Last week on one of my many treks to New York City, I was in mid-flight and glanced up at the video screen showing one of those time killing “Scene It” movie trivia games. It was the one where the screen starts out extremely blurry and it slowly comes closer into focus over about 30 seconds. The objective is to guess the image before it becomes clear. It’s been more than 30 seconds…actually 2 years, but I kind of feel the same with how things are playing out in the financial services business. Our worlds were rocked in the late summer of ’08 and the future looked like the Scene-It screen; one big blur. But piece by piece, things are starting to take shape and become more clear. The passage and signing into law of FinReg is the biggest clue yet in figuring out what the landscape of retail financial service distribution models will look like. The business has certainly been evolving over the years with a slow drift towards the independent models and a separation occurring between financial product manufacturers and distribution platforms. But this jolting event of the great recession seems to have quickened the changes already in motion while triggering some new influences that will define our futures. These are the 5 major drivers of change that are re-shaping the business as I see them:
Shift in consumer behavior: The savings rate hit an all-time low of about 0% just before the seminal events of ’08. As the consumer continues to de-leverage and savings rates get back to 50 year averages of 6%-8%, while not so good for the economy with less spending, it’s very good for the financial services business as money formerly spent on “stuff” is redirected to financial products and services. Additionally, there is more value today on professional financial advice with a willingness to pay a fee for it. I see greater demand for fee for service financial planning into the future. Not just fees for managing investment assets, but actual financial planning and modeling.
Paying for big government: If you’re like me, you think the less government involvement, the better. But that’s not the world we live in today. With the deficit numbers at staggering levels and an inability to grow ourselves out of it as Clinton was the beneficiary of in the late 90’s, tax increases and the closing of tax preferred items and loopholes will drive the business. This means the recent targets of off-shore accounts, private equity, hedge funds and executive compensation are just the beginning. To the extent that tax driven financial products can retain their current treatment (which is not a given), reasonably priced life insurance and annuity products will be all the more attractive.
Boomers entering the last phase of life: Just as boomers drove spending and mutual fund growth through the 80’s and 90’s, they have entered the phase of life where they need to turn their assets into income and work on transferring them to the next generation. Boomers over age 50 own 70% of America’s financial assets and represent over 50% of all discretionary spending…that’s huge! This segment of the population all entering the same stage of life at the same time looking for advice on retirement and estate planning points to the most unique period of time for the business. And with the peak year for boomer retirement being projected at 2023, we’ve got a good run over the coming decade.
Capitulation on distribution models: While it’s been evolving over the past 15 years, the era where the large manufacturer of proprietary products maintains their own “tied” sales force is in the twilight of their existence. If the economic blow the recession caused on revenues didn’t do it, then the coming financial regulations will. ING came to the realization early by selling 3 of their B/D’s to Lightyear Capital. Expect more proprietary models to separate. When will we stop calling them “major wirehouses”….when they get down to 1? (we‘re down to 4 today). The only thing keeping these models afloat was the ability to subsidize the costs through the sale of proprietary products. With that going away under FinReg, perhaps the only ones left will be a smattering of mutual life models whose ownership have no idea or even care about profitability. And it’s not just the proprietary models that will have to change. There are 4,700 B/D’s of which 95% have less than 100 producers, 11,000 SEC regulated Investment Advisory firms where 70% are one man shops and 4,000 BGA’s out there. Like the proprietary models, most of these are struggling to survive the loss of revenue from the economy, but when the new reg’s are forced on them, it’s a story of scale up or go home.
FinReg-The most material change in regulations in over 70 years: This is the biggie of all the drivers of change. You had SEC Advisors rooting for one thing and FINRA regulated B/D’s rooting for another. They both won and lost. Advisors won by holding anyone who gives “personalized investment advice”, which is basically anyone who makes recommendations, to a Fiduciary Standard of care...Yay for the advisors! But, who is going to supervise them, a new self-funded SRO? CFP Board? NAPFA?...uh-oh…looks like the only logical one is FINRA…Yay for the B/D’s! This is the rub on the proprietary sales model. At the very least, full disclosure of compensation and any differential benefit in recommending a proprietary product will make an already tough sale all the more difficult. And advisors who have claimed the moral high ground of being principle based will finally have to prove it…to FINRA. The “hybrid model” will no longer be hybrid, but simply the only model. No more “two hats” and down to one big one. Expect this new model to pop up in the independent space as it all plays out over the next year.
One could argue that they’re forcing the little guy out of business, particularly with the change in 12(b)-1 fees. Perhaps so. But I do think this will force some of the riff-raff out of the business. Yes, they can join their non-registered brethren and just sell 10% commission indexed annuities…until the next “60 Minutes” story breaks. I think this all lends towards the beginnings of a new era in the financial advisory/planning business. After the wait and see we’ve all been through the past couple years, it’s encouraging to watch things finally take shape and come into focus, even if we don't like all of what we see. We are entering a time where the demand for what we do has never been greater. And the supply to meet this demand is contracting and being re-shaped…a classic supply-demand story that works in our favor. For those stuck in the past, the screen probably still looks blurry. But for those who have the ability to reinvent themselves and their practice, things have never appeared more clear than they are today.