Viewpoints

The Wealth Management Quest

Gary Rathburn's financial adivsory business is growing like weeds on steroids. His secret? A little thing called wealth management

Gary Rathbun's Toledo, Ohio-based financial-advisory business is growing like weeds on steroids. His firm's assets under management have shot up 600 percent over the past three years to $500 million at last count, and he has notched net income growth of 60 percent to 70 percent a year over that same period. His secret? A little thing called wealth management.

Sure, you've heard of wealth management by now. In fact, you probably call yourself a wealth manager. Data collected for Registered Rep.'s annual compensation report show that 77 percent of financial advisors do. But are you really a wealth manager? Do you even know what the phrase really means? It pays to know, because, as Registered Rep.'s annual compensation report shows, only 8 percent of advisors — across all business channels — actually fit the bill. Yet, the income gap between wealth managers and the rest of the industry is widening rapidly. The average wealth manager produced $1.36 million in 2005, a 39 percent jump versus the prior year, while investment generalists — the vast majority of advisors — produced less than half of that, or $670,000, up 31 percent versus 2004.

Wealth management is essentially financial advocacy for one's clients, says Rathbun, and that means you're not selling them products, but solving their financial problems. And therein lies the key: True wealth managers get 60 percent or less of their income from investment-related products, according to the definition used for our compensation survey. Fees on consulting services provide the rest.

“Most people and firms equate wealth management with the ability to provide a wider array of products,” says industry consultant Russ Alan Prince, who conducted the survey for Registered Rep. But it's really a business model that entails offering a broad array of financial planning and investment-management services, using a consultative approach and a network of specialists, he says. Those services include cash-flow management, income-tax planning, investment management, estate tax or transfer planning, retirement planning, risk management, balance-sheet management, trust services and philanthropy. “The wealth-management model feeds on itself — you get wealthier clients because you're providing the services they want,” says Prince.

There couldn't be a better time to work with the wealthy: Their numbers are growing, the economy is strong and equity markets are humming. The number of American households with a net worth of $1 million or more, excluding their principal residence, grew to a record 8.9 million last year, according to TNS Financial Services, a British market research firm. And there are over one million individuals with $10 million or more in net worth — the ideal wealth-management client — in the U.S. (including foreign nationals), says Prince. These individuals control $91 trillion in assets. “They control more wealth than the rest of the global population together. So where do you want to be?” continues Prince.

Rounding Up the Experts

Rathbun's firm, Private Wealth Consultants, which he runs with his two partners, employs 12 staff members catering to 220 clients. The firm does everything from paying bills and sorting mail to taking care of credit cards, even organizing personal security. While that may sound a bit like a family office, he says the key difference is that he has a client minimum of just $1 million, whereas most family offices have a minimum of $25 million to $50 million. (His average client has $6 million to $7 million.) The firm charges 1 percent on assets under management, and, depending on the complexity of a client's consulting needs, it also charges a monthly retainer of $5,000 to $10,000, or an hourly fee.

How does he make it work? Rathbun and his partners do all of their clients' investment management in house, but they turn to outside experts for their clients' other needs. In fact, he says he probably spends about 30 percent of his time helping clients solve problems that he can't solve himself — by referring them to specialists in what he calls his “network.”

For most wealth managers, using outside experts is essential, because it can get very expensive to have top talent on your payroll. For example, although Rathbun started out in the business as an insurance agent and still has an insurance license, he has a “super specialist insurance guy” in his network. He also has individuals or firms that specialize in personal security and real estate financing, as well as several individuals who specialize in asset protection and one guy who is a “genius” at offshore protection. In all, he has “very intimate relationships” with 14 different specialist individuals or firms in the network and 50 other individuals he can use as backup. The specialists usually charge his clients a separate fee of which he takes no cut.

It wasn't easy developing the network. That's because Rathbun does a lot of due diligence on these individuals. “It's very hard to get people with the same level of service and integrity that will provide for the client as I do,” he says. Despite the hard work it takes to develop and maintain, the network of specialists is crucial for another reason: It's the source of all of his client referrals. “The point is affluent people don't refer their wealth managers to other affluent people,” explains Rathbun. Some 70 percent get their wealth manager via referral from attorney or CPA, according to Prince & Assoc. research. The more specialists he has, the more problems he can solve and the more willing these guys are to refer their wealthiest clients.

But selecting clients can take just as much care as selecting the specialists you work with, says David Feruchi, a partner with Feruchi Company in Essex, Conn. You don't want to waste your time on someone who isn't going to be a lifelong client. “We had an introductory meeting with two members of a family on Tuesday, and they were joined by their accountant,” says Feruchi. “We were essentially kicking each other's tires to see if there is a basis for moving forward, a way for us to add value to them in their financial lives. Sometimes that introductory phase is one meeting, other times it's a series of phone calls, meetings, lunch, breakfast. It's a sort of a courtship.”

Catching On

Many of the large Wall Street firms are providing wealth management to clients successfully through their private client divisions, but they're also pushing it on the retail side — less successfully. Independent broker/dealers are also trying to turn their advisors into wealth managers so they can have a crack at the wealthiest clients.

“The idea that all these firms are converting to the wealth-management model is hype,” says Prince, an industry consultant. “It's all advertising campaigns. They may have changed their business cards and stationary, but they're doing the same things. They're mostly investment manager advisors,” he says. “Everybody runs around saying look at our platform — look at what we can do — but advisors don't know how to use the products. They have specialists to help, but most of the specialists aren't that special.”

These big firms face a number of challenges. For one thing, because it's impossible for a single individual to be an expert in all areas of wealth management, it requires a team approach. But the grid compensation system used by most institutions favors personal production, discouraging advisors from getting terribly excited about joining teams, says Philip Palaveev, a senior consultant with Moss Adams. “And compensation systems provide a very strong motivation for behavior,” he adds. “Also, while advisors have been encouraged to team up, the institutions haven't provided good models of what these teams should look like. What should the roles and responsibilities of team members be? How should they structure client relationships and compensation models? In some cases, some institutions have tried to force-marry the advisors — sometimes these stick, but in a lot of cases they don't.”

In addition, many of the firms are still arranged in product silos. Advisors may have access to experts in different wealth-management disciplines, but these experts may be in a different city or a different office, with a separate boss and separate budget and sales goals to meet — an arrangement that is not conducive to sharing or networking, Palaveev says. In the private client groups at large wirehouse firms, by contrast, all of the specialists are inside the same group, on the same team, in the same profit center.

Furthermore, wealth management is time-intensive and requires some investment. “There is a lot of discovery [of client's financial needs], a lot of front-end work. It's very service-intensive and there's a lot higher cost,” says Dennis Gallant, of Gallant Distribution Consulting. “That's offset when it's done properly by the pursuit of wealthier clients, a larger share of their wealth and client retention. But it has to be done properly.”

Making the switch from a traditional financial-advisory business is no simple feat. “You really have to switch gears,” says John Waldron, a wealth manager at LPL. “The way you do things, the way you sell your services, your firm. It's hard for me even to accept a new insurance product my friend tells me about. Even though I understand its application and where it fits into the planning process, it's really hard to bring that in. People are afraid to change even though they think it may be better. Especially for big producers who think like employees, they're not going to think the model is broken if they're making $1 million to $3 million a year.”

Not to mention the fact that so many advisors seem not to know what wealth management is. “Advisors are still trying to figure out what is an advisor versus what is a broker,” says Palaveev. “Nevermind trying to figure out what is a wealth manager, an investment consultant, a financial planner, etc. The terminology confusion is massive.”

Small Steps Forward

That said, firms are beginning to make some progress — offering specialized wealth-management training, providing compensation incentives for creating teams and increasing the number of wealth-management specialists available to advisors both in the home office and remotely in the field.

Smith Barney, for example, has created a designation called the “qualified private wealth-management specialist.” These individuals, who have to pass an intensive internal exam, are the only ones who are allowed to take on referrals from the investment banking side of the business. Only 65 individuals have taken and passed the exam so far, according to one high-level Smith Barney advisor, and only one of them passed it on the first try. In the near term, the firm wants all of its advisors to join teams and have a private qualified private wealth-management specialist on their team. Smith Barney has also been providing a series of wealth-management training conferences to its advisors, and there are salaried estate-planning and insurance experts in each Smith Barney branch.

In addition, the firm recently changed its compensation system to encourage the formation of teams. Today, if you're on a team that has been approved by the firm, and contingent on certain production levels, you can get a payout that is equal to the payout of the highest paid person on your team.

“That resulted in $25,000 in extra pay for my team members,” says the Smith Barney advisor, who has not yet taken the wealth-management test but aspires to. “We recycle that money back into the business,” he says. There are 10 advisors on his team, but he also networks with four partners in the firm who specialize in corporate health-plan services, endowments, high-level 401(k)s and Taft-Hartley. “In order to properly serve the wealth-management client, you have to break yourself out of an individual operation to the swat team approach,” he says.

A.G. Edwards has also created new compensation options to encourage the formation of teams: allowing Chairman's Council-level producers, or those with $700,000 in production or more, to introduce a salaried advisor to the team. “We're not hiring grunts,” says Chuck VanGronigen, senior vice president and assistant director of branches for the firm. “We're hiring people who are credentialed, trained, ready to represent A.G. Edwards to clients. They may have a portion of their book that they deal with exclusively, or they may be experts in a certain product area. It could be any of those things.”

To make sure its advisors know how to use the wealth-management products and platform it offers, Linsco Private Ledger has overhauled its advisor training and has 20 salaried wealth-management specialists on staff. “This year, we modified our training. In the first quarter we went to 23 cities and trained 1,000 advisors on a face-to-face basis, focusing on helping them understand the resources available to them to help them more efficiently process business in the local market,” says Bill Morrissey, senior vice president of advisor consulting services at LPL. “We've assembled a tremendous platform to serve advisor clients. The next challenge was helping advisors get their arms around the platform.”

Some firms are outsourcing their wealth-management training to others. This year, Securities America began offering the top 15 percent of its advisors a $7,000 discount (or 36 percent) on a wealth-management training program put together by CEG Worldwide, says Paul Lofties, the director of wealth management at the firm. The program filled up quickly, and the firm already has 25 people on the waiting list for the next round. Each of the advisors participating has an individual coach who they speak with on a monthly basis in between intensive quarterly group training sessions. The b/d is also in the process of forming a virtual network of outsourced partners who are experts in things like business succession planning, mergers and acquisitions, and it's developing a directory of the core competencies that different advisors at the firm have so they can network with each other.

Jeff Carbone, a Securities America advisor who is going through the wealth-management training program, says he was very uncomfortable with it at first. “Why uncomfortable? Because I've been doing business for 14 years in a way I was comfortable with. Because I thought it was about quantity not quality,” he says. What does he like? “It just helps us to think bigger.” Indeed, he's only been in the program for two months, and he just won his first $50 million client.

SO YOU SAY YOU'RE A WEALTH MANAGER

The majority of advisors call themselves wealth managers, no matter what their business type.
Firm type or Business Model Percent that describe themselves as wealth managers:
Wirehouses 75.2%
Regionals 74.3
Independents 80.8
Wealth managers 81.2
Investment generalists 83.5
Product specialists 44.2
Total in sample 77.2
Source: Prince & Assoc., February 2006, 1,281 advisor surveyed.

BIGGER IS BETTER

Wirehouse FAs are still outproducing advisors at smaller firms.
Firm Type Average Production Average Assets Under Management Average Fee-Based Assets Average Number of Clients
Wirehouses $670,000 $91 million $41 million 340
Regionals $480,000 $62 million $26 million 310
Independents $420,000 $49 million $21 million 330
Source: Prince & Assoc., February 2006, 1,281 advisor surveyed.

WHERE'S THE MONEY?

Business is booming for wealth managers.
Business Model Average Production Production Increase From Prior Year Average Assets Under Management Average Fee-Based Assets Average Number of Clients
Wealth managers $1,360,000 39% $301 million $184 million 70
Product specialists $510,000 4% $83 million $6 million 380
Investment generalists $670,000 31% $16 million $31 million 220
Source: Prince & Assoc., February 2006, 1,281 advisor surveyed.

THE LOW DOWN

Key stats on full-service brokerages and independents.
Firm Number of Reps Client Assets (billions) 2004-2005 Increase in Client Assets Assets per Rep (millions) Managed Account Marketshare*
Merrill Lynch 15,160 $1,473 10% $97.2 19.4%
Smith Barney 13,414 $1,130 16% $84.2 19.1%
UBS Financial Services 7,374 $699 18% $94.8 8.4%
Wachovia 10,486 $684 49% $65.2 7.5%
Morgan Stanley 9,526 $617 3% $64.8 9.5%
Edward Jones 9,733 $405 13% $41.6 <1%
A.G. Edwards 6,824 $343 8% $50.3 2.2%
LPL 6,481 $105 5% $16.2 2.6%
Raymond James 4,415 $134 28% $30.4 2.5%
Commonwealth 1,070 $32 40% $29.9 N/A
Figures are for fiscal year-end 2005
Source: Companies and company reports;
*Source: Cerulli Associates

The term managed accounts includes the following programs: separate accounts, mutual fund advisory, rep as portfolio manager, fee-based brokerage and unified managed accounts.

GRID GAMES

The big brokerage firms haven't made any major changes to their compensation grids lately, but they are tweaking them around the edges.

The last big compensation grid overhaul in the brokerage business was Wachovia's move to vastly simplify its grid last year, by flattening payout rates to two tiers, say recruiters and analysts. But a number of minor changes are in the works at all of the firms. For one thing, deferred compensation is going up and pay for lower-end producers is going down; firms are trying to offset the cost of escalating recruiting bonuses and to ensure longevity of higher-end producers in a competitive recruiting environment. “The more intensive the recruiting battle becomes, the more intensive deferred comp becomes,” says Phillip Palaveev, senior analyst at Moss Adams. “Firms are just dissatisfied with the well-known trend of top advisors jumping around. And they're dissatisfied with what they get for what they pay. But they can't seem to get out of the recruiting game.”

Firms are also pressuring advisors to work with larger clients by lowering or eliminating payouts for smaller ticket trades or by providing bonuses for larger accounts. Merrill Lynch, for example, offers a cash bonus for households with $250,000 and up, says recruiter Danny Sarch, of Leitner Sarch Consultants in White Plains, N.Y.

The drive to switch away from transaction-based commission business and towards ongoing fee-based business continues: Most large firms are still rewarding the latter with higher payouts. And enthusiasm for open architecture is spreading, with firms eliminating rewards for proprietary product sales. “Even the Merrills of the world are becoming more open architecture,” Palaveev says. “It can be very unsubtle — as in higher payouts — or much more subtle — as in subsidized tickets to clients or advisors, or added support or access.” Differential payouts for different types of products are also being eliminated, recruiters say.

Another trend — lower payouts on institutional business. At most firms, the latter are now in the range of 20 to 28 basis points, says recruiter Rick Peterson of Rick Peterson & Associates in Houston, Texas. That's because institutional business is just not as profitable as retail business. “It's a straight trade. Institutions don't give brokers custody of their assets,” Peterson explains.

A HELPING HAND

Desired technical support for advisors, based on differing business models. Wealth managers need the most support, product specialists the least.

What kind of support do you want most?
Percentage or reps answering “yes” to various needs.
Wealth Manager Investment Generalist Product Specialist
Advanced product training 87.1% 76.9% 18.6%
Investment management proposals 28.7 40.7 12.1
Concentrated positions/restricted stock positions 63.4 72.5 4.5
Estate planning 75.2 68.0 2.5
Retirement distribution planning 43.6 63.9 3.5
Charitable giving/philanthropic planning 70.3 69.5 2.5
Retirement planning 45.5 38.8 4.0
Deferred compensation 59.4 33.3 0.5
Asset protection planning 79.2 61.6 3.0
Tax planning 45.5 6.8 7.0
Source: Prince & Assoc., February 2006, 1,281 advisor surveyed.

WHAT KEEPS YOU UP AT NIGHT?

Biggest concerns for advisors by differing business models. Generalists worry the most; wealth managers worry the least.

What are you most concerned about?
Wealth Manager Investment Generalist Product Specialist
Competition for clients 87.1 96.5 92.0
Obtaining firm resources 80.2 85.7 54.8
Market direction 22.8 84.8 73.4
Increased fee pressure 15.8 75.5 47.2
Delivering advisory services 82.2 69.7 6.5
Losing important clients 19.8 71.6 48.2
Clients suing because of “bad” advice 8.9 47.8 26.6
Managing growth of the practice 73.3 50.2 10.6
Source: Prince & Assoc., February 2006, 1,281 advisor surveyed.
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