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My coaching clients tell me they are losing wealthy clients to robo-advisors. They want advice on how to better articulate their value proposition.
Betterment just announced a new algorithmic service that minimizes taxes. The service, which it calls a “tax-coordinated portfolio,” automatically and continuously determines which assets should be placed in taxable, tax-deferred and tax-exempt accounts to maximize tax efficiency. It monitors these accounts and adjusts for withdrawals and other transactions.
This adds to the capabilities of some robo-advisors to automatically rebalance portfolios and engage in tax-loss harvesting.
No one believes the range of services offered by robo-advisors has peaked. We will see automation of many aspects of financial planning (maybe even including estate planning) and insurance evaluation and selection. Sooner or later, a robo-advisor will offer a portfolio consistent with the Fama-French five-factor model.
Where does that leave full-service advisors – especially so-called evidence-based advisors?
Waiting in the wings
How much of a threat robo-advisors pose to full-service advisors is up for debate.
I interviewed Uday Singh, a partner in the financial institutions practice of A.T. Kearney, a leading global management consulting firm with offices in more than 40 countries. Here’s a summary of his views:
- Investors will expect to have the same simple, elegant interface now available from robo-advisors. This will require a meaningful investment in technology to meet these expectations. Much of this cost will be borne by the large-platform providers, like Charles Schwab, Fidelity and T.D. Ameritrade.
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My evidence-based persuasion strategies have significantly increased conversion rates for my coaching clients.
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- Mass-affluent investors who use advisors lack knowledge about the fees they are paying. Almost 60% of investors surveyed didn’t know how much they pay their advisors. Singh believes the “intergenerational” advertisements now running extensively will cause investors to focus more on fees.
- About 72% of investors surveyed who knew how they were charged for advice (60% of all investors) indicated a willingness to switch investment advisors for a lower fee. This willingness was not limited to younger or lower net-worth investors. About 61% of these investors with $1 million or more in assets were willing to make the switch.
- Singh believes there will be increased fee pressure on traditional advisors due to lower fees and transparency of robo-advisors, resulting in lower profits.
- He predicts many traditional firms focused on the middle and lower markets will exit that business and there will be more mergers as firms seek to achieve economies of scale.
Michael Kitces observed that growth rates for robo-advisors have fallen significantly. He believes the real impact of the robo-advisor movement will not be in the shift from traditional advisors to robo-advisors, but it will be a “catalyst for the industry to reinvest into the future of financial advisor technology.”
Here are some recent experiences – and the concerns they’ve raised – that I’ve had with different levels of investors.
Lower net-worth investors
I receive many inquiries from readers of my books looking for investment advice.
The majority of these inquiries come from Millennials and others who have assets under $250,000. Typically, they want to know what I think of advice they’ve received from brokers. In almost all cases, the broker wants them to invest in high-commission products like annuities, in a stock-picking strategy or in actively managed mutual funds.
After some reflection, I provide basic principles (since I am not permitted to give advice tailored to specific investors). I tell them to (i) opt for simplicity over complexity and (ii) focus on keeping fees and expenses as low as possible.
If they ask for funds they should consider, I tell them to look at Vanguard’s LifeStrategy Funds. These funds are available in four different asset allocations at various risk levels. They are globally diversified, require no rebalancing and have an average expense ratio of only 0.16%. I also suggest they look at Vanguard’s Target Retirement funds.
If they aren’t comfortable doing it themselves and don’t need human interaction, I refer them to a low-fee robo-advisor (like Betterment or Wealthfront) that invests using index funds or ETFs. If they want a human advisor and basic financial planning, I refer them to the many hybrid robo-advisor offerings, including those from Charles Schwab and Vanguard.
Advice to higher net-worth investors
I also receive inquiries from investors with assets of $1 million or more. A recent inquiry from an investor with $10 million in assets is typical. He and his wife are both 55 years of age, and they are concerned about retirement planning.
They needed investment advice and the full range of financial planning, including advice about their existing retirement plans, tax planning, insurance and estate planning. They had been quoted an advisory fee of 0.50% from a highly respected full-service advisory firm. They asked me what I thought.
Here’s what I told them.
The advisory fee totaled $50,000. It would vary in the future based on the value of their portfolio (which can be materially affected by the amount of their withdrawals) but, for discussion purposes, I assumed it remained level. I used the life expectancy calculator provided by the Social Security Administration to compute the life expectancy of the wife, since women typically live longer than men. Her life expectancy was 30.1 years.
I then used a compound-interest calculator. I assumed they would invest $50,000 a year, instead of paying that sum for advisory fees, for 30 years, with a return of 5% a year. At the end of 30 years, their investment would be worth $3,704,136. I suggested they discount this number by whatever percentage they thought appropriate.
I noted that an advisor might be able to provide a higher return that would more than offset these fees. I discussed the compelling evidence that funds managed by Dimensional Fund Advisors (available only through authorized advisors) have historically outperformed Vanguard funds.
I cautioned them not to ignore the other benefits of using a full-service advisor. These include (among others) holistic financial planning, coordination with other financial team members, tax efficiency and insurance planning.
They told me they wanted to think about it. Several weeks later, they called and told me their decision. They said the advisory firm didn’t actually prepare taxes, provide tax advice or prepare estate-planning documents. The firm “coordinated” with vendors who provide those services, whom they still had to pay. They didn’t find the coordination very valuable.
They concluded that they would be better off retaining a respected accounting firm to handle their taxes and tax-planning issues and a first class estate-planning firm to deal with their estate-planning and related needs.
They resolved their insurance issues by retaining a fee only insurance advisor, who charged them an hourly rate and didn’t have any financial interest in selling them insurance products.
They told me that they “would rather put $3.7 million” in their own pocket than pay it to an advisory firm. They weren’t convinced their investment returns would be superior and couldn’t justify paying that much (“or anything close to it”) for the balance of the services being offered. They opted to invest in index funds from Vanguard.
The majority of higher net-worth investors who have contacted me have reached a similar conclusion. Some opted to use robo-advisors or hybrid robo-advisors instead of handling the investments themselves. Vanguard’s hybrid option was a popular choice for these investors.
My assessment
I was struck by my inability to persuasively convey the value proposition offered by most fee-only advisors, including evidence-based advisors. In part, this is because the “evidence” supports the view that low fees correlate positively with higher returns. It’s difficult to assert that this principle applies to all aspects of investing except advisory fees.
Another problem I confronted was this: The fees you charge are certain. The benefits are not. They are difficult to quantify and require assumptions.
You will not be able to compete with robo-advisors when the primary concern of the prospect is fees and they don’t place much value on the non-investment services you offer. No one really knows how large a potential client base is represented by those investors. There will always be investors who value the totality of the services you provide and their special relationship with you.
Now is the time to concentrate on your value proposition. This focus might include reevaluating your fee structure, adopting technology to become more efficient (and more competitive), expanding the services you offer and positioning yourself as a specialist rather than a firm that serves the entire market.
The status quo is not an option.
Dan Solin is a New York Times best-selling author of the Smartest series of books. His latest book is The Smartest Sales Book You'll Ever Read. His sales coaching practice has expanded to include advisory and non-advisory firms in the United States and Canada and includes individual and group coaching via video platforms. Dan is no longer affiliated with any advisory firm.
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