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Opinion: In Defense of the Asset-Based Fee Model

Yesterday, I came across a data-free screed on Registered Rep. lambasting the financial advisory community in general and the way it is compensated specifically. The piece was written by Andrew J. Haigney, Managing Director of El Cap Investment Consultants, and it was very heavy on generalities about how fees for advice equate to “a destruction of value.”

People who forcefully speak in generalities are either stupid, running for office or looking for attention. And since Haigney is clearly intelligent and makes no mention about any political aspirations, we’ll assume his motivation here is attention-seeking. In fact, the cross-publication of his piece over at The Business Insider (the financial web’s equivalent of a graffiti wall) essentially confirms this. The good news is, if attention was the goal, it’s his lucky day.

Let’s dive in here:

The author’s central premise is that investment advisors should bill their clients by the hour like attorneys as opposed to charging a fee based on the assets that are being managed. He argues—largely anecdotally—that most financial advisors are mediocre and the act of managing client money is separate from coming up with an initial allocation plan. In addition, he makes the statement that most advisors are merely playing it safe and mimicking the index anyway so why add a fee to something that can be accomplished with low-cost index funds?

I’ll agree with Andrew that there is a lot of mediocrity in financial advisory. There is also a lot of mediocrity in oral surgery and real estate law and public accounting and ice cream flavors and network television sitcoms and the judicial system and high school basketball coaching. By definition, the majority of any profession or art or athleticism or other form of categorization is “mediocre”. If everyone and everything was a standout, nothing would be a standout. So to pose this non-argument as a reason to overhaul the compensation of 176,000 people strikes me as a bit much.

Regarding billing by the hour instead of charging a fee based on assets under management: Just how many face-to-face meetings should an advisor schedule with his or her client to make the relationship worthwhile for all involved? Four meetings per quarter at $100 per? How about three meetings and three phone calls of 30 minute duration each? How about a golf outing, a lunch, one quarterly check-up and one quarterly rebalancing strategy session webinar? How many times a month should my client and I pretend there is more to go over? Should we chat daily? Truthfully, if I had an hour a week for each account I manage (and yes, I actually actively manage them), my clients might be worried that I wasn’t spending enough time paying attention to the road.

Haigney writes, “For the most part, investment advice boils down to asset allocation recommendations, and while asset allocations need to be revisited, and accounts rebalanced, it’s not a daily, weekly or even quarterly exercise.” Ummm, sorry but no. I don’t think my clients, who were proactively rebalanced out of all small caps and emerging markets stocks on August 1st this year—just before a 20 percent global market selloff—would agree with that. In certain markets it makes sense to be hands off and in certain markets that approach would be lethal—who is to be the arbiter of which is which? Not everyone does set-and-forget investment advice; in fact, I believe that the majority of financial advisors do not merely park money, especially in the wake of the credit crisis. What Haigney is referring to is a dying generation of old brokers who bought A-share funds for their clients and called them every three years to roll into a new A-share for the next concession. That’s not what the industry looks and acts like today.

And while some FAs are more tactical than others, I don’t think it’s fair to assume that, just because they are not on the phone or physically sitting in the living room with a client, they aren’t working for them. When I take 30 minutes to digest the third quarter report on global sovereign debt exposure from the International Bank of Settlements, which client am I working for during that half hour? I would say that I am working for all of them at once, should I send them my bill that day as a Microsoft Word doc or just add it to the tab? When I attend a roundtable discussion hosted by a fixed income research firm, should I only bill those clients who own bonds with me for that time? I’m sure Haigney’s hourly-billed clients are satisfied with his payment model, but for the life of me I cannot find a way that it would make even an ounce of sense for my own practice.

I know many financial advisors, hundreds and hundreds of them. They come from all parts of the country and have all different types of ideas about the right way to invest for their clients. Of all the investment advisors I’ve ever met, not a single one I can think of runs an index-hugging, market-mimicking strategy (although some of the products in their models might). Haigney is confusing clichéd criticisms here—I believe it is the mutual fund managers he ought to take to task for this, not financial advisors.

There are 13,000 Registered Investment Advisor firms in the United States—and counting. Most of these advisors, myself included, were actually “breakaway brokers” originally; there are almost zero homegrown RIAs who learned the investment management business independently and built assets from scratch. What this means is that the vast majority of fee-based financial professionals are actually born-agains, people who were so disgusted with the way brokerage firms were pushing product instead of offering advice that they risked their very livelihoods to set up shop with a better model.

With that in mind, it is difficult to find Haigney’s closing argument below to be anything other than disingenuous and ugly in spirit:

“Brokers and advisers have their snouts firmly planted in the fee trough, the name of their game is to turn their clients’ money into their money by charging the highest fee they can get away with. But the fact is that excessive, redundant and unnecessary fees are financial poison for investors and destroy long-term returns.”
With respect, I don’t appreciate being told that I have a “snout” or that it’s “planted in the fee trough.” I also don’t appreciate the over-generalization of an entire group of hard-working people for the sake of making a PR splash or publicizing a variant business model. Of course there are lazy FAs in our industry who don’t earn their keep—but to insinuate that they are in the majority is distasteful and incorrect in my opinion. The fee-based model is a complete 180-degree improvement over the industry-standard commission model of a decade ago. It aligns the financial advisor’s interest completely and totally with the client whose assets need managing.

If there is a client who feels he is paying fees to a fee-based financial advisor and is unsatisfied with either the performance, the communication or the service—or all three—that client is able to make a single phone call to the custodian brokerage firm and terminate the advisor’s fee agreement and trading authorization in under a minute. Against this backdrop, Andrew Haigney’s pay-by-the-hour remonstration is a solution in search of a problem.

Disclaimer: Joshua M Brown is a fee-only investment advisor representative at Fusion Analytics and the author of The Reformed Broker blog. The opinions expressed above are the author’s alone and do not constitute the opinions of his firm or its principles.
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