1) The traditional financial advisor model is dying off
2) Banks are cutting commissions while adding costs
3) Banks are also scaling back product offering to reduce liability
4) Traditional brokers are fleeing banks to go independent
5) There’s no room for financial advice for poor people
About one-third of my readers are professional financial advisors who earn their crust of bread telling clients how to invest their retirement assets for a fixed fee.
They used to earn a share of the brokerage fees they generated. After stock commissions went to near zero, they started charging a flat 1.25% a year on the assets they oversaw.
So it is with some sadness that I have watched this troubled industry enter a long-term secular decline, which seems to be worsening by the day.
The final nail in the coffin may be the new regulations announced by the Department of Labor (DOL) at the end of the Obama administration that controls this business.
Brokers, insurance agents, and financial planners were already held to a standard of suitability by the government based on a client’s financial situation, tax status, investment objectives, risk tolerance, and time horizon.
The DOL proposed raising this bar to the level already required of Registered Investment Advisors, as spelled out by the Investment Company Act of 1940.
This would have required advisors to act only in the best interests of their clients, irrespective of all other factors, including the advisor’s compensation or conflicts of interest.
What this does is increase the costs, while also greatly expanding advisor liability. In fact, the cost of malpractice insurance has already started to rise. All in all, it makes the financial advisor industry a much less fun place to be.
As is always the case with new regulations, they were inspired by a tiny handful of bad actors.
Some miscreants steered clients into securities solely based on the commissions they earned, which could reach 8% or more, whether it made any investment sense or not. Some of the instruments they recommended were nothing more than blatant rip-offs.
The DOL thought that the new regulations would save consumers $15 billion a year in excess commissions.
Legal action by industry associations has put the DOL proposals in limbo. Unless it appeals, it is unlikely to become law. So, there will be a respite, at least until the next administration.
Knowing hundreds of financial advisors personally, I can tell you that virtually all are hardworking professionals who go the extra mile to safeguard customer assets, while earning incremental positive returns.
That is no easy task given the exponential speed with which the global economy is evolving. Yesterday’s “window and orphans” safe bets can transform overnight into today’s reckless adventure.
Look no further than coal, energy, and the auto industry. Once a mainstay of conservative portfolios, all of these sectors have, or came close to filing for bankruptcy.
Even my own local power utility, Pacific Gas and Electric Company (PG&E), filed for Chapter 11 in 2001 because it couldn’t game the electric power markets as well as Enron.
Some advisors even go the extent of scouring the Internet for a trade mentoring service that can ease their burden, such as the Diary of a Mad Hedge Fund Trader, to get their clients that extra edge.
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Traditional financial managers have been under siege for decades.
Commissions have been cut, expenses increased, and mysterious “fees” have started showing up on customer statements.
Those who work for big firms, such as UBS, Morgan Stanley, Goldman Sachs, Merrill Lynch, and Charles Schwab, have seen health insurance coverage cut back and deductibles raised.
The safety of custody with big firms has always been a myth. Remember, all of these guys would have gone under during the 2008-09 financial crash if they hadn’t been bailed out by the government. It will happen again.
The quality of the research has taken a nosedive, with sectors, such as small caps, no longer covered.
What remains offers nothing but waffle and indecision. Many analysts are afraid to commit to a real recommendation for fear of getting sued or worse, scaring away lucrative investment banking business.
And have you noticed that after Dodd-Frank, two thirds of a brokerage report are made up of disclosures?
Many advisors have in fact evolved over the decades from money managers to asset gatherers and relationship managers.
Their job is now to steer investors into “safe” funds managed by third parties that have to carry all of the liability for bad decisions (buying energy plays in 2014?).
The firms have effectively become toll takers, charging a commission for anything that moves.
They have become so risk averse that they have banned participation in anything exotic, such as options, option spreads, (VIX) trading, any 2X leveraged ETFs, or inverse ETFs of any kind. When dealing in esoterica is permitted, the commissions are doubled.
Even my own newsletter has to get compliance review before it is distributed to clients, often provided by third parties to smaller firms.
“Every year they try to chip away at something,” one beleaguered advisor confided to me with despair.
Big brokers often hype their own services with expensive advertising campaigns that unrealistically elevate client expectations.
Modern media doesn’t help either.
I can’t tell you how many times I have had to convince advisors not to dump all their stocks at a market bottom because of something they heard on TV, saw on the Internet, or read in a competing newsletter warning that financial Armageddon was imminent.
Customers are force fed the same misinformation. One of my main jobs is to provide advisors with the fodder they need to refute the many “end of the world” scenarios that seem to be in continuous circulation.
In fact, a sudden wave of such calls has proved to be a great “bottoming” indicator for me.
Personally, I don’t expect to see another major financial crisis until 2032 at the earliest, and by then, I’ll probably be dead.
Because of all of the above, about half of my financial advisor readers have confided in me a desire to go independent in the near future, if they are not already.
Sure, they won’t be ducking all these bullets. But at least they will have an independent business they can either sell at a future date or pass on to a succeeding generation.
Overheads are far easier to control when you own your own business, and the tax advantages can be substantial.
A secular trend away from nondiscretionary to discretionary account management is a decisive move in this direction.
There seems to be a great separating of the wheat from the chaff going on in the financial advisory industry.
Those who can stay ahead of the curve – both with the markets and their own business models – are soaking up all the assets. Those who can’t are unable to hold on to enough money to keep their businesses going.
Let’s face it, in the modern age every industry is being put through a meat grinder. Thanks to hyper-accelerating technology, business models are changing by the day.
Just be happy you’re not a doctor trying to figure out Obamacare.
Those individuals who can reinvent themselves quickly will succeed. Those who won’t will quickly be confined to the dustbin of history.
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