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Trends in Wealth Management, IMPACT® 2016

Submitted by jib.butterworth on April 25, 2018

With Alois Pirker, Research Director, Aite Group

October 2016

Video Transcript

ALOIS PIRKER: Thank you very much for inviting me to speak here today, much appreciated. At Aite Group, we do market research. We work a lot with executives in the industry with most of the leading firms on their strategy, how they go to market, how the models are changing, what the trends, how they're impacting their business models and so forth. One element that we do an extensive amount of is advisor surveying. And I hope some of you maybe have filled in our surveys, which we always do extensively because it doesn't replace hearing from the advisor. The relevant trends is really what we base it on. And you're going to see some of the data points in our deck here. It's very important for us to have that direct conversation. Therefore, I appreciate it a great deal to be here today.

I've been in research now for over a decade, based in Boston. Aite Group is based there, with people all over the US and Europe as well. My career started at UBS. I did the full advisor training there, as well, so I'm actually what they call the private banking diploma. And it's really getting that background of saying how does an advisor look at the client base and what does make the advisor tick is very important, I think, for us. And, therefore, I think, again I'm very much looking forward to this session.

I'd like to jump in. We have sampled a number of trends, some of them looking from what's the shift in the market, some of them looking at the technology side of things, some of them looking at compliance side. Obviously, the market is changing rapidly as we speak. There's no stone left unturned, and again, I've been doing research ever since over 10 years, focused on the wealth management space. The pace of change has picked up dramatically and, obviously, you probably all feel that in your practices, as well.

I'd like to start out with the way we look at the market, and this is as we define the brokerage and advisory market. It's a market of about 19.2 trillion, made up and segmented by five different distinct segments, and there's a reason why we do that. But, obviously, there's many ways of slicing this market and many ways of looking at it. Clearly, again, 330,000 FAs are responsible for 19 trillion. The lion's share of those assets, 6.4 as we sized are made up by the four wirehouses, represented by 54,000 advisors, and growing again, on the right here, we have the growth figures, as well, for annually.

Let's just runs through the five segments so that you get a better picture of what it is. The two bars on each segment is the asset bar is the dark one on top. The gray one underneath is the financial advisor number. The top segment are the wirehouses, the four firms—UBS, Merrill Lynch, Morgan Stanley, and Wells Fargo. The regionals are the self-clearing retail brokerages, as we call them to keep them anonymous, but it's Raymond James, it's RBC, it's the big second-tier firms that typically are not considered wirehouses, despite that some of those firms are as big as the wirehouse firms at this point. Fully disclosed, we find as this segment of firms that typically outsources the clearing to Pershing, to national financial firms of that nature, so there's a lot of banks, insurance and independent BDs in that segment. Then you have the independent RIA segment, again, advisory model, custodian firms like Schwab. And then discounted online brokerage, being the fourth segment with some call center-based advisors, mostly, and some in branches, as well, so 14,000.

When we look at the growth numbers to the right, I drew a circle around the independent RIA numbers. We've done this sizing now since 2007. Pretty much we took the first measurement before the financial crisis hit, and then we followed that development of the segment through annually, published a report around May timeframe. What we have observed is that the independent RIA segment is growing three times the speed of the wirehouse segment every single year. You know, so we've seen in 2014, it's a 15% growth versus 5.7. In last year, 2015, was a 4-1/2% growth compared to a negative 1.8. So that three-to-one ratio has been holding for almost a decade now. So there's a couple of reasons we believe play into this. One of it, and this is macro, obviously, one of it is the trend to fiduciary and the trend to fee-based business. Clearly, we have seen that also when we look within the wirehouse firms, obviously, their share of fee business has increased. They're standing at 40% now, Merrill does, and I believe Morgan Stanley is similar, around the same number. But, clearly, there's a large chunk of commission business that these firms represent still. And, again, when we talk about DOL a little bit later, there's a lot of questions around that slice. The RIA business, obviously, represents fiduciary standards 100%. It's always represented that standard and is operating that way. So again, while it's questionable if a client really sees that nuance of saying fiduciary versus suitability instead of parent to a client, might or might not be, but that trend of the industry shifting towards a fee-based model, shifting to a fiduciary model, is very obvious.

The second big element there is obviously breakaway movement. And the breakaway movement we have seen with the financial crisis, as big firms and their brands were hit quite hard, for a number of years we've seen a huge amount of breakaways, and we've seen that continue since then. And I think that somewhat disconnected with their shift to fiduciary, but we're going to explore a little in a bit what makes a RIA model so special.

So, with that, here's what I mentioned. We survey advisors. Here's a slice of independent RIAs, where we asked them, 'So what do you value most being an independent RIA? What are the elements that drove the decision, also knowing that you are an RIA, what is it, what are the elements that you value most of being an RIA?' And, number one, no surprise, independence is a key element, right? Independence of an advisor with a client work in the best possible way for that client. Not being told what to do with a client, not having compensation drive your behavior, but looking at your client and saying, 'I know what the giant wants and what is the best for that client.' And trying to side with the client. I think that is by far, when you look at 33% that say it's extremely important and another 30% say it's very important. So it's telling. But then we look down that list, number two is having control of operations, and number three is maximizing the economic value of having a practice, right? It's telling that independence is first. One would say, 'Well, being an RIA, well, I own my business.' Very important, obviously to be in control of your business. You're building your business. 'I'm in control of that business. I can run it the best way I possibly can. Nobody tells me how I should run it.' And I think that obviously creates enterprise value. That enterprise value is very important. We have seen much M&A going on in the industry, we've seen retiring advisors figuring out what is the value of my practice, what is the enterprise value lead to practice represents. So that's an important element, right? But tellingly, number one is independence. So one would think, 'Well, you know, the enterprise value, maximizing that is really the key element of being an independent RIA. Actually, I think advisors have the client in mind first, and I think RIAs, in particular.

There's other elements there obviously, as well, compliance. I think there's one theme that goes through this list that, you know, optimizing efficiency, driving operations the way you want, driving compliance the way you want. I do think that every advisor practice is different. And that is what independent RIAs are so skilled about doing is to set up a platform, a business, that helps your particular business best. And we see, particularly at big firms, a one-size-fits-all approach. We see, you know, there's obviously, when we look at the very big firms, there's 14,000 advisors, there's 16,000 advisors. There's a lot of variance between what the business models are, what the needs are, but everybody is forced into one model, or is supported by one model. And I think that is somewhat when we do surveying in the independent RIA space, one of the fascinating things is you see trends unfolding. RIAs are extremely agile. They take up opportunities they see existing very tactically versus being given things. And waiting to be given things, from the firm, right?

So when we survey the RIA base we can see the trends unfolding first, because RIAs are moving swiftly, and have the opportunity, not all of them do. There's a lot of small mom-and-pop shops, obviously, as well, there's no question about it. Yet when you look at the upper 25% of the RIAs, you see the whole market trends unfolding right there.

DOL is obviously top of mind for everybody right now, and I mentioned it before already. And I'm going to go into great lengths of detail here. We could spend half a day on this. But we've seen a number of big announcements coming out over the last two weeks. One Merrill was saying that they're going to ditch the brokerage RIA offering. Commonwealth Financial came out yesterday saying the same thing. So we're seeing a theme developing, right? It is, 'Okay, we got this brokerage IRA business built, and in the case of Merrill it's probably…I think it's 150 billion or something like that neighborhood. It's not the biggest of the asset slice that Merrill manages, but I think when we look at their strategy of saying, 'Hey, fee business is the way this proposition has to go, and if it doesn't it needs to go into a robo type of offering, or, again, possibly leave the firm.' It's really…you see again that element of being told, right? So then you get somebody come up as a strategist saying, 'All right, here's what you get to do, repaper your clients, move them into the new proposition.' Right?

So, of course, creating a lot of resentment across the advisor base. And we see that, obviously, that fear of change, right? We see the wirehouses moving gradually away from that traditional wirehouse model towards a fiduciary model slowly, right? We see them…DOL is forcing them a bit down the road. Certain advisors, obviously, are living and breathing it already, because they built their business that way, but a chunk of the firm is not. Culturally, they're held back to making gradual steps into that direction. And DOL is one of those steps. We don't know what the SEC is going to come up with. There's a modified fiduciary standard possibly across the industry.

But certainly that change is going to continue, right? We monitor the fee business slice at wirehouses and how that has increased. Fee business at wirehouse has grown in double the amount compared to the general client asset gross. So when client asset has grown 10%, fee business has grown 20%. And, really, that shift is happening, and the firms know that the RIA model is where the train is heading. But the transition is something that they're burdened by the legacy, they're burdened by assets on platforms that they just can't let go like this. And so it really that transition is something we see in the DOL here coming through, as well. In this particular question we ask advisors on the upper bars independent RIAs, the lower bar is broker-dealers across multiple, it's not just wirehouse FAs. What is the impact going to be for them? RIAs say 44% it's going to be a positive impact. So of course they have lived and breathed the RIA model, the fiduciary model, forever. They feel, 'Well, that goes in the right direction, that's good.' The reasons they give us for it is, one, siding with the client, having the same interests in mind. And, number two, is that building up trust with their client. It helps you get into that trusted advisor position. And, again, I think RIAs see that the rule might not be perfect, right? Obviously, there's the fact that the DOL comes up with that versus the SEC is telling, but the direction is a particular one and RIAs are quite comfortable with it.

On the broker-dealer side, we see about a third struggle with that, feeling there's negative impact on their business. And, again, we did this survey in April of this year, literally when the rule came out, so there was heavy discussion in the papers already about what does it possibly mean. We're going to do it shortly again, just because as plans get unfolded, and we know the brokerage IRA business being left behind, at some firms, at least, we're going to see that impact possibly change, possibly the negative impact increasing. You know, but, again, it's an interesting one. RIAs are quite comfortable with the direction the industry is taken.

The second quite relevant topic, sadly so is how compensation drives behavior. And in this particular question we asked are advisors getting compensated more for selling proprietary products? And, surprisingly, or not surprisingly, but half of them say absolutely that's the case, right? And it's particularly big practices report that. Obviously, we have seen the Wells Fargo disaster going down just recently, and this not necessarily was linked to proprietary product, it was more linked to cross-selling, but clearly, it's linked to compensation. And we don't quite know is the [...unintelligible...] wirehouse unit really, how impacted are they, how much were they involved in that kind of cross-selling issues? And I think the investigation's still going on there. But it is, again, the reputation of risk. It is, again, where, say, it's a firm that has a one-brand strategy that you have in any part of your business you have a problem like this happening, you're going to impact your brand, you're going to impact your business, because that's the name you have on your front door. And so, clearly, again, this is, yet again, one of those legacy things where they bubble up and firms have a hard time struggling…have a hard time dealing with that and changing the model wholesale in one go. They know it's probably not the right thing, but it's just so ingrained in their business model. The grid thinking is a very big portion of their wirehouse system.

And the other thing, which I don't have the data in the deck here, but the other interesting element is that when we ask advisors if they really fully understand the grid they're on, wirehouse advisors, they often say no. You know, it's changing annually, it's usually complex, it's a massive body of rules with bonuses, and if you reach this you get this, and that's a problem, right? That is I think the complexity of not being able to understand it, and also not being able to tell your clients how we get compensated is an issue in today's world. And particularly when we see the regulations moving the way they do, I think it's going to become a bigger issue in the future.

Digitalization and the changing business model is the next topic I would like to talk about a bit. We have a model, typically and this is not just RIA-specific, it's a general wealth management view. When we look at how wealth management firms are operating or how they're servicing their clients, there's a technology side of the equation and there's an advisor side of the equation. And, clearly, wealth management is an advisor business, there's no question about it. Yet being an advisor has become more difficult in recent years, and having to do more for your client, having a low-interest-rate environment, having the markets' volatility, as we have had in the last decade, it hasn't made the job easier, to be an advisor and to be profitable as an advisor, and again, more work is involved to serve clients than it was 10 years ago. So we have seen the full-service models, the two dark blue bubbles, move up in the search for more revenue per client, looking at the bigger clients and probably segmenting the client base.

At the lower end we have traditionally there's the national branch type of models, call center models, some online servicing, but it was not necessarily the focus. I think wealth management firms have always seen the advisor as the deliverer of the service to the client, and that position has brought the industry to a difficult situation. As clients are demanding more self-service, the wealth management firms have had a hard time with their transition.

The second bit that I think is a tricky element with the current level of innovation that we see going on in the digital side, particularly, is that the current innovation comes from the consumer. The consumer is miles ahead of the firm, of the big firms. Traditionally, when we think about how the managed account space was developed, it typically came from the asset management firms, wasn't taken up by wirehouse firms, made retail, retail meaning retail clients being served, and then brought down to other segments, as well. But that was typically the innovation part. Big firms, big budgets, innovating, handing it again to the next level down, next level down, and at some point it reaches the consumer with self-service tools.

Today's innovation is reversed, right? Today's innovation comes straight from the consumer. Every consumer is better equipped than some professional working for a wirehouse firm or any other firm. And the other thing is the rapid change of innovation is making it hard for big firms to keep up, right? So it's really that innovation's changing extremely fast. The phone models are changing. The operating systems models are changing. Clients experience that first-hand because innovation is first targeted at the clients, and they know what state of the art is because they're living it, right? Financial services has always had the problem that taking up the innovation and implementing it takes them too long. So for many of the big firms to adopt digital advice, none of them is live yet with anything. So really for them to change the model is like the ocean liner changing course, right? It is something that it takes them a lot of time.

When we look at what's happening, and digital advice is a classic, many of the niche models were B2C, were direct to-consumer, the first firms that really started off in digital advice from a traditional wealth management firm perspective were the RIAs, right? Because those startups that have looked at B2C, the first course, when they went to B2B, to enterprise, they went to the RIA space. And when we study, for example, the digital wealth trends, we look at the RIA space, because there the offering is a broad one, and the business models that are being created are quite diverse. Of course, there's not a one-size-fits-all model, again, and the options are great, there's many different platforms out there.

I should actually finish building the slide. I think what we see in the RIA space is really that future of wealth management unfolding, being built gradually. Advisors are feeling their way into it and are partnering with certain platforms, maybe are changing tech, but they are experimenting, 'What is that right model for me and my clients?' And I think that is what you don't see at big firms. The big firms say, 'Well, we're aiming for that perfect solution but it's not there.' Meanwhile, the RIAs are getting experience, changing things around as they see fit, but are moving into that quite decisively.

To finish that slide here, I think there's two levels of digitalization that we need to be aware of. One is obviously, will be traditionally you think about when you talk about robo, we think, 'Oh, it's mass retail, mass affluent clients that get targeted with it.' So, again, we obviously see a lot of activity there. The second bit is the digitalization need doesn't stop at the mass affluent segmentation line, right? High-net-worth clients want to have self-service as much as the smaller clients, one; and they do not understand it, they don't get it if the smaller client gets that service, right? So that problem is something that firms have to come to terms with. And I think the key thing is when you have a multi-channel service model is to keep that advisor service channel with the self-service channel in-sync, and that integration is a key element.

When we look at the RIA space we see elements on all of those levels right now. We see a Rick Edelman having experiments with Edelman online. We see Savant having launched e-Savant, we see Liftoff being a startup from an RIA. They position differently. There's not a single business model we say like, 'This is the model that is bulletproof, the future model.' I think it depends on who you are as an advisor, what your book looks like, right? And that agility of being able to look at your book and saying that 'I'm here. I want to get there. What best supports me in that process?' is something that the advisors can take that decision, and I think that is what makes that model so strong.

This also comes through when we look at this chart here. And it's a bit busy. I apologize for that. But what we looked at is how important is it for advisors to have a say on the technology, business applications that you use, right? And we see that difference on the right, the three bars, independent RIAs, wirehouse and regionals. We see that independent RIAs are thriving with that, right? They're feeling, 'This is very important. I can finally say this is my planning tool, this is my digital advice tool,' and build a practice around it, right? So that having a say in it is a key element of independence, of operating a firm and being in charge of operating a firm.

Coming back to the digital advice side, because, obviously, there's a lot of concern, as well, on the advisor base, saying, 'Well, you know, the robo thing is probably cannibalizing my business or I'm not sure how that whole thing is panning out.' So when we look at the advisor that are most interested in adopting digital advice, or have made the decision already, it's the fast-growing advisors. It is the advisors that say, 'Look, having a practice is like driving a bus—it's 100 seats on there, digital allows me to expand that bus, and, finally, possibly have somebody, a client or a prospect I'm looking at, not fitting quite the minimum amounts that I'm looking for that are required to do business with that client, I have a place for that client to put, and possibly see that client grow into that target zone eventually.'

So again, we see fast-growing advisors wanting to leverage every opportunity they get to be more efficient, to drive the business in the right direction. And I think, again, it's always a big question, does now that attitude give bigger growth? Or does the big growth drive the tech savviness, right? It's always difficult to say. One thing is clear, it's correlated, they move in the same direction. The more a practice grows, the more they're savvy, and the more they want to leverage what's out there. And that's I think is that struggle that we see at the large firms, where innovation and rolling out new platforms has just been extremely slow, right? And then the fast-growing advisors say, 'I need this. This will help me to grow, but I just can't move on it,' because the firms keep a tight control on their platforms.

Linking back to that first initial slide I showed with the segmentation that how we look at the market with the five segments, here's the wirehouse at the bottom and this kind of on top, as I mentioned, we've been tracking this market and the change in the market since 2007. You can see when you look at the wirehouse segment that decrease there. And I forgot to mention that initially in the first slide. Since 2007 this is a market share view, obviously, right? It's not asset view. The assets in the wirehouse space since 2007 have grown 12% since 2007. 12%, that's it, right? So there's obviously been a lot of rejiggling of the business model, pruning, smaller advisors, the big firms have been quite active in getting that model in the most profitable way they possibly can. So 12% growth in the wirehouse side.

RIAs have doubled their size since 2007, 119% growth. So a massive amount of growth differential. And, again, when we look at this trend since 2007, and we project it forward to 2020, or end of 2019, we're going to see that continue, right? The wirehouse have been at 41% in 2007, they're going to be our projection says 30% at the end of 2019, so having shared 10% of the market share, almost 11% of the market share. So it's a big chunk that is shifting here. And again, the one variable that is not factored in here, if the SEC is really coming out as modified fiduciary standard, I think that could accelerate, right? We possibly could see a lot more action, and a lot more pruning, and a lot more shifting of assets going on because of the regulations. So this is just projecting forward what we have seen since 2007, and looking out a couple of years ahead.

Some concluding thoughts and this is just, again, hitting some of the things I mentioned. Again, independent RIAs have grown their market share two-fold, so it's double the market share since 2007. Again, no end in sight. Why is this the case? Well, number one, breakaway movement. Number two, obviously, that model, that fiduciary fee-based model, is something that is where the direction of the market is heading, right? And RIAs feel they are there already.

RIAs are appreciating the independence they have, and that independence is one side shown through doing the right thing for the client, but then also running the business the way you want, being quite agile in taking decisions about technology, about products, about looking at the client base and tailoring that proposition to what best serves your client. DOL is a classic. Again, this is where the market is heading overall. That's not the last regulation we see coming our way. And, again, RIAs feel quite comfortable that they are in the right spot there. And independent RIAs value, again, that technology choice that they have, and we see there's a number of case studies in the RIA space of where we possibly get a glimpse of the future advisor model that is being developed. Obviously, it's not a mass movement yet. It is here and there that there's this as [...unintelligible...] said of the fast-moving ones that are pushing ahead and really innovating, but we see that innovation happening versus status quo. And that I think is refreshing, and for us as researcher is fantastic to watch the RIA space. Again, the last line I think sums it up. I think the trend, if we look there, is probably going to continue. And, again, independent RIAs feel they're in a good spot, and I think the asset shift's a testament to that. Thank you.

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