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Your Broker/Dealer May Be Headed for Divorce

When LPL Financial, a self-clearing independent broker/dealer, rolled Pacific Life's broker/dealers onto its self-clearing platform in 2009, many advisors protested. But for Jennifer Tanck, president of Independent Financial Partners, an LPL OSJ of 400 advisors, the changeover actually made life easier. On Sept. 9, 2009, Tanck oversaw the transition of 80 FAs' books encompassing 40,000 accounts from

When LPL Financial, a self-clearing independent broker/dealer, rolled Pacific Life's broker/dealers onto its self-clearing platform in 2009, many advisors protested. But for Jennifer Tanck, president of Independent Financial Partners, an LPL OSJ of 400 advisors, the changeover actually made life easier.

On Sept. 9, 2009, Tanck oversaw the transition of 80 FAs' books encompassing 40,000 accounts from Pershing's platform to LPL's internal clearing platform. The switch burned up four fax machines, but it was worth it, she says. Under LPL's clearing platform, Tanck likes the direct contact with the clearing side; its global trading platform, which Pershing did not have at the time; more competitive pricing; and more complete access to account data for supervision. For example, when Tanck had an issue with an advisor who was selling a leveraged Chinese stock that was dropping and seeing client complaints, she was able to pull up his data seamlessly and quickly because it was right at her fingertips. The advisor was eventually fired as a result.

“I said, ‘I want to see all of this guy's trades in this particular stock or this security over this time period,’ and I was able to pull it up in a matter of minutes,” she says. “Whereas, if I was trying to get that data from Pershing, I'd probably have to put in a report request and a week, two weeks later, I might get it back, maybe.”

As independent broker/dealers continue to consolidate and the search for profitability accelerates, some firms may be considering going self-clearing, analysts and industry executives say. For cash-strapped b/ds, it can significantly cut costs and diversify revenue. But to make it work, you've got to build scale first. It helps that many IBD firms are in acquisition mode and a wave of consolidation is expected in the next few years.

The thing is, it's not something that most firms want to talk about. Some IBDs, including LPL, Ameriprise Financial, Raymond James Financial Services, and Wells Fargo Advisors Financial Network, have already taken clearing in house, and it's worked well for them. But firms that are planning on it are unlikely to make it public because that could jeopardize their relationship with their current clearing firm, which is often the b/d's most important business partner, says Philip Palaveev, president of Fusion Advisor Network. “So talking to the media and telling the media that you're interested in self-clearing is like talking to your friends and telling them you're interested in a new wife before you actually divorce the previous one,” he says. “Even if divorce is on your mind, you're not going to blast it out to the world until you do it, right?”

Could your broker/dealer be looking to divorce his wife?

A Game of Scale

While none of the larger firms expressed plans to do so, industry analysts and consultants say the top 10 IBDs by revenues that don't already self-clear are in a position to make that move (see chart below).

Because self-clearing requires considerable resources, investment and staff, firms really need scale to make the endeavor advantageous. As Palaveev put it: “Broker/dealers resemble chain restaurants. They buy a lot of the food already prepared — prepped and frozen. They just kind of reheat it, warm it up and serve it; self-clearing firms cook from scratch.”

So which firms have that scale now? Chip Roame, managing partner with Tiburon Strategic Advisors, speculates that the AIG Advisor Group b/ds and the Ladenburg Thalmann firms could move in that direction eventually. Scott Collins, founder and CEO of recruiting firm FirstPoint Partners and a former LPL recruiter, says Cetera is about the same size as LPL when it made the transition to self-clearing. One of Cetera's b/ds, PrimeVest, went self-clearing in 1990, which helps. Scott Miller, president and co-founder of FirstPoint, says firms with at least $700 million in revenue are well-positioned to make the move. Amy Webber, president of Cambridge Investment Research, says firms will start thinking about it when they reach around $400 million to $500 million in revenues, and it becomes even more compelling when they hit about $1 billion. That $400 million mark would also put Commonwealth Financial Network, Cambridge, Lincoln Financial Network, MetLife, and AXA Advisors in the position to consider self-clearing.


On the plus side, self-clearing cuts out the fees paid to a third party clearing firm and creates profitability from trading (revenues per transaction), mutual fund supermarket platforms and asset custody, which opens up the firm to the rapidly growing independent RIA market, Palaveev says. Miller says a typical IBD has margins of 5-6 percent, but it's possible to jack that up to 10-12 percent with self-clearing.

“Today's broker/dealer is less of a broker/dealer and more of an RIA,” Palaveev says, with 10 to 50 percent of b/ds' revenues coming from the fee-based side. The larger b/ds are losing more clients to RIA custodians like Schwab than to other b/ds, he adds. If you can provide custody services, then the Schwabs of the world are less of a threat. Take Ron Carson, long No. 1 on Registered Rep.'s Top 100 IBD advisor list, who has started his own RIA. Although Carson went out on his own, he still custodies the majority of his assets with LPL's RIA platform.

Kunal Vaed, principal with Booz & Co., says once a firm has built out its clearing capabilities, which typically takes about two to three years, it should start accruing annual cost savings at a steady pace, unless there is a significant reduction in transaction volume. But the larger the firm, the higher the cost savings will be. Financial services firm Knight Capital Group, for example, a medium to large-sized player with about 30 percent market share of U.S. retail equity market making, said it expected savings of $20 million annually when it went self-clearing in January 2010.

Greater Control

One thing self-clearing b/ds tout as a benefit of their model is greater control over technology, systems, pricing, and service. Because the b/d controls the data and the operations of the clearing side, this allows it to create a customized workstation for its advisors, Palaveev says. “You control the data from A to Z.”

For example, Ameriprise is in the process of replacing its entire front-end system, which was designed from the ground up with its advisors in mind, says John Iachello, head of clearing operations. The firm is able to add new products or more esoteric products quickly, because it's not beholden to an outside firm's management oversight. “You need to be able to react quickly to your advisors' and your clients' needs, and you can't do that if you don't have control over the technology and the operational staff,” Iachello says.

Bill Dwyer, managing director and president of national sales and marketing at LPL, says the firm has been able to better control pricing under the self-clearing model. For example, in 2008, the firm lowered transaction charges for mutual funds, saving its reps $10 million, and this year, ticket charges for equities and ETFs were slashed from $15 to $9 a trade, saving them $6.5 million.

When LPL went self-clearing in 2000, the firm was able to see operational efficiencies and service improvements right away, but it took about seven years for that to work its way down to pricing. As its clearing business began to gain momentum, LPL was able to improve its retention rate and recruiting, building greater scale so that the firm could reinvest in the business and eventually reduce transaction charges, says Dwyer.

‘A Mammoth Undertaking’

If there are so many benefits, why haven't other large firms made the leap? It's a significant undertaking that requires investments in staff, infrastructure, technology, and regulatory requirements. “It's a mammoth undertaking,” says Thom Tremaine, head of the operations group at Raymond James.

Ameriprise has a clearing operational group of 400 people, for example. That said, as the firm's volumes increased by 25 percent last year, it only needed to boost staff by 5 percent. “So there's this tremendous payback of economies of scale at a certain point, once you've created that baseline of staffing,” Iachello says.

Richard Lampen, CEO of Ladenburg Thalmann, believes self-clearing firms cannot compete with the Pershings and National Financial Services of the world because of the technology spend required to keep pace with these firms. In 2011, Pershing spent $340 million on technology, while NFS spent $280 million, Lampen says. “There's a technology arms race going on out there.

“We believe clients benefit from having their assets held in firms like the major clearing firms with very high levels of net capital and which are part of major financial organizations,” Lampen says. “Our advisors also benefit from not having to shift and re-paper their customer accounts to convert to a self-clearing platform.”

Commonwealth Financial Network considers the self-clearing option every so often, but the firm hasn't yet been willing to give up the Fidelity brand name, with which clients and advisors are comfortable, says Rich Hunter, managing principal and chief financial officer. Commonwealth has $45 billion on Fidelity's clearing platform now, so the firm is able to negotiate better pricing with that scale. Just last year, ticket charges were reduced to $7.95.

Change is Hard

How do advisors feel about all this? “The biggest drawback is change,” says Webber. “Change is not the first thing that an advisor wants to put its clients through.”

Reactions from advisors were mixed. “I just can't imagine trying to compete in that arena, when another firm has already worked out all the bumps in the road,” says Darla Main of Main Advisory in McMurray, Pa., an advisor with Multi-Financial. Main believes it would create an administrative nightmare if her b/d went self-clearing, especially if she had to transfer all her accounts over. In August 2011, Cetera, parent to Multi-Financial, brought its IRA custody assets in-house from Pershing. The process was relatively seamless, but Main says she did get a lot of client calls questioning the change.

“That was just a fraction of your total client base, and that still required a lot of input and a lot of phone calls on our side because clients kept calling saying, ‘Is this something we should be doing?,’” Main says.

Scott Thomas of Scott Private Wealth Group, also with Multi-Financial, says he would expect the change to be fairly positive; cutting out the middle man might bring him cost savings, and perhaps it could improve client confidentiality and privacy, since client information would be going to fewer sources. “I hope I don't eat my words,” he says.

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