broker-dealers “must act in your best interest and not place our interests ahead of yours” while investment advisors “are held to a fiduciary standard” which the SEC defines as the obligation to “act in the best interest of the client” as well!

Similarly, while the SEC’s advice rule proposes to reduce consumer confusion by limiting the use of the “financial advisor” term by standalone broker-dealers and their registered representatives, it continues to allow hybrid advisors to use the label, knowing full well that at least a portion of the advisor’s services will not be in his/her capacity as an advisor but as a salesperson. In other words, advisors are explicitly being granted permission to market their services as “advice” and implement that advice without being subject to the appropriate standard for advice, without any requirement to explain to the consumer when the advice relationship ended. For which the SEC suggests consumers might be “confused” by a requirement that the advisor clearly disclosure and use proper labels for the “hat” being worn… instead of recognizing that the confusion stems from the nature of the dual-hatted advice-and-also-sales relationship in the first place, for which clear use of titles at all times alleviates the confusion!

The bottom line, though, is simply to recognize that the real problem in the marketplace for financial advice today isn’t that broker-dealers are giving advice without being subject to the fiduciary duty that has always been applied to advice relationships of trust and confidence, or that the application of a fiduciary duty to the broker-dealer model could limit choice (and thus why a lower Regulation Best Interest standard is needed instead). The real problem is that Congress articulated in the Investment Advisers Act of 1940 that consumers should have a choice – between brokerage sales and investment advice – which the SEC’s Regulation Best Interest proposal not only fails to honor, but risks undermining to the detriment of advisor competition in the marketplace and the elimination of clear choices for consumers.

In any event, though, whether you agree or disagree, the time to do so is now, as the 90-day Public Comment period on the SEC’s proposals ends on August 7^th. So, if you haven’t submitted your own comments to the SEC about why Regulation Best Interest and Form CRS should, or shouldn’t, move forward… now is the time to make your voice heard!

Weekend Reading for Financial Planners (July 28-29)

July 27, 2018 02:54 pm 0 Comments CATEGORY: Weekend Reading

Enjoy the current installment of "weekend reading for financial planners" – this week's edition kicks off with a look at the recent Focus Financial IPO, which did in fact go off as planned this week, at a lower price than the rumored peak, but far higher than first anticipated when the IPO was announced, with trading that began at $33/share and closed at $37.55 after the company's first day... which at a multiple of nearly 18X EBITDA, is both a tremendous validation of what markets in the aggregate still see as the promise of the independent RIA model, and will likely fuel a fresh wave of advisory firm roll-up aggregation and M&A.

Also in the news this week is a discussion of how CFP Board is beginning to gear up its compliance enforcement capabilities more than a year in advance of its new fiduciary Standards of Conduct that will take effect in October of 2019, and the questions that still linger after the FPA not only terminated its affiliation agreement with a challenged New York chapter but chose not to replace the chapter with a new independent nonprofit entity (as exists for its more-than-80 other chapters) and instead decided to roll the FPA of Metro New York into the national FPA organization, and raising questions about whether the approach may be a template for national attempting to centralize more of its chapter system in the coming years.

From there, we have several articles on investment themes, from a paper in the Financial Analysts Journal suggesting that Bill Sharpe's famous "Arithmetic of Active Management" (suggesting that the average active manager return will and must underperform the market in the aggregate, net of fees) may not be valid in practice due to the existence of IPOs and share repurchases along with additions and deletions from public market indices (which creates opportunities for active managers to still add net value at the margins), to a look from Research Affiliates at when and whether investment manager selection is really worth the effort (at least compared to simply trying to help clients better manage their own behavior), and a candid look from Morningstar at how its own new Morningstar Analyst Ratings have performed after their first 5 years (finding that Gold ratings do predict risk-adjusted outperformance, and Negative-rated funds underperform, but Silver, Bronze, and Neutral funds are ending up in a murky middle).

We also have a series of articles on client communication, including some good icebreaker questions on how to get clients or prospects to start talking about themselves, 10 "tactless" things that advisors often have to tell clients to help them face reality, and what to consider in the unfortunate situation you actually need to communicate to a client that it's time to end the relationship (i.e., to "fire" the client).

We wrap up with three interesting articles, all around the theme of how increased longevity, paired with increased connectivity, are changing the ways we work and the ways we take breaks from work: the first explores the rising interest, especially amongst Millennials, in taking sabbaticals (and even 1-2 year stints off from work) as an alternative to just working continuously for 40-50+ years (given increased longevity) and then taking the vacations all at the end; the second looks at how the conventional view is that you have flexibility to "goof off" and pursue your passions while you're young, but in reality, we often don't really know what we enjoy and want to pursue when we're young, and that perhaps a better formula is to just focus on working hard in the early years and aim to pursue your passions in your 40s and 50s instead (when your life is more stable and you better know what you actually would want to do); and the last makes an interesting case that, in a 24/7 ever-connected world, perhaps it's a good idea to deliberately live a "24/6" lifestyle, where we take one "digital sabbath" per week to completely unplug and focus on ourselves, our health, and our relationships... both because doing so seems to improve our happiness, and because the alternative has a greater risk of leading to burnout, anyway!

Enjoy the "light" reading!

Billing on Outside Held-Away Assets Under Advisement: Issues To Consider

July 26, 2018 12:06 pm 0 Comments CATEGORY: Practice Management

Issues To Consider When Billing On Outside On Held-Away Assets Under Advisement Featured Image

As advisory firms seek to refine their fee structures and find ways to add value for (and generate new revenue from) their existing clients, one of the more interesting shifts in the industry over the past couple years has been away from billing on assets under management and towards assets under advisement, which are those outside held-away assets (e.g., a 401(k) plan at a current employer) on which an advisor may make recommendations, but not necessarily effect any transactions (because it’s not under their direct management). The appeal of such an approach is understandable: qualified plans are an ever-increasing piece of clients’ nest egg, especially for those in their 30s, 40s, and 50s, and the dilemma advisors often face is that, while a potential client might have significant net worth, much of that is tied up in accounts that the advisor can’t manage directly.

In this week’s #OfficeHours with @MichaelKitces, my Tuesday 1PM EST broadcast via Periscope, we discuss the ways in which advisors are working with clients with substantial held-away assets, the issues they may face when charging an assets-under-advisement (AUA) fee on outside assets, and some operational challenges that advisors need to think about before adding on this type of fee structure.

The quintessential example of a client where an AUA fee may be a better fit than an AUM fee is the still-working client with a moderate (e.g., $150,000) brokerage account, and a sizable (e.g., $350,000) 401(k) plan at a current employer, where the client can afford to pay the advisor a reasonable fee in the aggregate, but not necessarily “just” from the account that’s available to manage.

There are a few ways to handle situations like this. In some cases, the advisor simples takes the client on in hopes of getting that sizable roll-over down the road (even if it’s an unprofitable client for years up until that point). Others may set a minimum annual fee for clients if their available assets fall under a certain threshold, ensuring that there is a sufficient level of revenue per client to service the client, and letting those with sufficient net worth (even if not all available to manage) to decide for themselves whether to move assets, or just pay the fee.

The third approach that’s emerging, though, is simply to not charge only on the assets that the advisor manages directly, but also setting an assets under advisement fee for those outside held-away assets that might provide advice on, even if the advisor doesn’t (or can’t) have discretionary authority. For which the AUA fee is typically lower, recognizing that while the advisor does provide some services, it is less than the full-service management (for the full-service management fee) on the actual managed accounts.

However, charging an AUA fee it’s not without its potential pitfalls. In some cases, clients may not want to pay for “just” asset allocation advice they have to implement themselves. And if an advisor gets the client’s login credentials to do it for them, the service is a lot less cost efficient due to the added layers on manual work involved, and means that the advisor has custody of those assets (and as such, is subject to an annual surprise custody audit under the SEC custody rule). Moreover, if the client gets accustomed to paying a lower fee to have the outside 401(k) “advised upon”, they may not want to roll over and pay a full management fee when the time comes (if the advisor has not effectively distinguished the value). Which can be especially challenging for advisors with a more passive approach, since at least active managers can claim there is additional value in rolling over by being able to implement full investment management process (e.g., offering “tactical management of retirement assets to minimize sequence of returns risk”).

Beyond those challenges, advisors also need to figure out how they’re actually going to bill on those held-away assets. As since advisors generally can’t deduct fees directly from a 401(k) account, they will either have to bill from managed accounts they do oversee (which is bad news for the advisor’s performance numbers, since the fees for the entire pie and coming from just the advisor’s slice), or send the client an invoice and implement technology to bill them directly.

These challenges to adopting an AUA fee aren’t insurmountable, however, but do require some careful thought and planning in advance. As ultimately, charging a fee on assets under advisement may be a good way for certain advisors to expand their relationship with existing clients, especially those who are still in their working years and have a sizable 401(k) plan that is unavailable to be managed directly. However, the AUA fee has got to make sense from a business perspective as well, which means having a clear operational game plan for calculating fees, dealing with all the extra manual work, and for navigating the regulatory minefield.

Financial Advisor Trends in Constructing Mutual Fund Vs ETF Investment Portfolios

July 25, 2018 07:03 am 1 Comment CATEGORY: Investments

Important Factors When Selecting Fund Provider

One of the biggest trends in the investment industry in recent years has been explosive growth in the variety, availability, and use of exchange-traded funds (ETFs). Not only because they are more tax efficient, have more flexible trading, and are typically less expensive – which has made them a popular way to implement passive investing strategies – but also because even advisors who actively manage portfolios themselves appear to be used ETFs are the core “passive” building block for their active ETF strategies. However, the industry still shows that the overwhelming majority of advisors still use mutual funds as well, which in turn raises the question: how, exactly, do advisors choose between mutual funds versus ETFs and select the particular investment vehicle they’re going to use… and from the asset manager’s perspective, what should fund companies be doing to get their investment solutions in front of advisors?

In this context, a recent industry study published by Erdos & Morgan provides a fascinating look into what advisors actually view as the most important factors when selecting fund providers. Not surprisingly, performance and fees rank were top-ranking factors, but advisors also place a high value on a fund provider’s approach to managing volatility and their perceived trustworthiness… and surprisingly (or not) weight at all on the fund company’s marketing materials, wholesalers, or “thought leadership” white papers. And the trend is especially pronounced amongst the RIA channel, which sits the furthest from traditional commission-based fund distribution models, and appears to be the most likely to take a “don’t call us, we’ll call you” approach to selecting fund providers to work with.

In fact, another study from Advisor Perspectives (also looking at fund company selection by advisors) found that advisors are becoming increasingly sophisticated in regards to evaluating a fund’s fees and performance, instead of relying on the higher-level “rankings” from research providers (e.g., Morningstar’s star ratings). And to the extent that advisors want “value-added” services from fund providers, the desire is not for practice management advice, but simply more accessibility to deeper investment expertise, from having more direct access to fund managers and research analysts, and demanding that wholesalers themselves be increasingly investment savvy (with real investment expertise like CIMA certification) as well.

The bottom line, though, is simply that with all the rapid changes occurring in the industry, there is growing recognition that the traditional distribution approach of fund providers and asset managers is changing. Yet thus far, fund companies appear to be struggling to adapt, leading to especially low reputation scores from RIAs compared to advisors working at broker-dealers, and substantial negativity towards traditional wholesalers. The good news, however, is that in the end, client assets still have to be invested somewhere… which means there is a substantial opportunity for the fund providers that can learn to adapt most quickly to the new normal of how advisors select investment solutions.

#FASuccess Ep 082: Insights From The History Of Financial Planning Since The First CFP Class with Ben Coombs

July 24, 2018 07:03 am 0 Comments CATEGORY: Financial Advisor Success Podcast

Welcome back to the 82nd episode of the Financial Advisor Success podcast!

This week's guest is Ben Coombs. Ben is the former owner of Petra Financial Advisors, an independent advisory firm that he built and ultimately sold to a successor when he was ready to retire, and is now retired after nearly 40 years of experience as a financial advisor.

But what's really unique about Ben is the fact that he was a member of the very first class of CFP certificants in 1973, and was subsequently involved in the formation of the Institute for Certified Financial Planners, also known as the ICFP, later that year, and was a member of the Board of Directors of the CFP Board in its early days. In other words, Ben has actually lived and been a part of the entire history of the movement of financial planning from the very beginning.

And in this episode, we talk in depth about the history and evolution of financial planning itself, from what it was like to be part of the first class of CFP certificants, the challenges that set back the early financial planning movement when it was still largely about using financial plans to sell products, why the professional association for CFP certificants split from the broad association for financial advisors and took nearly 25 years to be rejoined as the FPA, the lawsuit that actually caused the CFP Board to be created as a spinoff from the College for Financial Planning in Denver, and how almost all of the common industry debates that we have today, from the sometimes problematic relationship that CFP stakeholders have with the CFP Board to the battles over various forms of advisor compensation are not at all new but have actually been repeating every decade since the inception of financial planning itself.

We also talk about Ben's accumulated wisdom having been a financial planning practitioner and a part of the financial planning movement over his entire professional career, from how the financial planning approach fundamentally changes the nature of the questions we ask of and for our clients, to why it's so necessary to sometimes give things up in order to move forward, whether it's in our own career or for the financial planning profession as a whole, how different compensation models can sometimes unwittingly cause us to collect bad information about the solutions we make available to our clients, and why in the end it's absolutely crucial to be the one that delivers important news to your clients, including the bad news.

And be certain to listen to the end, where Ben shares his wisdom about what every financial advisor should be doing to advance their own careers and the quality of the services they provide to their clients.

So whether you are interested in hearing more about the beginning of the financial planning industry, how many of challenges we face as a community have cropped up decade after decade, or insights into what advisors can actively do to keep pushing their careers forward, I hope you enjoy this episode of the Financial Advisor Success podcast!

The Efficiency Benefits Of Niching From The Start To Launch An Advisory Firm

July 23, 2018 07:01 am 2 Comments CATEGORY: Personal/Career Development

Starting a new financial planning practice can be a scary yet exciting time. One of the big challenges facing any financial advisor is finding initial clients and building up a business that can financially support itself. As a result, in the beginning, many financial advisors will take anyone who is willing to work with them. Yet the reality is that while this can create some growth at the start, often this can actually impede growth in the future, as a business without any clear focus and target clientele can lead to significant problems with efficiency.

In this guest post, Meg Bartelt of Flow Financial Planning, LLC recounts the evolution of her virtual fee-only financial planning practice, from starting in May of 2016 with a focus on "working mothers in the tech industry" and growing into her current focus on “early to mid-career women who are employees in the tech industry”. Additionally, Meg notes the benefits of starting out with a niche, such as easier design of process and deliverables (as everything can be designed around a single clientele), easier referability (as clients actually know what's unique about you and who they should send to you), increased confidence (as working with a community of people you know a lot about can help you develop assurance in the value you provide to clients), more enjoyable client relationships (as working with people you know and like will make the work more enjoyable), and more effective professional development (as she can ignore many of the topics that a generalist must focus on, while specifically honing in on topics that are meaningful to her clients)!

Ultimately, every firm has their challenges in the early days and Meg's firm was no exception, but by focusing on a niche and marketing it aggressively – including sufficient investment in a quality online presence that resonated with her target clientele, efforts building SEO through her blog, networking through the right online communities, and leveraging centers of influence that many advisors traditionally don't focus on (e.g., resume writers, career coaches, and people who are "hubs" in the tech industry) – Meg was able to reach the tipping point at which her efforts paid off, and now she has an entirely virtual firm on pace to likely break $150k in revenue in just her third year of operation. And Meg has done all of that while bringing on 26 of 31 clients in her niche, and adopting a policy of only accepting clients in her niche going forward, as she has seen the efficiencies gained from growing a firm through niching from the start!