Blog on Wealth

Do You Love Me Just For My Money?

noreply@blogger.com (Randy and Jeff) — Tue, 24 Jan 2012 21:26:00 +0000

Large Wall Street firms have tossed independent advisors yet another great opportunity.

Recently, management at many of the wirehouses informed their financial advisors that they wouldn’t get paid on accounts with a balance of less than $250,000. These clients are being shipped off to a call center because, in so many words, they can’t be profitably serviced by a “full service” financial advisor.

This decision is a frank admission that the cost structure at big firms is still too high. Large firms in the Dodd-Frank era are feeling the squeeze. The result is predictable: Wall Street again put self-preservation ahead of advisors and clients.

Is that any way to treat people, let alone someone who may become a worthy client one day? The opposite is also true: Aren’t these big firms really saying that if you have enough money, we will love you?

Short-Term Thinking

This bloodless view of the world is not particularly nice, nor is it necessarily good business practice.

The fact is not everyone is born a 1 percenter. Clients with smaller accounts often grow into much larger ones. Here in Northern California, engineers and many entrepreneurs are just one IPO away from fabulous wealth.

The problem with packing smaller accounts off to a Siberian call center is that you never know who becomes the next Mark Zuckerberg. If clients are mistreated before they hit the home run, there’s virtually no chance they’ll ever come back.

Opportunity For Independents

The good news is that a large firm’s cast-offs can be good business for independent advisors. Because independents have far less overhead, they have lower costs and can incubate smaller clients profitably. The key is having the right business model.

There’s another opportunity, too, for independents: The freedom to run a business as advisors see fit.

Most accomplished advisors don’t want corporate bureaucrats dictating how they serve clients or operate their business. A large firm’s management decisions are particularly irritating because they not only deprive advisors of income, but also create the embarrassment of having to tell clients that the firm believes they’re no longer worth the time.

Wealth management can’t be all about the money. Just like in any relationship, if someone happens to have money, that’s fine. But that’s not the reason you love someone.

As an independent advisor, you don’t have to be all about the money. One of the greatest advantages of being independent is the freedom to do the right thing by your business and your conscience. That always feels good.

The Arab Spring Comes to Wall Street

noreply@blogger.com (Randy and Jeff) — Wed, 21 Dec 2011 14:21:00 +0000

One of the most heartening developments of 2011 has been the Arab Spring.

A year ago, people fed up with oppression began challenging dictators in Tunisia and Egypt. Inspired by their success, popular uprisings spread across the Middle East, taking down strongmen like Mubarak and Ghaddfi. After decades of suffering, tens of millions of people now have the promise of a better way of life.

Many factors contributed to the downfall of authoritarian regimes, but one cause that will certainly loom large in history is the power of information.

Information flowing across the Internet and via social media enabled repressed people to share new ideas and collaborate in ways that simply weren’t possible in prior decades. They were empowered when they realized that many other people shared their opinions.

Demonstrations were organized over Facebook. Firsthand accounts of government crackdowns traveled the world by Twitter. Mobile phones transmitted shocking video that triggered outraged in people everywhere.

That the hero of the Egyptian revolution was an executive of Google – the nexus for sharing ideas and information around the globe – is the perfect metaphor for the Arab Spring. Google embodies the liberating force of information, which ultimately outgunned soldiers, tanks and secret police.

Wall Street Feels The Breeze Of Liberty

For investors and advisors, a similar sense of liberation is occurring for the same reason: Information is breaking through Wall Street’s facade of omnipotence.

One of the positive outcomes of the financial crisis is that the veil has been pulled back on Wall Street business practices. The post-mortems on the financial meltdown have revealed the naked self-interest of Wall Street’s conflicted business model.

Many investors have come to realize that Wall Street frequently acts first in its own self-interest. After that comes investors.

Advisors have also gotten fed up with Wall Street. The dictatorial style management that intimidates advisors with a “just-buy-this-we-know-best” approach has prompted many advisors to break away so they can do right by their clients.

The Unstoppable Tide of Human Aspiration

As hopeful as the Arab awakening has been, it will no doubt be messy as countries lurch toward democracy and free markets after being under the yoke of tyranny for so long.

The same can be said about Wall Street and its business practices. As information sheds light on Wall Street, more will choose the freedom and choice offered by an independent advisor. But it would be unwise to underestimate Wall Street’s staying power. This will not happen overnight.

The good news is that it’s become impossible to turn back the clock on progress. The free flow of information cannot be thwarted thanks to the Internet and social media. Information will remain the jet fuel for the unstoppable tide of human aspiration.

Happy Holidays from the team at Sanctuary Wealth Services.

Loss of Confidence

noreply@blogger.com (Randy and Jeff) — Mon, 28 Nov 2011 13:26:00 +0000

There’s a striking similarity between the current state of affairs in government and our financial system: Both are paralyzed by gridlock and in desperate need of regaining credibility. Voters and investors are losing confidence.

The Congressional supercommittee’s inability to address government spending is only the latest failing by our nation’s leaders. Likewise, the financial system’s refusal to remake itself after the trust-busting financial crisis is equally disheartening.

On Wall Street, it’s exasperating that it’s still business as usual. Big banks and wirehouses continue to create wealth management programs that place asset gathering and the firm’s profitability ahead of the interests of clients.

They’re still missing the boat on the most fundamental tenent of wealth management: If it is good for your client, it will be good for your business. Meanwhile, Wall Street is trying to actively torpedo any reform by dismantling Dodd-Frank and other protections for taxpayers and investors.

It’s no wonder the Occupy Wall Street movement still has oxygen left.

A Better Way

In the spirit of extricating the industry from a crisis of investor confidence, we’re proposing a modest agenda of reform:

Be honest. The wealth management industry has positioned itself as an omnipotent, all-knowing purveyor of financial security. What has been lacking is honesty. Investors need to be told the truth about risk and reward, even if they don’t want to hear it. The good news is that unconflicted advisors who don’t have to peddle opaque products or be held hostage to their large firm’s profitability targets are beginning to have an honest dialogue with clients.

Acknowledge mistakes. Large institutions attribute the financial mess to a once-in-a-lifetime debacle, as opposed to any systemic defect in their business models. The rationalization is that no one could have seen the crisis coming. If you’re an unconflicted, independent advisor, you still may not have seen the flood coming. However, you could have responded faster in heading for higher ground. You wouldn’t have been locked in by Wall Street’s investment products that stifle flexibility.

Establish new standards. Advisors need to re-educate investors about performance. It’s not simply about high returns, but rather about performance versus established risk parameters. Particularly for high net worth clients who have already hit the home run, wealth preservation and definable risk management are often a higher priority. Using risk as your primary performance benchmark might not be as “marketable” as cocktail party worthy high returns, but taking the easy route rarely works.

Independent wealth advisors should play a particularly valuable role in advancing this agenda. They can be a catalyst because they don’t need to buy into the Wall Street mirage that “we are smarter and have all the answers.” They can tell the truth, and investors will reward them with the biggest prize: their business and their trust.

At the end of the day, voters and investors are actually looking for the same thing – an alternative to sclerotic party politics or an anachronistic financial services business model. Whoever steps up and tells the truth – and delivers a credible solution – will win the hearts and minds of both for the long run.

I'm Sorry

noreply@blogger.com (Randy and Jeff) — Wed, 19 Oct 2011 19:48:00 +0000

Time For Wall Street To Apologize

Each day, the Wall Street protests grow. Over the weekend, demonstrations spread to dozens of U.S. cities and three continents, with scores of arrests and increasing violence. Sympathizers in Rome went on a rampage that caused more than $1 million in damage.

The revolt against Wall Street is about many things: Disgust with the broader economy, anger at government gridlock and policy failures, revulsion over bank bailouts, resentment about the growing gap between rich and poor, and generalized rage at the machine. There is also legitimate fury for Wall Street’s role in the misery many are experiencing.

Everyone Needs To Fess Up

The Wall Street establishment clearly needs to do something. After all, the “Occupy Wall Street” movement has its name on it.

What should be done? First, Wall Street needs to atone for the sins that got us into this mess. A mea culpa is due because Wall Street’s multi-billion dollar propaganda machine effectively peddled the worst kind of fantasy – that individuals and institutions who invest with them can achieve superior returns using their newly created “AAA” investments.

Unfortunately, the only people who made money were those who took the other side of the trade. Given that investing remains a zero sum game, not even Wall Street could change the laws of finance.

Wall Street firms need to start with an apology to anyone who ever purchased these new investment products and opened an investment or retirement account with dreams of a predictable financial future.

Advisors Share The Blame

Second, an apology is due from advisors. They believed their bosses who prodded them to sell the delusion that Wall Street’s best and brightest had figured out a way to squeeze addition return out of AAA-rated securities.

Brokers and advisors didn’t need much convincing to get them to go along. To address the fee compression caused by new regulations, wealth professionals looked for additional revenue opportunities by selling these opaque but “safe” investment vehicles.

So Do Clients

Third, clients themselves need to make amends. Their own demands for a safe but outsized return fueled the mania. Investors had come to expect outsized returns during the 20+ year bull market and had established a lifestyle to assume the good times would continue forever.

Clients relentlessly requested high returns and threatened their advisors that they would pull their accounts if their demands weren’t met.

The Way Forward

Once the apologies are made, Wall Street needs to tell it straight.

For starters, Wall Street needs to explain that the new normal for equity returns is likely to be 6% to 8%. That’s a sharp departure from the 10% to 12% growth that led some to believe their wealth would double every seven to 10 years.

In the short term, even the 6% to 8% growth is suspect. Those kinds of returns should be viewed as an intermediate term goal, if we’re lucky. As The Economist noted this week in its cover story, Nowhere to Hide, there aren’t many places to invest these days. The perils include the foundering U.S. economy, still-deteriorating housing market, European crisis, and the slowdown in emerging economies.

In addition to systematically lowering expectations, Wall Street also has an obligation to be more transparent. It desperately needs to fix its broken business model and return to a business that charges a disclosed fee for advice and raising capital.

If Wall Street doesn’t make it right, it will only accelerate the independent advisor movement. That may be the sliver lining after all. We believe strongly that leaving Wall Street is the best option for both investors and advisors.

For their part, clients need to find an advisor at a firm whose business model they can trust for the long term. Parking money in cash is only a short-term solution.

More truthfulness and an apology will be a good start in repairing the damage. Coming clean will also show protesters – and the rest of the America – that Wall Street acknowledges that it must do better.

Written by Jeff Spears - ex-Wall Street, ex-advisor, demanding client

Sallie Krawcheck’s Departure: The End Of The Experiment

noreply@blogger.com (Randy and Jeff) — Thu, 08 Sep 2011 03:16:00 +0000

This week, history repeated itself. Bank of America ditched its top wealth management executive in favor of a banKer whose assignment is to increase profitability by “encouraging” the 16,000 members of Merrill Lynch’s thundering herd to cross-sell bank products.

On Tuesday, Sallie Krawcheck was fired. I suffered the same fate not that long ago under very similar circumstances. After Bank of America took over Montgomery Securities and asked my management team to integrate our group into The Private Bank, I was fired and replaced by a banKer.

We wrote about this in our blog on September 25, 2008 – the most widely read and commented piece we’ve ever penned. What we said then is happening all over again – to the detriment of brokers and THEIR clients.

Wielding The Axe

Why are brokers and their managers inevitably sacrificed when banKers take over?

For two reasons. First, both Sallie and I weren’t willing to accept the bank’s demands to place a higher priority on cross-selling bank products. Brokers got into the business because they have a passion for helping clients manage their wealth, not selling checking accounts, home equity lines of credit, or toasters.

Second, we both refused to sell out our brokers on comp. We understood that the brokers’ compensation plan needed to be different than their “Bank of America teammates” who are paid salary plus bonus.

That an old-line NationsBank banKer since 1979 will head wealth management definitively signals the end of the grand experiment between Bank of America and Merrill Lynch.

BofA CEO Brian Moynihan has given this no-nonsense banKer explicit marching orders: Deliver “our entire franchise to all OUR (our emphasis) customers," to quote a BofA press release. Translation for brokers: You're a banker now.

For someone who has lived through this before, I’m astonished BofA is still drinking the same Kool-Aid. Namely, that BofA believes the bank – and not the individual broker – owns the customer relationship. The conceit is breathtaking.

What Happens Next?

First, YOUR clients will start to ask when you are leaving. Clients read the news, too. They understand what’s coming, allegedly in the name of additional benefits.

Second, the bank will begin to monitor brokers’ daily interaction with clients. They want to quickly find out who is with them and who is against. The oversight is designed to hopefully control when brokers leave. As one BofA banKer once told me: “We want to make sure brokers leave on our terms, not theirs.”

Third, some brokers will get fired. In fact, that's exactly what happened to us. Some of our top producing brokers got fired because they were looking for a new job. The term used by Bank of America’s legal department to describe their job-hunting was “skullduggery.” In essence, the bank tried to act preemptively to out the brokers who were looking, allowing the bank to gain a timing advantage when trying to retain “their” clients. Of course, everyone knows that clients are loyal to people, not companies.

The Bottom Line

The capitulation to the banKers isn’t surprising. BofA knows that selling bank products is ultimately more profitable than the brokerage business. The profit margin on brokerage is in the low teens. For banking products and services, it’s 30%+. If there is one thing banKers know, it’s math.

Because the banking business model is so much more profitable than the brokerage model, two things will happen: 1) The banKers will remain in control; 2) Brokers (and THEIR clients) will be on the short end of the equation. Read another way, brokers will face lower comp and their clients will be subject to statement stuffers promoting bank products. Each month. Not even the powers that be at BofA can suspend the laws of economics over time.

For clients at big banks, prepare for the onslaught – and forgive your broker if he or she is a little cranky. If you’re a broker, there’s no better time to learn what skullduggery means and to gain the timing advantage by breaking away on your terms.

By Jeff Spears, CEO of Sanctuary Wealth Services

Hedge Fund Investing Part 2 – The Fine Print

noreply@blogger.com (Randy and Jeff) — Thu, 18 Aug 2011 17:23:00 +0000

Recent market volatility has caused many investors to consider investing in hedge funds because of their ability to be both short and long the market. BlogOnWealth in Part 2 of our series on hedge fund investing discusses several items you need to be aware of before signing the hedge fund’s contract.

Liquidity and transparency. As many investors learned the hard way in 2008, there are few constraints that prevent a hedge fund manager from investing in very illiquid assets. The larger the fund, the less likely the smaller investor will get full transparency on those illiquid positions. A number of fund of funds have yet to provide investors with full liquidity on redemption requests made in 2008. Investors should be well compensated for investments that have no transparency and uncertain liquidity.

The market’s reaction to these problems has been for many hedge funds to offer a mutual fund version of their hedge fund that provides daily liquidity and price transparency. These hedge fund/mutual funds have attracted more than $6 billion of client assets in the first six months of 2011.

After Tax Returns: There are significant tax considerations that the taxable investor needs to keep in mind. While a five-year 14% annualized return might look pretty good, if those returns are 100% taxable every year, the after-tax returns look much more pedestrian. Indeed, the difference in after-tax returns for a 14% investment that is 100% taxable annually compared to one that has 100% unrealized gains is about one percentage point (at top marginal tax rates) over a five-year period. The power of compounding does not get suspended just because it is a hedge fund!

Liquidity for tax payments. The negative impact of 100% taxable gains is compounded if you have no liquidity. For example, if your hedge fund has a lock-up, you will have to find cash flow from other investments to fund the tax payments. There are obviously circumstances when high taxable returns are desirable: If an investor has other investments that generate substantial tax losses or if there are significant tax losses from prior years that need to be “harvested.”

Alignment of incentives: Look at the other investors and don’t mistake their objectives for yours. While the presence of large endowments, foundations and other tax-exempt entities might make the taxable investor comfortable that the smart money has done the due diligence work, these investors have different objectives and constraints than most taxable investors. If the majority of the investors don’t pay taxes, then the taxable investor’s need for after tax returns will not be a priority for the investment manager.

Hedge funds can be a helpful portfolio addition, but you need to read the fine print of each fund before you invest. Don’t forget 2008!

Fighting Back Against A Common Nemesis: Insecurity

noreply@blogger.com (Randy and Jeff) — Wed, 10 Aug 2011 02:54:00 +0000

What accounts for the mediocre performance of so many companies and individuals? If you look beneath the surface, insecurity is often the common culprit.

Seth Grodin called insecurity the work of our lizard brain, the pre-historic lump of gray matter responsible for fear and rage. The lizard brain holds you back when you want to go forward. It reflexively fears the unknown.

Steven Pressfield refers to insecurity as the resistance. The resistance is the voice in our heads whispering caution, to go slow, to compromise. It is also the impulse that makes us drag our feet or keeps us from finishing what we started. Worse, the resistance, seems to get stronger the closer you are to making a necessary change.

Not Pretty

Call it whatever you want, but we are all dogged by fear of change.

For individuals, insecurity appears in the need to be liked by everyone. We all know that never works, and it often backfires. For politicians, insecurity rears its ugly head in the overpowering drive for election or re-election. History is littered with examples of well-meaning pols who sold out their principles to keep their elected office.

For corporations, insecurity breeds incrementalism. An executive may know that to succeed in the long term there may be significant short-term pain to change a business model, kill a product or invest in an unproven solution. But the fear of losing one’s job frequently quashes a leader’s better instincts to take a bold step.

Wealth advisors are not immune to insecurity, either. Like corporate executives, many advisors realize that their firm has serious shortcomings, for both themselves and their clients. But advisors may be just comfortable enough, so they stay put – even if they know a better future is very possible.

The Solution

How do you vanquish insecurity? One of the most effective ways is to mimic Silicon Valley. The whole ecosystem in the Valley is focused on isolating things that can be done better. Then, the doers charge ahead. The bumper sticker version is “No Fear.”

Silicon Valley is all about disruptive ideas and technology. Many ideas are tried and failed, but many others produce spectacular results.

Google is a perfect example of a Silicon Valley company who gets it. Google gives employees something known as Google Time. Employees can devote 20% of their time to developing something new and original of their own making. Gmail and Google + are among the innovations born from Google Time. Google has managed to institutionalize the better angels of our entrepreneurial spirit.

Living and working in San Francisco and Northern California, one gradually sees risk-taking as part of the natural landscape. Striking out on one’s own is what people do, and it’s invigorating. With so many other risk-takers in close proximity, there is security in the number of people who are confronting their own insecurity.

I was recently reminded of that by the principal of an advisor team who recently hired Sanctuary. “You take for granted just how entrepreneurial people are here. It's just not like this everywhere.”

The Unstoppable Tide of Human Aspiration

At the end of the day, the only real cure for insecurity is action. The self-confidence that comes from taking the initiative can overwhelm the reptilian corner of your brain. Conversely, the positive experience of successful change is a great motivator. It also has the corollary benefit of tapping that other instinct in us: the human drive for greatness.

For advisors who are thinking about breaking away, client uncertainty shouldn’t be the reason to hold back. In our experience, a large majority of clients who work with independent advisors are themselves entrepreneurs and serial risk takers. They appreciate advisors who have the gravitas to make a move that is all long-term gain.

Tame the lizard. Go out and make it happen today.

Hedge Fund Investing:: High Reward - and Higher Risk

noreply@blogger.com (Randy and Jeff) — Tue, 26 Jul 2011 22:55:00 +0000

Before we get to the important topic at hand, let me introduce myself. My name is Keith Ogden, and I’m a co-founder of Sanctuary Wealth Services and a “reformed” veteran of the hedge fund industry.

So you wanna buy a hedge fund, eh?

Hedge Funds are hot!. After a couple of years of outflows, hedge funds are back in vogue. But before the taxable investor jumps into a fund or a fund of funds, there are a few things to consider. Among the most important: While hedge funds can deliver outsized rewards, they can be significantly more risky than many other types of investments.

Understand your market risks. While all investors realize that they have to take some risk to earn positive real returns, it is important to consider the source of the returns. When you look at investing in a single hedge fund manager or a fund of funds, are the returns consistent with the returns available in the areas in which they invest? Madoff supposedly achieved double-digit returns in an investment strategy in which mid-single digits were the norm. While there are some superstar managers, massive outperformance over short periods of time usually signals either significant style drift or highly leveraged bets. Your hedge funds should have investment processes that are understandable to you and repeatable by them. You want to make sure you are getting adequately rewarded for the actual market risks your manager is taking.

Beware the asset gatherers. Many hedge funds with long track records tout market-beating returns from inception. But don’t forget the power of compounding. That manager who has an 18% annualized return over the last five years might be riding the benefits of a huge first year or two, when assets were probably much smaller. (Do the math: 55% in year one, followed by four 5% years is more than 18% annualized.) There is a significant body of research that suggests the returns earned by funds between $500 million and $1 billion are significantly better than those earned by funds over $1 billion. Some managers will continue to raise as much money as possible, even though the additional assets might make it all but impossible to earn significant risk-adjusted returns in their market segment.

Understand The Fees. A typical hedge fund works on the “2 plus 20” fee formula. They get 2% of the net asset value of the fund in addition to 20% of the profits. The manager typically makes more on management fees than on performance fees if the underlying returns are less than 12%. In fact, a 2% fee is more than the fee assessed by the average stock mutual fund. Then there is the 20% profit share. Investors really need to think whether their hedge fund manager has the ability to outperform the historical performance of the S&P 500.

Don’t get us wrong. Hedge funds can be a terrific investment for the right investor. But they need to be carefully considered. In my next blog I will discuss liquidity and transparency, after tax returns and the “alignment of incentives.”

Stay tuned.

Read Part 2

Win-Win

noreply@blogger.com (Randy and Jeff) — Fri, 01 Jul 2011 16:26:00 +0000

The burning question for many advisors each day is: “How do I monetize my business?”

The conventional answer is: “I’ll sell my business some day at a lofty premium to an unwitting bank, wirehouse or roll-up firm and ride it out until retirement.”

Many independent advisors will be relying on the greater fool theory to strike a rich deal. Independents know that larger institutions and roll-ups routinely overpay for an advisor’s book of business. The word on the street is that buyers frequently overestimate how much advisors can cross-sell and grow their business.

For their part, buyers believe their brand is the magic elixir. A new advisor’s book of business, they believe, hasn’t been more profitable because the advisor didn’t have Brand X’s killer portfolio of products and services and management expertise.

The High Road

Is a sale based on the greater fool theory really the best approach for advisors and clients? The short answer is no.

Clients don’t commit to an advisor thinking the advisor will sell the business. Clients engage advisors because they trust their advisor and they believe the advisor is competent. And, just like no one gets married thinking they’re going to get divorced, clients believe they’ll be with an advisor and the advisor's firm for the long term when they hire the advisor.

Independent advisors often think that because their unconflicted model has more integrity than a big bank’s or brokerage’s that they may be more enlightened in considering how a sale impact clients. In fact, money corrupts. An advisor has to make an active choice to take the high road.

Looking For A Fool

The greater fool theory has currency because as long as institutions have been buying books of business, they’ve been overpaying. A premium is typically paid when an acquirer overestimates the value of any one of these three variables:

1. The retention of the advisor's current clientele.

2. The ability of the advisors to continue to grow their business.

3. The strength of the acquiring firm’s brand to generate more fees from the advisor's current clients.

To earn the full purchase price, advisors must commit to generating more revenue. For clients, that’s almost always trouble. The bargain that advisors make with their new employers translates into more client solicitations and sales pressure to buy additional products and services. This is the approach especially championed by banks. Or, it could mean raising client fees. Sometimes, it is both.

On balance, the transaction is negative for clients, even if clients gain access to additional investment solutions. For advisors, there may be an upfront, short-term gain, but they forfeit the longer-term payday that comes from building and maintaining an independent firm.

A Better Way

What’s a better approach?

For both advisors and clients, the solution is remaining an independent firm and continuing to grow the business, even after the founder has retired. By having an orderly succession plan and grooming a successor, there is no need to sell.

There are two key benefits in this approach.

First, clients will fare better. Clients will transition to a new advisor who is apprenticed by their current over a two- to three-year period. The new advisor will continue to use the same products and services that the client enjoys.

Second, the retiring advisor can actually make more over time. The profitability and ownership formulas common today will pay the retiring partner on a sliding scale over a number of years even after they retire.

To achieve this objective, there must be a defined succession plan that gives the junior partner an opportunity to buy an ownership interest using contractual metrics over a defined time period. All parties must have a willingness to take the long view of the franchise for the benefit of all.

An independent wealth management firm that sells to a big bank or roll-up firm is no different than a broker who takes a big recruiting check from a wirehouse. The good news is that by remaining independent, an advisor can do right by clients and by themselves creating a win-win scenario consistent with their independent mantra of always acting in the best interests of the client.

LPL Success?

noreply@blogger.com (Randy and Jeff) — Wed, 01 Jun 2011 20:37:00 +0000

LPL’s successful IPO has set the standard that most private wealth advisory firms in the roll up space such as United Capital, Focus Financial and HighTower, are hoping to achieve. As these private firms consider their strategic options, a big question remains: “Is LPL’s huge success replicable?”

LPL Successes

LPL has grown its advisor base from 3,500 advisors in 2000 to over 12,000. That growth is the result of acquisitions and from a forced exodus of lower-producing wirehouse stockbrokers. A $200,000 - $300,000-a-year producer is not profitable in the high cost Wall Street business model. However, they are very profitable for LPL. The company doesn’t have expensive investment bankers, research analysts and multimillion-dollar proprietary traders. LPL makes money two ways: 1) From a revenue share with its independent contractor brokers; 2) From transaction fees, asset-based fees and net interest margin that it earns through its broker-dealer. This combined revenue stream allows LPL to profitably support a $300,000-a-year broker that has a business mix of 70% commissions and 30% fees. It also allows LPL to offer the broker a much higher payout than Wall Street.

Here is how LPL describes its business in the S-1 filing for its November 2010 IPO: “Our singular focus is to support our advisors with the front, middle and back-office support they need to serve the large and growing market for independent investment advice, particularly in the mass affluent market, which we define as investors with $100,000 — $1,000,000 in investable assets." [Emphasis ours]

Red Flag

It all sounds very good, but consider this: Near the end of the 180-day IPO lock-up, Ron Carson, LPL’s top producing broker and largest broker shareholder, announced that after a 22 year relationship with LPL he was going to set up his own independent RIA.

Isn’t he already independent with LPL? In fact, not independent enough, in Mr. Carson’s opinion. As his business has grown to the impressive level of $3 billion in AUA, he realized that the LPL service offering – built to serve mass affluent clients – was not sufficient to address the needs of his clients with greater than $1,000,000 in investable assets. While Carson will continue to use LPL for his mass affluent clients, the asset management solutions for his larger clients will be sourced by his new firm and held at Schwab or TD Ameritrade.

While one advisor’s departure will not have a material impact on LPL’s current business, I’m sure it has caught the attention of senior management, LPL’s private equity investors and other top producing LPL brokers.

The Rainmaker’s Dilemma

Rainmakers typically leave large organizations to start their own firms so they can increase their compensation and assert greater control over the strategic direction of their business. LPL’s independent contractor model has successfully addressed the higher compensation needs for the $300,000 producer. This group of producers constitutes the largest in number of brokers, but the top producers (rainmakers) still remain on Wall Street or in trust banks, and LPL has not been able to attract them. That’s not to mention the reality that most top producers – because of their egos – don’t want to be associated with a firm that focuses on mass affluent clients. LPL might not want the rainmaker broker, but after three years of Wall Street’s salesforce rationalization the forced breakaway trend appears to have run its course. That could force LPL to join the ranks of HighTower, Dynasty and Sanctuary in trying to attract rainmaker advisors in order to meet the growth expectation of their new public shareholders.

Position of Strength

LPL has several assets that could make it a formidable competitor if it chooses to pursue the rainmaker advisors. With a cash position of over $500 million and a market capitalization of over $3.8 billion, LPL has ample cash and a potent balance sheet it can use to buy market share. And LPL’s biggest asset could be its private equity partners, Hellman & Friedman and TPG. These organizations understand the high-end client and the high-end wealth management business very well.

The $3.8 billion question for LPL management? Do they believe that the economics of addressing the high-end market segment are as attractive as the economics of selling to the mass affluent? And are these two versions of the same business, or do they need separate business units with separate management teams and separate client service philosophies?

Stay tuned.

Climbing The Wall Of Worry

noreply@blogger.com (Randy and Jeff) — Fri, 13 May 2011 16:50:00 +0000

Bull markets, as the adage goes, “climb the wall of worry.” That has never been more applicable than during the 95%+ move the market has experienced since the March 2009 lows. Clients who listened to their advisors, overcame their fears, and remained invested have experienced rewarding gains. Diversified portfolios are finally at or even through breakeven, and clients are breathing a sigh of relief. They’re also starting to consider what they should do now that they survived a near-death experience.

Right now, advisors need to worry. The reason: many clients may be looking to leave their current advisor and simultaneously make ill-considered investment decisions that can and should be avoided.

Life is NOT fair

Top advisors provide value by successfully advising their clients against making behavioral miscues at market extremes. Selling or panicking at the market lows and failing to rebalance at market tops are the classic mistakes advisors can help prevent. For advisors, the current risk is that clients may now be eager to sell and part company because they are FINALLY back to breakeven. Now that a client’s portfolio is not down, the thinking goes, it’s time to bail out because the advisor’s failed strategy is what got clients into trouble in the first place. But wait a second. Wasn’t it an advisor who prevented a client from selling at the bottom? The client’s what-have-you-done-for-me-lately attitude is simply not fair.

In fact, the client’s tax consequences and psychological hurdles of selling at breakeven are negligible. As a result, advisors need to emphasize that this “easy” decision can be just as big of an error as running scared and liquidating at market extremes.

High Cost

Advisors live in constant fear of losing one of their big clients. The cost of losing a top client is exacerbated by the 80/20 rule of sales. If you do the math, one client lost can reduce production by at least 16%. Seems like a good reason to worry!

Retention and Growth Strategy

But worrying won’t prevent lost revenue. Advisors need to address potential client defections with a proactive and innovative approach. What is that? In short, it’s owning up to previous shortcomings. Most notably, too many advisors put clients in illiquid investments, and they and the money managers they selected took too much risk in client portfolios. To retain clients still smarting from those decisions, communicating what went wrong and what has changed may be the surest way to keep unhappy clients.

The good news is that the same forthright approach can be applied to attract new clients. Everyone knows that something went terribly awry during the financial crisis. Acknowledging the lessons learned is what every good professional does to improve his or her game. This more open and human style is likely to resonate with younger wealth creators too, who don’t appreciate the value of advisors or discount their value entirely. Moreover, if advisors communicate their improved approach to GenXers and GenYers through social media – blogs, Facebook, Twitter, among others platforms – that sends a powerful and innovative message about how you do business in the post-meltdown world.

The Lady Doth Protest

Sallie Krawcheck is worried, too. You would never know that from her recent interviews and speeches, in which she says very few Merrill Lynch brokers have left to go independent. Her repeated proclamations about the independent channel remind me of the line from Hamlet, “The lady doth protest too much, methinks.”

Domino Effect

While advisors should worry about losing their clients and the disproportionate impact it will have on their businesses, wirehouse management constantly worries about losing their largest clients too: their advisors. The recent article on the travails of law firms in The Economist shows how vulnerable services firms are when they lose their top talent. The wirehouses and large captive wealth managers face the same challenge: when the top advisors start to leave, it can sink the entire ship.

Ironically, the unconflicted independent wealth management business model may provide the best solution for clients, advisors and even Sallie.

Sleep tight.

Merrill Lynch: Wolf in Sheep's Clothing?

noreply@blogger.com (Randy and Jeff) — Tue, 19 Apr 2011 17:44:00 +0000

I did a double take when I read the news that Merrill Lynch was going to spend $20 million on an ad campaign entitled “The Power of the Right Advisor.”While I wholeheartedly agree that the right advisor is essential, I was shocked to read how Merrill was defining what the “Right Advisor” does for its clients. The definition sounded eerily similar to the independent, fee-based advisor. Has Sallie Krawcheck changed her mind about the threat from the independent wealth manager?

In fact, it doesn’t appear that Ms. Krawcheck has changed her mind about the movement toward independent advisors. She is just making a shrewd decision and following the money. Specifically, brokerage assets and revenues are declining and fee-based revenues and assets are increasing. Clients want advice, not brokerage product sales, and are voting with their assets. A recent study of over 15,000 brokers by PriceMetrix examines this reality in greater detail. The blow-away statistic that caught my attention was that 81% of the new fee-based clients did not have a legacy brokerage account with the firm.

Wake-Up Call

Merrill’s ad campaign should be a wake-up call for independent advisors who have been major beneficiaries over the last few years of the wirehouses’ conflicted business models. Sanctuary’s recent white paper encouraged independent advisors and brokers to take a page from the other professional’s playbook. We didn’t anticipate that Merrill would take our advice so quickly!

Irrespective of whatever garb Merrill and other wirehouses may don, independent advisors need to make business development a core part of the job. Partners at the fastest-growing independent advisory firms devoted more than 40% of their time to new client acquisition, according to Moss Adams.

Strong marketing represents another golden opportunity to grow assets for independents.

Most independents spend their time on wealth management and client service – two critical functions. But marketing is often an afterthought. A PowerPoint, static website or ill-conceived mass mailings are the extent of the marketing for many independents.

Effective marketing starts with better messaging. Many independents need to clearly differentiate their message from other independents. And, they can gain an advantage by drawing the key distinction between their unconflicted approach to wealth management and Wall Street’s conflicted model.

In today’s marketplace, using social networking platforms also sends a strong message all by itself, especially to younger wealth creators. Independents that use Facebook, Twitter or write a blog have the upper hand because wirehouses either block or severely limit social networking over concern about potential compliance issues. This approach also doesn’t cost $20 million.

The bottom line: Tell your story aggressively and warn prospects that “The Power of the Right Advisor” campaign could be a wolf in sheep’s clothing.

Leaving the nest

noreply@blogger.com (Randy and Jeff) — Mon, 18 Apr 2011 02:29:00 +0000

The day has finally come.

Today Blog on Wealth is letting our alter ego, the wealth advisor, gain independence and start their own blog.

While we will miss them, the change will allow Blog on Wealth to refocus our time and energy on what brought us all together in August of 2008, our desire to objectively examine investment solutions for high net worth individuals and their families.

We hope our wealth advisor will link to us often. We will definitely link to them, letting them know how proud we are of their new independence.

They can be reached at www.indyinsight.com

Please link to them and let us know how they are doing.

Welcome to Independent Insight - The Straight Scoop on Independent Wealth Management

noreply@blogger.com (Randy and Jeff) — Thu, 07 Apr 2011 21:04:00 +0000

Independent wealth management firms are the fastest growing segment of the financial services industry. Yet, a considerable amount of confusion exists about how successful advisors can leave Wall Street’s conflicted business model for greener pastures and a better night’s sleep.

Independent Insight was created to demystify independent wealth management and explain the benefits of going independent for both brokers and their clients.

Written by veteran wealth management executives, top producing Wall Street brokers and advisors who have broken away, Independent Insight will tell it like it is. We’re going to cut through the clutter and obfuscation to deliver fact based analysis and opinions.

We’re going to tackle the topics everyone in the industry is talking about, even if they are taboo at Wall Street firms or even some established independent firms. And, we’re going to focus on the issues advisors care about most: taking care of clients, growing their book of business, having more control of your time, and securing your financial future.

As with Sanctuary’s BlogOnWealth, which focuses on strategies and insight for investors, we want to know what you think. Please feel free to comment either by name or anonymously. We want a robust dialogue, so we all can benefit from our collective insights.

Growing Assets In Difficult Conditions

In kicking off Independent Insight, we decided to highlight one of the central and timely issues facing both independents and wirehouse brokers: How to grow your business in the post-Madoff, post-financial crisis era.

In our nine-page white paper on the subject, to be released Tuesday, April 12, we detail how independent advisors and wirehouse brokers face three formidable challenges in growing their business:

1. “New normal” market returns of 4% to 6% annually, instead of 8% to 10%

2. A big drop in valuable referrals from CPAs and attorneys

3. Significant difficulties in attracting new wealth creators, GenXers and GenYers, who think most advisors over 40 are out of touch or the firm the advisor works for is untrustworthy.

In offering solutions, the paper takes an unorthodox approach. What Can Independent Advisors And Wirehouse Brokers Learn from One Another? explains how independents and brokers can a take page out of the other’s playbook to succeed. Most of the time, these are warring camps, but in today’s environment, you can’t be blind to what works.

Among other observations, the white paper details what strategies and tactics independents should borrow from wirehouse brokers to improve sales and marketing. It also shows why brokers need to be more like independent advisors if they want to rebuild trust and capture a larger share of a client’s assets.

Welcome to Independent Insight!

Raj Should Have Traded ETFs

noreply@blogger.com (Randy and Jeff) — Mon, 21 Mar 2011 19:28:00 +0000

I remember hearing about Raj Rajaratnam when I was a broker at Montgomery Securities in the mid-90s. In those days, Raj worked for Needham and Company as a hedge fund manager running their Emerging Growth Fund. His investors, at that time, were a lot of the high tech investment banking clients he once covered as an analyst at Needham, and who I then covered at Montgomery. They raved about his performance!

Raj eventually bought out the Needham hedge fund and renamed it Galleon. He was enormously successful and continued to put up huge numbers. At its peak, Galleon had assets of more than $6.5 billion. Now Raj is on trial for insider trading that seems to implicate not only himself, but the executives, affiliates, and employees of many of the companies who were supplying him with the inside information about the companies where they worked.

Was Raj the Only One?

During those early days at Montgomery, well before enactment of Regulation FD, the SEC regulation that prohibited publicly traded companies and other issuers from disclosing material nonpublic information outside a public forum, it seemed like everyone—analysts, brokers, clients, and corporate execs—were trafficking in this information. I was party to several investor presentations and one-on-one meetings where all it took was a wink and a nod from a CEO or a CFO to know the quarter had been "made." It was the way business was done back then.

I wonder how well these hedge funds and mutual funds would have done without this information?

How far, and at what risk, Raj and others reached to get the inside scoop just goes to show how incredibly difficult it is to outperform the market. Did Raj put up great numbers because he was a great analyst, or was he smart because he was able to access information no one else had?

If equity prices reflect all publicly available information at any given time, then the only way to outperform is either through luck or by cheating. If the cheating goes away, which it won’t, or at least is minimized, then outperforming the indices will be even more difficult, especially over the long term when the element of luck evens out.

Active versus Passive

Once again it begs the question, why go active when study after study has shown that, after fees and expenses, over the long term, passive always wins? Just google “Active versus Passive;” you’ll find pages and pages of studies that support this. Blog on Wealth has posted on this topic many times.

As long as information begets profits, there will be investors who will pursue whatever edge they can, legal or otherwise, to get in--or out--before the next guy. At a minimum, the prosecution of Raj and others, who blatantly abused the system, should, in the aggregate, somewhat reduce the amount and impact of material nonpublic information on stock prices. If this is the case, it will be interesting to see if those managers who have been able to outperform over the past few years will continue to do so.

My bet is they won’t.

Independents: Here Comes FINRA

noreply@blogger.com (Randy and Jeff) — Mon, 07 Feb 2011 17:48:00 +0000

So far, most of the news that has come out of the SEC Study on Investment Advisors and Broker-Dealers has surrounded the commission’s recommendation for a universal fiduciary standard for brokers and RIAs.

What hasn’t garnered much attention is the increased oversight the SEC is looking to impose on RIAs who have historically been subject to much less regulatory scrutiny than have their wirehouse counterparts. Up to this point, RIAs have pretty much been able to operate under the radar.

According to a recent SEC Study on Enhancing Investment Adviser Examinations, only about 9% of independent advisors are audited each year versus 56% for broker-dealers. Furthermore, because of the rapid growth of the independent advisor channel and a drop in regulatory resources at the SEC, only about 7% of RIAs will be examined in 2011. Under the current system, things will only get worse.

Ways to enhance oversight are a hot topic at the SEC and recommendations to increase supervision seemingly have come down to three alternatives that Congress is now likely to consider. These include imposing new user fees to finance increased examinations, authorizing a new self-regulatory organization (SRO) to administer and enforce compliance, and having FINRA become the regulator of choice for both brokers and RIAs. FINRA is currently the SRO in charge of regulating the activities of broker-dealers.

While the odds-on-favorite right now seems to be FINRA, there is little debate that whatever course of action Congress takes on this matter, independent advisors will face higher compliance and regulatory costs going forward.

Pressure on Margins

Blog on Wealth canvassed several independent compliance firms in connection with these proposed changes. While it is difficult to quantify the increased dollar cost associated with more regulation, these firms expect the impact on RIAs, especially smaller firms with assets under $100 million, could be significant.

According to Talia Brandt, president of San Francisco-based Vista Compliance, “moving to FINRA regulation would require these firms to dedicate more resources to compliance as well as most likely require them to pay membership fees to cover their costs of regulation."

Independent advisors are not accustomed to the level of regulation and scrutiny that brokers face because there are no rules-based procedures in place that govern their practice. Brokers are subject to a myriad of rules and regulations governing almost every aspect of their business including licensing, continuing education, practice management, record retention, and customer disputes. RIAs, on the other hand, are regulated under a principles-based system where these aspects of their business are more subjective.

According to Brandt, “there is a lot more ongoing reporting to FINRA that isn’t required on the RIA side, including very specific guidelines and rules regarding a member firm’s Supervisory Control System.” These rules must entail how such a system “should be monitored, how often it must be tested, the requirements of testing and reporting, as well as very specific requirements of the Senior Management certification of this program and all of the required components.”

Vista has already seen an increase in customer inquiry as a result of the SEC Study. ” We’ve already seen a change due to RIAs posturing and preparing for increased regulation and scrutiny,” Brandt said. "Many firms I work with are growing more concerned about compliance issues and are working to get ahead of the game by beefing up their compliance programs in anticipation of these changes," she added.

A Godsend for Investors

Blog on Wealth believes moving the oversight of RIAs to FINRA would be a major positive for investors—especially those investors who are currently working with advisors with $100 million or less in AUM. While the SEC has tried to shift the burden of these firms to the states in an effort to increase examination, there are so many firms that fall under the $100 million threshold that there is little reason to believe that the states will have the money and the people to deal with these firms.

And as Brandt points out, “A lot of damage can be done with less than $100 million!”

Is the Hybrid Advisor Done For?

noreply@blogger.com (Randy and Jeff) — Wed, 26 Jan 2011 12:45:00 +0000

The long-awaited SEC commission Study on Investment Advisors and Broker-Dealers, released to Congress Friday night, recommends that both broker-dealers and investment advisors abide by a uniform fiduciary standard that requires them “to act in the best interest of the customer without regard to the financial or other interest of the broker, dealer, or investment advisor providing the advice.”

This represents a BIG change for brokers who have only been held to the less stringent “suitability standard,” where any investment recommendation need only be deemed suitable for the client based on the broker’s due diligence.

According to the report a universal fiduciary duty is needed because investors are unaware that brokers and registered investment advisors (RIAs) operate under different standards.

End of the “Double Standard” for Advisors

Blog on Wealth, in a May 28, 2010 post entitled, “Fiduciary Standard, Suitability Standard, or Just Plain ‘Double Standard’?” argued against the fundamental logic behind the hybrid advisor based on the belief that advisors who are allowed to be registered as both Series 7 brokers and Series 65 RIAs only perpetuate this confusion.

There is only one reason advisors choose to be dually registered and it has nothing to do with putting the client first. It’s all about the money!

Hybrids can charge asset-based investment management fees as well as receive commissions, sales concessions, performance allocations, and general partnership interests. It is a major contradiction, in our mind, that these advisors, who tout themselves as fiduciaries, are being compensated by investment sponsors to push product on their clients.

Once an advisor is paid a sales commission, sales concession, performance allocation, or GP kickback, he/she is no longer a fiduciary. Period!

A Boon For Investors

How the fiduciary standard will eventually be shaped and voted on by Congress is still a big question. It seems obvious, though, that the ability of advisors to charge asset management fees AND be compensated to sell product under a uniform fiduciary standard will not stand. While the study did not appear to suggest doing away with commission-based sales, one of the obvious points of holding advisors to a single fiduciary standard was to do away with the confusion investors face when dealing with advisors who are registered as both RIAs and broker/dealers.

Amen!

Is your advisor dually registered? Don't know? Go to FINRA's BrokerCheck to find out.

The Goldman/Facebook Deal: Abacus II

noreply@blogger.com (Randy and Jeff) — Tue, 11 Jan 2011 22:24:00 +0000

Remember Abacus? That was the fancy CDO derivative that Goldman Sachs invented and sold to its sophisticated institutional investors in 2007 and, at the same time, bet against it in their own account along with hedge fund star John A. Paulson.

It was okay because the investors were RICH! They were big institutional investors—IKB Deutsche Industriebank and the Royal Bank of Scotland. In SEC parlance, if you’re rich—you’re sophisticated. If you’re sophisticated you can evaluate an investment on its own merits and determine if it’s suitable. And if you’re rich, you’re fair game for Goldman Sachs or anyone else seeking to get in your pocket.

Did it matter that Goldman was betting on Abacus to fail? Their sophisticated clients were believers in the vibrancy of the housing market and Goldman Sachs devised a way for them to play it.

Is it wrong that Goldman would engineer and sell an investment they didn’t believe in? When asked by the U.S. Senate Permanent Subcommittee of Investigations, Daniel L. Sparks, former head of Goldman’s mortgage division, said, “We should work with clients to help them achieve their objectives. That doesn’t mean that we’re always going to have the same view on a particular investment.”

Goldman believed they had no fiduciary responsibility toward these sophisticated clients. They were rich! They were welcome to their own opinion and could invest accordingly. So long as the investment was suitable, there was nothing wrong with Goldman selling their clients an investment that they, Goldman Sachs, believed would ultimately fail!

Here comes Facebook

Now Goldman is pitching their rich private wealth management clients to buy $1.5 billion in private shares of Facebook at a valuation of $50 billion and, from what we understand this afternoon, the deal is oversubscribed. The price to play: $2 million a pop. These clients must be really sophisticated!

What’s more, Goldman is investing $450 million of its own money at the same valuation but NOT on the same terms. According to an article that appeared in Bloomberg over the weekend, entitled “Goldman Image Makeover May Be Undermined by Facebook,”documents provided to potential Facebook buyers indicate that while the Goldman's private wealth management clients would be subject to “significant restrictions” on their ability to sell their Facebook shares, Goldman could sell or hedge their Facebook shares at anytime without warning.

Sound familiar?

What’s more, according to Henry Blodget's businessinsider.com, the Goldman Sachs Capital Partners Fund, managed by Richard Friedman, one of Goldman’s smartest, decided to pass on the Facebook deal because, “it was, among other things, too expensive and not suitable for his clients.”

What Happened to Dodd-Frank

While Facebook may turn out to be a great investment for those ultra high net worth Goldman clients, it is disheartening, that so few years after the financial crisis, and even so few months after the passage of Dodd-Frank nothing seems to have changed. The old adage, “Fear is temporary, greed is forever,” has never ringed so true!

Reflecting Back on 2010

noreply@blogger.com (Randy and Jeff) — Mon, 20 Dec 2010 18:58:00 +0000

Looking back at some of the big themes that surrounded the wealth management industry in 2010, Blog on Wealth is disappointed in the lack of progress that has been made to improve the investment landscape for advisors and clients as we head into 2011.

In the aftermath of The Financial Crisis, Wall Street Bailouts, Bernie Madoff, ABACAS, and billion dollar bonuses, one of the biggest game changers of 2010 was supposed to be Dodd-Frank, and the changes—and improvements—this legislation was supposed to bring to level the playing field between advisors—brokers and RIAs—and investors. Unfortunately, due to the successful efforts of Wall Street and its lobbyists, it appears that, as Rahm Emanuel might say, "we've let another 'good crisis go to waste.'"

As we approach year-end, with the exception of some relaxation of returned-check charges and credit card fees, we see little progress that has been made to lessen the opacity that exists between Wall Street and its clients.

Mandating that the wealth management industry adopt a universal fiduciary standard would have been a godsend for investors; it would have provided transparency into the way both brokers and independent advisors were being compensated by their clients and would have eliminated a great deal of the inherent conflict that exists when brokers and advisors are paid for both investment advice and for selling products.

Adoption of a fiduciary standard would hit Wall Street hard! It would also expose those independent advisors who are registered as both RIAs and Series 7 brokers. These hybrid advisors* charge their clients for “non-conflicted advice” yet are paid handsomely to sell commission-based products and investments where they benefit regardless of how well these investments perform for their clients. Clients deserve to know what they are paying for!

While the fiduciary standard continues to get lip service by Mary Schapiro and the SEC, post-election adoption seems destined to die a slow death as Wall Street and its minion of lobbyists continues to fight against it.

After all the pain we’ve endured the fast few years the old adage stills rings true: The more things change the more they stay the same!

Blog on Wealth wishes you a Merry Christmas and a Happy, Healthy, and Prosperous New Year!

*Is your advisor a hybrid? Check out FINRA's BrokerCheck to find out.

How Much Should You Pay Your Advisor?

noreply@blogger.com (Randy and Jeff) — Tue, 23 Nov 2010 19:07:00 +0000

I know we’ve addressed the issue of advisor compensation many times over the past several years with the implication that the comp model needed to be readdressed from one based on Assets-Under-Management (AUM) alone to one based on either a-la-carte pricing, investment performance, or some combination of the two.

The AUM model, in a low interest rate environment, doesn’t work for clients and puts advisors between a rock and a hard place. Some may argue that paying between 50 and 100 basis points to their investment advisor is fair, but how does one justify such a fee when returns on high-grade bonds, U.S. Treasuries and money-market funds are even less?

I received a brokerage confirm last week that indicated that my muni bond manager had purchased a three-year, out-of-state, tax-exempt bond for my account with a yield to maturity of 81 basis points. Now, while I have no problem whatsoever with his decision to purchase this bond, once I pay him his 25 basis points and my wealth manager his 50, I’m left with six basis points of yield for the next three years. After paying custody fees, I'll bet I don't even break even!

So What's Fair?

My wealth manager tells me this muni manager has returned more than 6% this year so I should be happy. He also tells me that he believes, like me, that inflation is coming and that interest rates will be significantly higher in a few years so that I should be happy that he is not chasing yield now by extending along the yield curve. I am. Yet, while I appreciate my advisor’s actions, I question how he can justify investing my capital at an after-fee, after-tax yield of less than .06%.

If charging clients based on AUM is not the right model then what is? Some managers Blog on Wealth is familiar with charge a de minimus “account maintenance fee” of 10-15 basis points for servicing and administration, and a performance fee above some "hurdle" that is based on the wealth manager’s ability to identify and invest in superior managers, hedge funds, and other alternatives.

While this may appear a better solution, it is difficult to measure alpha, and what is the right “hurdle?” In addition, incentivizing an advisor to generate a return above some predetermined level may lead to taking risks above what his/her clients are looking for.

Fees always seem too high—just like taxes! But clearly there is some problem with the math in this low-return, “new normal” environment. How DO we pay wealth managers a fair wage without sacrificing return and/or increasing our risk?

McNabb Should Have Read our White Paper!

noreply@blogger.com (Randy and Jeff) — Thu, 18 Nov 2010 16:38:00 +0000

I couldn’t help but laugh when I heard the reports about Donovan McNabb’s seven year, $78 million contract last Monday and the ensuing discussions that erupted among pro football pundits about how much of it he would actually get.

ESPN’s Adam Schefter says $40 million is guaranteed; J.I. Halsell, a Washington Redskins salary cap analyst, in @TBDSkins, says only $3.5 is guaranteed and the deal is only worth $16, and I think Jon Gruden, on Monday Night Football, said he thought the McNabb's deal was probably worth less than $10.

Signing a $78 million contract extension just hours before getting thumped 59 – 28 by the Philadelphia Eagles reminds me of some of the deals Wall Street signed with brokers during the Dot-Com boom in the late 90s and in the Spring of 2008 just before the start of the Great Recession.

Big Headlines! Lots of hype!

The parallels between the McNabb contract and Sanctuary Wealth Services' recently published white paper, “The Illusory Recruiting Check: What’s Next For Wealth Advisors,” is startling, albeit I do think McNabb has a better idea what the ultimate value of his deal is worth versus many of the advisors who have signed nine-year deals recently at what they believe are in excess of 3X their latest trailing twelve-month gross.

For the advisor taking the check, The ONLY money he/she should bank on receiving right now is the forgivable amount of the upfront portion of the recruitment check. Nothing else is guaranteed!

Washington Redskins owner Dan Snyder is no dummy. He learned his lesson after wasting close to $100 million on Albert Haynesworth. Neither is UBS Wealth Management boss Robert McCann.

In comments made Nov. 16 at UBS’s annual investor day in London, regarding UBS’s advisor recruiting strategy, McCann said, "In 2008 and early 2009 we were recruiting very large numbers of financial advisors with very large compensation packages. It was both inefficient and extremely costly…”

Snyder wasn’t going to make the same mistake with Donovan McNabb.

Neither is McCann.

What's Happening to Recruiting Checks?

noreply@blogger.com (Randy and Jeff) — Thu, 04 Nov 2010 17:51:00 +0000

There has been a lot of talk recently about broker recruiting checks. Mary Schapiro's comments at the SIFMA annual meeting definitely caught our attention.

For years brokers have been riding the brokerage merry-go-round, changing firms about every 5 years in exchange for a lucrative signing bonus that many times could equal several years’ worth of fees and commissions.

Now, despite what we hear are record deals being dangled in front of some of Wall Street’s biggest hitters—some at more than 3x trailing 12 month revenues—movement among brokers has slowed dramatically.

Whether because of industry consolidation, tougher markets, retention bonuses signed after the market collapse of 2008, or simply out of fear that clients may not move as easily as they had in the past, Blog on Wealth has attempted to find out exactly why, in the face of what seems like a period of record signing bonuses, brokers have become so "loyal".

Sanctuary Wealth Services has just published a white paper, "The Illusory Recruitment Check: What's Next For Wealth Advisors", on the topic if you would like to learn more.

What’s Changed?

According to the white paper, a broker's ability to actually cash in on these record recruiting checks has become much more difficult than it had been in the past. When Wall Street first began writing checks to lure brokers from one firm to another, the terms were extremely broker-friendly. Recruiting bonus were paid 100% up front in the form of a forgivable loan that canceled out over five years.

Now, brokers who take checks are making a career choice. Seven- and nine-year deals are becoming the norm and only a fraction of the money is being paid up front. In order to earn the whole enchilada brokers need to grow their assets AND revenues at rates that may not be achievable in a world where high-margin, proprietary products are out of vogue and pressure on investment management fees continues.

Clients are tired of Moving

Not only that, after one or two moves, clients are catching on too! With fewer and fewer firms around, it’s tougher to convince clients the move is all about them. Changing firms is a bureaucratic hassle and, at the end of the day, all the big firms’ wrap programs are pretty much the same. NWQ is NWQ whether offered at Morgan Stanley, UBS, or Merrill Lynch.

Wall Street has gotten a lot of heat for the deals they have cut over the past several years. According to an Oct. 11, 2010, article in The Wall Street Journal, entitled “Signing Bonuses Haunt Wall Street,” most firms are finding themselves “upside down” with little chance of recovering the huge payouts they made during the last cycle. So while the promise of receiving a bigger check is out there, the probability of actually earning it is lower than ever.

Is it any wonder the broker merry-go-round has slowed?

Is the Market High Enough to Buy?

noreply@blogger.com (Randy and Jeff) — Tue, 02 Nov 2010 19:55:00 +0000

It was only nine weeks ago that the 10-year Treasury was trading at 2.55%, the DJIA was hovering around 10,000, and the American Association of Individual Investors Investor Sentiment Survey (AAII) was trading at a two-year low with a bullish reading of only 20.74% and nobody wanted anything to do with the stock market.

It was the same weekend that Barron’s, in an article entitled, “The New Nimble,” by Suzanne McGee, in their Special Report on “The Top 100 Independent Advisors,” featured a few of these top advisors who were advising clients to abandon stocks in favor of “high quality corporate credit securities, a lot of muni bonds, Treasury and agency issues and other credit instruments.

Now that the bond market has retreated about 10% and the stock market has moved above 11,000, investors, seem ready to climb aboard. As of last Friday, the AAII Survey rebounded to 51.2% bulls and individual investors were running around like Jim Cramer shouting “BUY, BUY, BUY!"

And it’s not just the little guys! The cover story in last weekend’s Barron’s, reported that 60% of all professional money managers who participated in their fall Big Money poll are bullish on the market’s prospects through next June.

Seems logical. Election Day is today. From our reading of the polls it seems inevitable that the Democrats will lose control of Congress and that Sarah Palin will be the front-runner to lead the GOP in 2012. Without the Democrats in control of Congress, the economy will recover, the Bush tax cuts won’t be allowed to expire, the deficit will disappear, the housing market will be back, and stocks will go higher. Right?

Whatever happens to the market from here, haven’t we seen this movie before? At 10,000 no one wanted any part of the stock market but at 11,200 they can’t get enough. At 108, everyone was running to buy the TLT; at 100 they’re not so sure anymore.

Rebalancing IS Tactical

Nobody can predict the market, at least with any degree of consistency. That’s why the great majority of active managers don’t beat the indices. The role of a good advisor is to keep his/her clients from chasing performance, i.e., selling at the lows and buying at the highs.

With emotions running high, NOW may be a good time to review your portfolio and consider rebalancing to your target.

Bill Gross' "New Normal"

noreply@blogger.com (Randy and Jeff) — Wed, 13 Oct 2010 12:39:00 +0000

If Bill Gross is right about the “New Normal,” the wealth management business is in big trouble!

According to Gross, manager of the world’s largest mutual fund, the $240 billion PIMCO Total Return Fund, because of deleveraging and re-regulation, the days of double-digit investment returns are gone and “the unmistakable fact is that future investment returns will be far lower than historical averages.”

Gross, in his monthly Investment Outlook, does not believe investors have “correctly visualized the lower return world of the New Normal. He asserts that “investors are faced with 2.5% yielding bonds and stocks staring straight into new normal real growth rates of 2% or less. There is no 8% there for pension funds. There are no stocks for the long run at 12% returns.”

If Gross is right that investment returns for the foreseeable future will be in the low single digits, the downward pressure on wealth and investment management fees will accelerate and margins will have to come down. If not, investors will find other places to invest their money where the fees won’t be so onerous.

It’s Already Started

With interest rates at historic lows, in order to provide some sort of return to their investors, Wall Street has been forced to waive fees on their money market funds in order keep investor money from disappearing entirely. According to an article in last weekend’s Barron’s, more than 90% of all retail money market funds waive part or all of their fees, and expense ratios have dropped more than 40% in the last year. Most firms use these funds as “loss leaders” to maintain market share.

According to the article, as of last Friday, the yield on 30-day taxable money market funds averaged .04%. It’s no wonder that investors have pulled more than $1 trillion out of these funds since the beginning of 2009!

The New Normal is affecting the hedge fund industry as well. The proliferation of low cost ‘40 Act alternative mutual funds have attracted a great deal of interest recently and have sucked a lot of money out of the traditional 2/20 hedge fund business. Ken Griffin is listening. According to Gross, Griffin has cut the fees on his $11 billion Wellington and Citadel Funds in order to maintain and attract assets, and while the industry, overall, has yet to see management fees decline among traditional long-only money managers and mutual funds, according to The Wall Street Journal there is now more than $900 billion invested in low-cost ETFs .

What about Wrap Fees?

In a low return environment, how long will it take Wall Street to reduce their wrap fees? At one percent of assets, these fees are taking a larger and larger percentage of investors’ returns. This is especially true recently as investors have increased their overall asset allocation to fixed income.

While many wealth advisors that Blog on Wealth tracks in the independent space have lowered advisory fees, the Morgan Stanley’s and Merrill Lynch’s of the world have not.

One percent didn’t seem like much during the Old Normal. It might in the New Normal!

Look Out Below—Revisited

noreply@blogger.com (Randy and Jeff) — Sat, 18 Sep 2010 01:59:00 +0000

In our last post, Blog on Wealth was critical of advisors who appeared in the Barron’s Top 100 Independent Advisors List who were recommending their clients stay clear of stocks and buy bonds in the current market environment. We felt the bond trade had gotten really crowded and that these advisors were “insane” to invest in bonds now at a time that they were trading at near-record low yields.

We believed that investors purchasing bonds on these advisors’ recommendation had no idea of the risk they were taking buying into the “safety” of US Treasuries less than two weeks ago.

At the risk of subjecting ourselves to the wrath of one of our usual anonymous critics who attacked us in our recent post for making a market call (our only previous market call was recommending gold at 866 in April 2009), we thought we would look back at our recommendation two weeks ago simply to point out the risk investors take in buying longer term Treasuries despite their apparent “safety”.

Investors who followed the recommendation in the Barron’s Special Section on The Top 100 Independent Advisors article, “The New Nimble,” to purchase the TLT two weeks ago at 108 are, as of yesterday’s close, down about 6.25%. While that may not sound like much, these investors, who purchased these securities with the expectation of receiving about 3.25% in annual interest, have given back about two year’s worth of interest in less than two weeks!

In contrast, investors who purchased the two-year Treasury, over the same period, lost virtually nothing. Granted the two-year yielded only approximately 49 basis points at the time versus 325 for the twenty year, yet for investors seeking the “safety” of Treasuries, the lesson should be clear.

The concept of duration is one that investors seemed to have forgotten in the midst of this bond bubble. According to Wikipedia, “the duration of a financial asset, specifically a bond, is a measure of the sensitivity of the asset's price to interest rate movements.” In an effort to maintain income, many investors are extending along the yield curve to maintain their same level of income.

While they may have accomplished that goal by investing in longer maturity bonds, the duration of the 20-year is more than six times that of the two-year, so for any given change in interest rates, the effect on the prices of these two securities is markedly different!

For investors looking for safety, this may not have been the trade they were expecting!

Another Knock on Hybrids!

As an aside, our hat goes off to Steve Hardy whose letter to the editor in last week’s Barron’s Mailbag criticized Barron’s for failing to distinguish between stockbrokers and independent advisors in their Top 100 Independent Advisor List. Blog on Wealth has been raising this issue for quite a while and views it as the biggest issue facing the SEC in their debate over the suitability/fiduciary standard.

According to our research, 36 of the Barron’s Top 100 Independent Advisors are registered as brokers according to FINRA’s BrokerCheck.