DOL Fiduciary: Fin Services Fights Customer-First

Just in time for National Retirement Planning Week, the Department of Labor released its final rule about the fiduciary standard for professionals who service retirement savers. The rule change is likely to accelerate the current disruption to the industry, as fintech companies may become the beneficiaries of a mature industry’s reluctance to embrace a customer-focused approach to doing business. Let’s take a step back: “Fiduciary” is a fancy way of saying that a financial professional must put your needs first and must pledge to disclose and manage any conflicts of interest that exist. For example, if an investment consultant, broker or insurance salesman recommends that you roll over your old retirement account into a new one, where you will pay higher costs than your old plan, she must document why it is in your best interest to do so and must tell you if she receives any compensation for the proposed investments within the new portfolio. Prior to the pending rule, many investment professionals were held to a lesser standard, called “suitability,” which means what they sold you had to be appropriate, though not necessarily in your best interest.

Maybe you’re thinking, “Who would argue that putting my interests first is a bad thing?” Well, over the past year, big financial firms have fought back against the DOL fiduciary standard, arguing that the new rules would make it prohibitively expensive to service smaller accounts. In fact, they spent millions of dollars lobbying lawmakers on this very point and were partially successful – the new rule went easier on the industry than the original iteration.

The final version allows big firms to continue to sell proprietary products, as well as variable and fixed rate annuities, as long as they let investors know what commissions they're charging. Of course that means that the customer is responsible for parsing through the disclosure documents and understanding that the broker may or may not have hosed him with the recommendation. Score one for the industry.

Another concession was that the government pushed back the effective date. But instead of being effective by year-end, some provisions are effective as of April 2017, and the rest will be set in stone as of Jan. 1, 2018. Ostensibly, that gives firms the time to prepare new documents, but it also gives the industry time to challenge the whole thing in court or to lobby a new political party to trash the whole thing.

Why has the industry push back so much on a concept that would put customers first? Because there is a ton of money at stake: according to the Investment Company Institute, as of the end of 2015, IRAs totaled $7.3 trillion and defined contribution plan assets, which are ripe for future rollovers, totaled $6.7 trillion. Under the old rules, the industry made a fortune from these accounts. Joshua Brown of Ritholtz Wealth Management notes, the industry has had “a long and profitable tradition of selling high-cost products of dubious quality to the investing public.”

Still, those companies that take the position that working in their clients’ best interest is not good business, may chose to push out smaller retirement account owners, but that’s good news for investors—if they don’t want to put you first, why work with them? Given the great strides in financial services technology, you may be better off with a financial service disrupter (aka “robo-advisor”) like Betterment, Wealthfront or Rebalance-IRA (all have embraced the fiduciary standard), than a conflicted salesman who is pushing a more expensive retirement product than you need.

One last note: when the industry whines about fiduciary, what they are really saying is that the new rules will hurt their profitability. As Vanguard founder Jack Bogle told the Financial Times, “if the wealth management industry loses $2.4 billion, investors are $2.4 billion better off. This is not complicated.”

MARKETS:

• DJIA: 17,577 down 1.2% on week, up 0.9% YTD
• S&P 500: 2047 down 1.2% on week, up 0.2% YTD
• NASDAQ: 4850 down 1.3% on week, down 3.1% YTD
• Russell 2000: 1097, down 1.8% on week, down 3.4% YTD
• 10-Year Treasury yield: 1.72% (from 1.88% a week ago)
• May Crude: $39.72, up 8% on week
• June Gold: $1,243.80, up 1.7% on week
• AAA Nat'l avg. for gallon of reg. gas: $2.04 (from $2.06 wk ago, $2.40 a year ago)

THE WEEK AHEAD: First quarter earnings season begins and according to Fact Set, the estimated year over year earnings decline for the S&P 500 is -9.1%. If so, it would mark the first time that there would have been four consecutive quarters of earnings declines since Q4 2008 through Q3 2009.

Mon 4/11:

Alcoa, Bids due for Yahoo’s core Internet and Asian businesses

Tues 4/12:

6:00 NFIB Small Bus Optimism

8:30 Import/Export Prices

Weds 4/13:

8:30 PPI

8:30 Retail Sales

10:00 Business Inventories

2:00 Fed Beige Book

Thursday 4/14:

Bank of America, BlackRock, Delta Air Lines, PNC Financial Services Group, Wells Fargo

8:30 CPI

Friday 4/15:

Citigroup, Charles Schwab

8:30 Empire State Manufacturing Index

10:00 ISM Manufacturing Index

9:15 Industrial Production

10:00 Consumer Sentiment

Should You Use a Robo Advisor?

“Robo advisors are going to kill the brokerage business,” carped a financial consultant from one of the big wire houses. That’s an overstatement, but financial professionals and brokers who have mostly been selling investments and not providing financial advice may find that software and algorithms could eventually make them obsolete. The advent of new technology has put some of these old school pros on their heels, as investors – especially younger ones – find the process of answering risk tolerance questions on line and utilizing computer generated asset allocation plans preferable to face-to-face meetings with various salespeople, who are hocking the product du jour.

Over the past twenty years or so, traditional brokers and advisors have slowly but surely jacked up fees for smaller accounts. It’s not hard to understand why they would do so. Many branch managers tell their staff something along the lines of “it takes the same amount of time and energy to work with a $200,000 client as a $1,000,000 one, so stop spinning your wheels with the small fries!”

The way that large firms stomach working with smaller clients is to either hike their fees (two percent or more for assets under $250,000) or to keep selling high cost, commission-based mutual funds or insurance products. Unfortunately, for those who were not do it yourselfers, there weren’t many other alternatives, that is, until the advent of the robo advisor.

The process is easy: log on to one of the robo advisor platforms like Wealthfront or Betterment, and you will be asked to complete an online questionnaire, which takes into account some of your general financial goals and objectives and your risk tolerance. Based on your responses, the robo advisor’s proprietary algorithm will slot you into the most appropriate portfolio. The firms usually use exchange-traded funds, provide rebalancing, reinvest dividends, and in some cases, can harvest tax losses.

Mutual fund and discount brokerage firms like Vanguard, Fidelity, Charles Schwab, TD Ameritrade and E*Trade have similar variations on the theme. The fees range from 0.25 to 0.75 percent of assets plus fund expenses and most services require an investment minimum.

In some cases, these firms will also provide financial advice, but a bit of caution: it is tough to create a computer model that understands who you are and can listen carefully to address your financial needs. If you have significant assets, a complicated financial life or need some extra hand holding, you may want to eschew the robo advisor route and pay up for a human being, who can provide you with customized, one-on-one advice.

As I have advocated in this space, if you do choose to work with a financial planner, please be sure that he or she is bound by the fiduciary standard. A fiduciary duty means that a financial professional must put your needs first. (CFP® professionals and Certified Public Accountant Personal Financial Specialists (PFS) are both held to the fiduciary duty.) Those who aren’t fiduciaries are held to a lesser standard, called “suitability,” which means that anything they sell you has to be appropriate for you, though not necessarily in your best interest. The SEC has noted, “most [investors] are unaware of the different legal standards that apply to their advice and recommendations…and expect that the recommendations they receive will be in their best interests.”

Here are three resources to find fiduciary advisors:

• FPA Planner Search
• NAPFA Fee Only Advisors
• CFP Board Find a CFP Professional

As robo advisors mature, the choice may not be black and white. In fact, some financial planning and investment management firms are using the new technological platforms to reintroduce their services to smaller clients. This hybrid solution may provide the best of both worlds for those investors who want to keep fees down, but also need financial advice from time to time.

Advice for Small Investors

I have been fielding a number of questions lately that go something like this: “I have just retired/I am just starting out and need help with managing my money, but it doesn’t seem like most brokers or advisors want to work with smaller clients. What should I do?” This is a vexing issue, because many people with modest nest eggs do not have the time, energy, desire or acumen to manage their investments. Unfortunately, traditional brokers and advisors have essentially priced these folks out of the market by jacking up the fees for smaller portfolios (assets under $250,000) to 2 percent or by charging fat commissions for expensive mutual funds or insurance products.

The good news is that increased competition, combined with new technology has created options for smaller investors who are seeking guidance. The basic model is that a company will create a simple financial plan and will also provide portfolio allocation recommendations for a flat fee based on the amount of money you have invested. Mutual fund and discount brokerage firms Vanguard, Fidelity Charles Schwab, TD Ameritrade and E*Trade have different variations on the theme, with fees ranging from 0.50% to 1.00% and each institution requires an investment minimum.

In addition to these options, a great development for smaller investors is the advent of web-based alternatives, which guide you through a risk assessment process, recommend a portfolio and then either provide you with a nudge to rebalance (for do it yourselfers) or an automatic rebalancing tool that the company will employ on your behalf.

Wealthfront targets those who are comfortable conducting business on line, without the help of a human being (unless it’s a tech support question). Wealthfront does not charge an advisory fee on the first $10,000 of assets under management, though dies require a minimum of $5,000. On amounts over $10,000, there is a monthly advisory fee based on an annual fee rate of 0.25 percent. Investors also must pay for the cost of Exchange-Traded Funds (ETFs), which averages 0.17 percent.

Another online service, Betterment, offers a sliding scale fee structure. There is no required minimum, but users must commit to investing at least  $100 monthly. For those with less than $10,000, the cost is 0.35 percent; for $10,000 - $100,000, the fee is 0.25 percent; and the fee drops to 0.15 percent for accounts with more than $100,000 and you can get advice too. Betterment does not charge for trades or transactions.

MarketRiders charges users either a monthly subscription fee of $14.95 or a yearly fee of $149.95 to use their service, in addition to the fees associated with buying and owning ETFs and index funds and a separate charge for rebalancing. MarketRiders emails a monthly statement and rebalancing alerts whenever an alert is triggered.

The MarketRiders founders launched an additional site called Rebalance IRA, which as the name implies, is focused on those with retirement assets. But the new site adds a bit more hand holding to the MarketRiders concept, because users work with a Rebalance advisor. In exchange for the personal guidance, the fees are higher: 0.50 percent per year based upon total assets under management per account, with a minimum fee of $500 per year per account.

Rebalance IRA recommends that you have at least $75,000 in your account within the next year to get started. There is also a one-time set-up charge of $250 for each account, the ETF fund fees and trading costs, which average between $50 and $70 each time they rebalance your account. One more caveat: you must hold assets at either Charles Schwab or Fidelity.

If you are old school and prefer meeting with a human being who can provide you with customized one-on-one advice, it’s going to cost you – probably about $300 an hour, with some sort of minimum. The best bet is to find a professional who has earned the CFP® certification or is a CPA Personal Financial Specialist. You can ask for referrals from friends or colleagues or use the search tools offered by the Financial Planning Association  and the National Association of Personal Financial Advisors (NAPFA).

For the small investor who seeks investment advice, there are options out there, but they require a bit of front-end work. Still, the alternative is going it alone, which for many, is not worth it.