Millenials are missing out on free money – and data suggests current advisor compensation models are partially to blame.
A recent survey from TD Bank found that 36% of millennials don’t know if their employers offer a matching RRSP contribution – and where a company does offer a matching contribution of some kind, 58% of millennials aren’t taking advantage of this ‘free’ money. By contrast, only 23% of Gen Xers and 19% of those older than 51 are missing out.
Unfortunately, the two major compensation models – fee-based and embedded commission – reduce an advisor’s desire to help remedy that situation, putting millennials behind the eight ball before they’ve even started to earn serious income.
“Financial advisors generally sell products and are paid when clients invest with them,” says Jason Heath, managing director at Objective Financial Partners. “If their clients invest money in their group plans instead of with them, they don’t get paid. This creates a disincentive from determining if group plans are being underutilized and an incentive for investment advisors to outright ignore group plans.”
The retainer-fee model – by which an advisor is paid per project, hourly, quarterly or even yearly – removes this disincentive.
“Financial planning is ‘free toaster’ of the industry,” Bob Veres, publisher of Inside Information, told a packed house at the National Association of Personal Financial Advisors conference in San Diego in 2015.
“Within the next five years, I think you’ll see advisors migrating to something else.”
That something else could be the retainer fee model, which means advisors charging a percentage of assets under management are increasingly becoming dinosaurs in a wealth management industry that’s commoditizing asset management in favour of nuts-and bolts financial planning. In other words, the value proposition of the future has little to do with stocks or ETFs or mutual funds.
“We will do the planning and the implementation, but what we’ve done is we’ve carved out the two fees,” says Paul Tyers, managing director of Wealth Stewards. “Our financial planning engagement is just that.
It’s got an upfront fee because that’s where a lot of the work is done, but after a bit of a holiday, it’s got a recurring monthly fee.
“We believe that any fee that somebody sees, they’re in a better position to assess whether they’re continually getting value [for those fees],” he continues. “It’s a bit of a defensive move. We believe that investment management fees are headed south at a pretty quick rate. So, to bundle them together hides the value, while separating them provides some protection where we can say, ‘The most work is on the planning side.’”
In a sense, Tyers is already operating on a retainer-fee model with a secondary asset management fee – which ultimately could disappear if the retainer model were to take hold in Canada.
“In a perfect world, I think there’s a model for an investment firm that charges a flat dollar amount to manage investments rather than a percentage amount,” Heath says. “It always struck me that it doesn’t take that much more work to manage $100,000 versus a million versus a $10 million account.
The industry isn’t keen to give up the upside on a larger account. I think there’s a good business opportunity for an investment firm that can do it all for a flat fee, regardless of the account size.”
Of course, this is an area where robo advisors are already making headway. Their algorithms won’t discriminate between dollar amounts, suggesting the retainer-fee model is the only way to go under the commoditization of investment management.
“The financial planning industry is growing significantly because clients are looking for financial planning, sometimes more so than they are for investment management, whether they have a financial advisor or are do-it-yourself,” Heath says.
“You’re starting to see more firms offering financial planning services in response to client interest. If [dealers/brokers] are providing financial planning and other value-adds to the client, it at least takes a little bit of the magnifying glass off the ups and downs of the markets.”
Under these circumstances, the retainer fee model appears inevitable.