Are we all bound to be DIY investors?

Posted by on May 27, 2010 in Investment Products

It is easy to find victims of bad or unscrupulous investment advisors and write articles about how the industry is stacked against the individual investor. While the financial industry has its fair share of bad apples (and which industry does not?), what is often not reported on is the business of being an investment advisor and how this impacts on you and I.

I am not an investment advisor so I do not pretend to speak from first hand experience. I can, however, observe from analogy from the legal profession (another industry with bad press, erosion of monopolistic knowledge due to the internet and members conducting a lot of navel gazing at a business model in need of updating) and from the comments of many friends and colleague in the investment industry.

First, simple observation tells you that the smart money is moving financial intermediaries up the food chain, t0 clients with more assets under management and requiring more holistic approach to personal finance. Generally, this has resulted in leaving the retail market to lower paid and lower skilled staff located at branch level or your pure sales person cloaked as an “advisor.” As you may have observed, most bank branches now have multiple staff who can sell mutual funds. When I first started investing more than a decade ago, it was rare to have more than one staff qualified to sell mutual funds in branch.

Also observe recent mergers and acquisitions pattern of the larger financial institutions. RBC bought Philips, Hager & North, known for more upscale clients and managing institutional pension plans. Manulife purchased Berkshire -TWC Financial Group, a niche wealth management firm. There is a pattern to these acquisitions: the shrewd financial institutions (Manulife’s recent problems aside) are chasing the high end of the market and leaving the lower end of the market to be serviced, but not necessarily advised, by front-line sales staff rather than advisors.

There may be many reasons for this shift. Certainly, the concentration of wealth in generally older households means bulking up staff to chase those markets. Discount brokers have created a race to the bottom on retail pricing. But the other mostly unspoken reason is financial institutions do not make enough money servicing the middle class household and this is as much a comment on the financial institutions as it is on the general public. Statistics Canada reports only a third of all households contribute to their RRSPs with the total amount contributed constituting only 6% of total contribution room available.

Anyone who runs a business knows there are two primary ways to make money: (i) high quantity,  low profit margin, short sales cycle, poor customer service due to low margin; or (ii) low quantity, high margin, high sales cycle, good customer service. The investing market is bifurcated between retail and high net worth/institutional. You cannot apply the same product and pricing model to both markets.

Thus, if a financial institution wants to play both markets, it has to pursue two different business models. For the retail market, the natural inclination to put more sales rather than advisory staff to sell product (and pumping product is key) since you have, relatively speaking, a high quantity, low margin market (there are exceptions to the rule. There are wonderful advisors who remain in the retail space). For the high net worth market, the natural inclination is to retain highly-skilled advisors to sell advice; many high end investment advisory firms actually do not manage client money. They outsource that to professional managers and they earn their fees engaged in the planning process, hand-holding clients and providing advice.

The situation is not dis-similar in the legal industry. How many people buying or selling a house have spoken to their lawyer more than once or twice during the course of the transaction? Typically, a vendor/purchaser deals mostly with the law clerk. This is because providing real estate services for the retail market is a high quantity, low profit margin business and most clients receive service accordingly (at least in large urban regions where competition is fierce and with frequent price wars). A lawyer once remarked that he lost money if he had to speak to a client more than two times during the course of a transaction. You get what you pay for in life.

What this means for the average investor is, even if an advisor is used, one should be more self-reliant and self-educated about personal finance since, despite the rhetoric, the industry understands that the retail market is a low margin market (relatively speaking) and will deploy resources and staff accordingly.

Is this situation unfair? Of course it is not. Ideally, everyone should be accorded the same level of service and advice regardless of assets under management. But you can’t regulate fairness (despite the government’s best attempts). For us non high net worth households, perhaps the solution is to look at investment advisors more as partners than a top-down advisory relationship. Use them as sober second thoughts on investment ideas. Demand they review your investment ideas. Ask for research. In other words, be active in your own personal financial lives.

9 Comments on Are we all bound to be DIY investors?

By Financial Uproar on May 27, 2010 at 1:34 pm

I think everybody should be a DIY investor. The fact is that anybody can do it, buying index funds is hardly a skill anyone can’t master.

But the fact remains that people are intimidated by money. They get scared that they can’t handle investing it. So they hand it over to the guy at the bank. He must know what he’s doing, he does this for a living.

I’d like to see (at a minimum) legislation enacted that force advisors to show their clients (in dollar terms, not percentages) just how much it’s going to cost them to just pay the advisor’s sales fee and ongoing trailer fees. Disclosure in that area is a joke and desperately needs to be improved.

By This and That: Emotional investors, forecasting folly and more… | Canadian Capitalist on May 27, 2010 at 8:20 pm

[...] Thicken My Wallet notes that investors who are not high net-worth clients have no choice but to become DIY investors. [...]

By This and That: Emotional investors, forecasting folly and more… | MoneySense on May 28, 2010 at 8:02 am

[...] Thicken My Wallet notes that investors who are not high net-worth clients have no choice but to become DIY investors. [...]

By JJ on May 28, 2010 at 8:08 am

I work as an advisor and I have been in the business for 22 years. I have a fairly small client base, but my clients tend to work with me in many areas. For anyone who ever saw the movie Jerry Maguire, apply the same thinking to investments/insurance. We always hear about the benefits of working in the HNW (High Net Worth) market. I cannot imagine doing so – there are so many people in the small to medium market that are so underserviced. You mention fairness – I treat all my clients fairly, but I don’t necessarily treat them equally. One last thought – over the past 10 years, 6 clients decided they no longer wanted to work with me for one reason or another. On the other hand, I FIRED over 100 clients over the same period for detrimental behaviour (to their own finances)or complete apathy when it came to their future. Your point of being active in your own personal financial life really hits home. As I am wont to say, the moment I care more about your future then you do is the day you need to find another advisor. Unfortunately it happens way too often.

By Dale Rathgeber on May 28, 2010 at 11:38 am

Great post!

By Jimmee on May 28, 2010 at 12:49 pm

Yes, something changed in the last three or so decades.

It used to be our retirement funds were managed by professional managers of pension funds that was part of an employer’s’ responsibility.

Somewhere along the way, more and more companies figured it was too costly a deal so they got out of the pension business dumping fiscal management onto the laps of the general public who, for the most part, are uneducated in money management.

So, I agree with an earlier post about indexing.
Simple, cheap and effective.

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By Patrick on May 28, 2010 at 8:44 pm

I would humbly submit that choice posed in the article (price and volume relations) is false. The maintained assumption in both the financial services and legal analogy is that business as usual must continue unchanged. This assumption is mostly due to preconceived notions about the role of professionals and their required income.

I think that both legal and financial professionals need to build a value proposition with their CLIENTS. *Which* portion of work can clients do for themselves and then rely on professionals for higher value services? Charging a client $100 (15 minutes of billable time) for copying a document is easy money but very short sighted. Similarly, requiring a minimum of $15,000 in annual fees (1.5% on a million minimum) for financial advice is ludicrous.

A model that takes a client perspective (e.g. results) would absolutely dominate a future marketplace. Contingency litigation comes to mind (no fee unless we win your case). On the financial side, we need to kill ideas like the hedge fund at “2 and 20″ with the option to dissolve the fund if assets are way underwater. A client value proposition like: “We don’t get paid unless the fund return exceeds the S&P 500″ shows true professionalism and skill.

In short, “Where are the Customer’s Yachts?”

By Scams, DIY, Mortgage Demons and more… | Plan B Economics on May 29, 2010 at 10:25 pm

[...] Are We All Bound to be DIY Investors? [...]

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