Every year brings its own set of challenges, as unseen trends suddenly emerge while older trends come to fruition, as unexpected market events make fools of the prognosticators and disruptive technologies change our lives.
Nobody can predict the markets. But it is possible to forecast the challenges that financial advisors and planners will face in the next 12 months, or at least provide a warning system for impending threats.
Here are my top 10 issues to think about as we enter 2014 – offered with humility and respect for the world's ability to surprise us.
1. Investment turbulence
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I'm not predicting a downturn, and I'm not saying the market will continue the long recovery that started in March 2009. Both of those are certainly possible. My prediction is that we will experience some rough investment weather in 2014, which will test client relationships and cause more than a few investors to panic. How well you handle client emotions, and how well and often you communicate with clients as we approach whatever twist of the rollercoaster awaits us will go a long way toward determining your ability to keep your clients, acquire new ones, and help everybody you work with avoid the panic that drives a big gap between investor and investment returns.
What could cause this turbulence? Most of us are still shaking our heads at the remarkably high returns we received from domestic and European stocks in 2013. The markets didn't climb a wall of worry; they scaled a sheer cliff of abject fear, an environment where we were constantly looking over our shoulders at the Correction That Never Came – despite the Fed's constant back-and-forth wavering on the taper, despite a 14-day government shutdown and credible threats that the U.S. would voluntarily default on its debt obligations. According to some analysts, the shutdown took $24 billion out of U.S. GDP, but the markets hardly blinked.
That serenity can't last forever, and history is full of examples of events that jolted investors out of complacency. I can think of a few candidates, starting with the next threat of a refusal to raise the debt ceiling in the first quarter of next year. But I'm personally more worried about the psychological impact of rising bond rates – which I don't think will rise as dramatically or catastrophically as many are predicting. Nevertheless, who knows what huge leveraged interest rate bets lurk in the dark alleys of the multi-trillion dollar derivatives markets, ticking away on the balance sheets of the large investment banks and hedge funds? What effect might the taper, amplified by a few leveraged bets, have on the global economy?
Or, potentially worse, what would happen if a measured rise in interest rates caused a tipping point with relatively illiquid securities held in bond funds that have reached for yield – something Michael Aronstein of the Marketfield Fund has warned about in the most explicit terms. If there is a run on even a small number of funds, and they're having trouble unloading their illiquid shares to meet redemptions, they'll have to sell some of their other bond holdings at depressed prices; that will cause a re-valuation of a broader array of paper. People receive statements that show big drops in value in the supposedly safe part of their portfolios, and they bail, causing a run on a broader array of funds in one of those self-feeding cycles that could impact the equity markets as well.
Advisors who can help their clients see a panic downturn as a buying opportunity will create enormous value. But they can only do that if they are already communicating regularly about the importance of staying calm as the markets correct. The key message: We can't predict when or where, but we can predict that the markets will follow an uneven path, and that downturns have always, in the past, been excellent buying opportunities.
2. Regulatory certainty will be more disruptive than regulatory uncertainty
It now appears that the SEC under Mary Jo White will issue new fiduciary standards for RIAs and brokers in the coming year, and this will unblock the Department of Labor's efforts to create similar standards affecting advisors who give out advice on qualified plans and IRA accounts. Congressional Republicans whose opinions have been purchased by the brokerage industry lobbyists have demanded that the two initiatives be harmonized and that they be backed by economic-impact studies. Those demands will be met in the coming year.
What will the new standards look like? The SEC and DOL have two choices: They can clearly require everybody who gives advice to live up to a standard of behavior as strict as what RIAs live under now, or they can create a somewhat tougher version of the suitability standard which will make it possible for brokerage firms to continue to mislead consumers into thinking that their reps are putting their interests first in their recommendations. The DOL and Phyllis Borzi are clearly leaning toward the former. The SEC has traditionally leaned in the opposite direction, perhaps realizing that it would be a nightmare to try to regulate the brokerage industry as it tries every alternative to changing its lucrative business model.
The smartest people I talk to in lobbying circles are now saying that the SEC is looking for a way to please everybody. It will give advisors and brokers their own (very different) fiduciary standards. For advisors, the rules will be pretty much what they have now, but brokers will get a free pass on looking out for the customers' best interests if they offer transactional one-off advice, even if they have an ongoing relationship with the customer.
Under one proposed version of this quasi-suitability fiduciary standard, the broker would only have to put the customers' interests first if the broker is managing client assets on an ongoing basis. Thus, the broker could "gather" the assets by recommending a certain in-house investment program or platform, the firm could technically be the manager of the assets and send out statements with the broker's name on them as the relationship manager (the broker) would get a portion of the ongoing fees and periodically check in to see if he or she can uncover any more assets.
Every recommendation in this scenario would be labeled a ‘transaction’ rather than an ‘engagement.’ To the consumer, the arrangement would look identical to the RIA relationship, perpetuating the consuming public's confusion between sales and impartial advice – a big win for the brokerage industry lobbyists.
I happen to think that the fuzzy quasi-suitability standard would actually be better, in the long run, for RIAs and more damaging to the brokerage firms than the clearer fiduciary standard across the board. Why? If the distinction is unclear, it would be far more likely to spark a debate in the mainstream press, with much more attendant publicity about who is and is not routinely putting client interests first – and the real-world implications of that. Because this issue has been debated so regularly in the trade press, advisors reading this might be surprised at how quiet the brokerage community has managed to keep it in the broader arena of public opinion. (If you don't believe me, ask your clients who stands where on the fiduciary issue.)
Ironically, 2014 may be the year that the fiduciary standard debate is decided, not because of definitive guidance from the regulators, but because the far more important forum – the marketplace – finally becomes aware of the distinction between how brokers and advisors give advice to their customers. We have study after study that shows that consumers don't currently understand these fine distinctions, including, of course, the now-famous Rand Corp. research. That may be far less true after the SEC and DOL make their proposals, and the more compromised the proposals, the less true it will be.
Of course, the DOL view may win out, and the brokerage world will have to live up to strict fiduciary standards sometime in the next year or two. If that happens, I would expect a very messy transition in the brokerage world, perhaps with a grace period for them to change their business models.
Will the brokerage industry change its business models? I would instead expect court challenges and an effort to conduct business as usual, stalling until the next election cycle unblocks Congressional action, and then a furious lobbying effort to create laws protecting Wall Street from the dreaded fiduciary realities. I wouldn't bet against the Wall Street money in that battle. Either way, though, my prediction is that once the regulators come to a decision, the world they regulate will be messier, not cleaner or clearer.
3. The return of FINRA's efforts to regulate RIAs
Let me start by saying that I honestly don't think even FINRA's top executives believe they can succeed in becoming the SRO for RIAs. Nobody can conscript unwilling members into its self-regulatory organization and say that it truly represents its constituents. It wouldn't be self-regulation; it would be a hostile takeover, which is not exactly how the self-regulation concept works.
Beyond that, the arguments against FINRA are too easy to make. FINRA did nothing to prevent the brokerage scandals during the Tech Wreck, the 2008 meltdown or the more recent trading scandals. Its former CEO, Mary Schapiro, was described by Bernie Madoff as "a dear friend."
To say FINRA is toothless is an insult to people with severe dental problems.
In addition, FINRA lobbies on behalf of brokerage firms. Is that the kind of bulldog consumer advocate we need to protect consumers against fraud and self-interested sales agendas?
Sometime in the next few years, the brokerage industry will yet again cause terrible disruptions in the financial markets due to what any reasonable person would describe as self-interested shenanigans (see above), and FINRA will lose credibility once again.
But… FINRA is doing a terrific job for its members by constantly and publicly lobbying for the SRO job, and it cannot afford to ease up now. Many thousands of brokers and registered reps are looking at the greener grass on the fiduciary side of the fence. The only thing keeping them from moving their books of business and converting to a consultative business model is the belief – reinforced at every opportunity by their brokerage employers and BD home offices – that the regulatory environment is in "flux." FINRA will soon take over the regulation of those miscreant fee-only rogue brokers and enforce punitive oversight on them for trying to evade FINRA regulation.
FINRA has become a powerful retention tool for its corporate members, and that is an enormous value-added service that it cannot afford to give up. Look for a lot more discussion about the superiority of FINRA as a regulator of RIAs in 2014—without any definitive results.
4. The gradual appearance of front-office-only advisory practices
The trend of advisors jettisoning their back office has been coming for a long time, as outsourcing opportunities have become more seasoned and effective. The issue is simple. Virtually all of the value that advisory firms offer their clients comes from the face-to-face relationship and the quality of your advice. But as advisory firms have grown, a huge percentage of their office expenses, and a growing part of the time commitment from the advisors and principals, has gradually been taken up by the chore of managing these growing back offices.
Meanwhile, many advisors are deeply in the weeds of maintaining their software applications, managing an increasingly complex and ever-changing suite of programs that support their core activities.
Does it make sense for 70% or more of the business to be running in the background, hidden away from clients? Does it make sense for advisors to be spending their time managing a growing staff of people who download and reconcile and update and manage the software when their value to clients lies elsewhere? Is the increasingly large tail starting to wag the dog?
When I talk about a front-office-only practice, I'm talking about a team of advisors who have given those back-office chores to a growing ecology of outsource options. Experts who do not work in their office will handle the day-to-day downloading and reconciliation, the opportunistic rebalancing based on their tolerances, the automated tax-loss harvesting and updating and managing their office software. Advisors do what makes them money and adds value to their clients, and let the experts handle the rote work.
We may also see the emergence of back-office-only advisory firms who handle these chores for a network of front offices. These firms will compete with investment management back offices like Allbridge, Black Diamond or Orion, and with the all-in-one offerings from SEI, Inc., Trade PMR, Adhesion and Envestnet.
5. Very public challenges to the value proposition of retail advisors
Remember when the discount brokerage firms were running ads everywhere, cleverly recommending that investors self-churn themselves to financial success? Remember when those ads were a frontal assault on the value of advisors, who were described as expensive hacks totally out-of-touch with the new technology of the investment markets?
Brace yourself: Those days are coming back, and we could see it start as early as next year. This time the advertisers will be this new breed of online investment platforms, what some are calling robo-advisors – which I wrote about not long ago.
Companies like Wealthfront, Betterment and Personal Capital have serious venture-capital backing. They view themselves as the future and advisors like you as dinosaurs who can be extinguished by a chilly breeze. The past two years have been spent working out a variety of kinks and making sure the scale is there for the Big Push, which will mean advertising in all the major outlets, telling TV viewers and hip Internet surfers that they are (as the Betterment website says) "bringing financial advice into the age of intuitive design," or that advisors are far more costly than the low fees helpfully calculated for you on the Wealthfront home page.
And they are slowly mastering the language of the discount brokerage ads. You (the consumer) are smart enough to invest on your own. Aren't you?
I am not predicting that these firms will steal your market share in 2014 or any subsequent year. Their business model seems to assume that a growing number of people will prefer a comfortable long-term relationship with a website to an actual living, breathing human being. But I do think that a lot of very public, harsh caricatures of advisors as dim-witted, greedy dinosaurs will create a less-than-ideal marketing environment.
The more time and energy you put into your front-office activities, and communicating proactively and holding clients hands through turbulent investment weather (see various places above), the less impact these advertising onslaughts will have on your business.
6. Merger activity will heat up
Remember that junior high dance that started with the boys on one side of the gym and the girls on the other, and gradually, sometime into the fifth or sixth song, some of the boys wandered over and asked the girls they liked the most to dance? And then after a while, a few more wandered over, and then, at some point, there was kind of a scramble, because, from the guys' viewpoint, the most interesting girls were being taken.
We're in the first stage of that scenario in the planning profession, an early mating dance of mergers between some of the most attractive advisory firms who realize that we are entering an era when scale is becoming increasingly important. The first visible evidence that the profession is entering a phase transition from practices to businesses, from solo to ensemble, could come in 2014. These first mergers will extend the working lives of aging practitioners who want to get rid of their administrative duties, but who still enjoy rainmaking and client interaction.
And they will set the stage for a huge opportunity down the road, as established firms with scale start buying retiring advisors at a steep discount. During that phase, fortunes will be made and squandered, as many retiring advisors realize that the best time to have maximized their enterprise value was much earlier in the dance.
The mergers that will be consummated in 2014 will generally involve the most attractive smaller firms, and they will provide everybody else with better models for consolidation and the messy process of blending two individualists, two visions and two staffs. Once those firms fully integrate, they will have experience with integrating other practices into the fold, allowing them to approach retiring advisors and generally causing the trend to accelerate.
7. Advisor software will become dramatically more useful and helpful – and raise the profession's value proposition
Companies like Trade Warrior and InStream have opened the door to a variety of alerts functions that have the potential to completely transform the way advisors can do business, and in 2014, advisors will finally catch up on adoption. As they do, other software manufacturers will provide this functionality.
What is an alert function? In the past, if you wanted to harvest tax losses, you had to call up each client portfolio and scan the embedded gains and losses – or, worse, export a lot of data into a spreadsheet. With Trade Warrior, you can set an alert function that will automatically notify you if any client position has a loss of, say, 10%. Every day, your screen tells you about significant loss-harvesting opportunities, and you can rank every client investment position by the amount of losses/gains, to identify positions with gains if you want to do an offset.
Another alert tells you if/when any client portfolios need rebalancing, according to parameters you set. Have any clients suffered overall portfolio losses that are outside their stated tolerances? Are any clients underperforming their benchmarks by a certain pre-set amount or percentage? The program will sift through all of your client accounts, looking for all the things that you would have had to look for manually. This can be an enormous time-saver, and it can also lead to greatly enhanced client service.
InStream, meanwhile, will alert you to just about anything you want. If any client's probability of meeting his or her goals falls below, say, 85%, you get a notice on your screen. You are told when a client or a client's child has a birthday. If any client portfolio drops by a certain percentage, you get a message and know to call that client to talk about the market conditions.
Advisors will also start harnessing consumer-oriented websites that offer similar functionality. IFTTT.com ("If This, Then That") lets you drag and drop icons that tell you just about anything you want to know. Want your computer to tell you whenever the weatherman is predicting rain? Want to automatically have the Web add new movie releases to your Google calendar? Want to receive an email whenever a new book is added to the Kindle Top 100 Free eBooks? The New York Times now has a channel on ifttt.com, to save any article that meets your criteria. All of these things can be set up for your clients, and the email message or text message comes from you personally – automatically.
Meanwhile, when I've interviewed advisors who are working with Generation X and Y clients, they report that younger consumers value something else they do much more than their advice. These advisors are using eMoney to store client information online, and charging a monthly fee for the privilege. As online vaults become easier and more intuitive, they will provide advisors with the next logical step in organizing their clients' finances: giving them a way to get to everything.
8. A few firms will start making the planning process more enjoyable and interactive
I'm cheating a little bit here because this is already happening. But it will emerge as a trend in 2014.
The biggest problem today with marketing the financial planning/investment advisory service is not the value proposition, but the "enjoyableness" (or lack thereof) of the initial experience. Clients compare their initial meetings unfavorably to the joys of a root canal procedure – and no wonder. They are at an immediate disadvantage, talking about their own finances with a professional who might laugh at them for their financial foibles and ignorance, who could steal their money and they would never know, who talk a confusing language of finance and taxes that few consumers will ever master.
Worse, the client has to fill out a lengthy questionnaire and rummage around to find the insurance policy, the investment statements, the latest tax forms, and transfer relevant numbers from one page to the other. Isn't that what they wanted to get away from when they walked into the professional's office?
The solution? United Capital advisors give their clients, in the initial meeting, a stack of cards colored blue, pink and green. They select from them: "I want to leave a legacy for my family." Or: "I want more personal time to do what I love." Or: "I want to grow as a person." The three to five cards they select help prioritize their goals – and most importantly, the exercise is fun.
Janet Tyler Johnson has her clients draw a mindmap with colored pencils in the early stages of the relationship, defining what they want to happen in their lives. Advisors who use MoneyGuidePro can interact with their clients in the playzone. Advisors who use eMoney Advisor will actually create the financial plan interactively with their clients, digging into that shoebox of financial data, figure things out interactively rather than hidden away in a back office, spending time looking at various alternative plans based on different savings rates, assumed rates of inflation and investment returns, examining different retirement dates.
One advisor I've talked with recently is now meeting with groups of clients and practicing some of the activities they will engage in after they've moved on from their current work – what they'll be doing in we used to call retirement. This can involve group golf lessons, sushi making, or group discussions with a psychologist about the issues that can come up in the marriage relationship when the working spouse suddenly returns home full-time.
All of these activities add value, all of them can be seen as either directly related to or closely allied with the financial-planning process, but the difference is that they're all taking the edge off of this root canal experience for the client. Eventually, as these various innovations get more publicity in the advisor press, you'll see more advisors adding them to their service offering, and more consumers will get exposed to a more fun experience.
Guess which experience they'll prefer.
9. The CFP Board imbroglio over its clumsy definition of "fee-only" is going to continue to build, as more questions are raised and as the Camarda lawsuit goes forward
I'm not going to dwell on this, but it's clear that the CFP Board's staff made a hasty and impromptu decision about how to enforce its fee-only guidelines without consulting either its board of directors or the various stakeholders, and then was extremely clumsy in its implementation, communication and enforcement. This raises questions of governance, competency and, ultimately, fairness about an organization that is supposed to be providing stewardship of the CFP mark.
I predict that in 2014, more details will come to light, and they will raise even more questions and eventually spark a new round of anger in the advisory profession. The ensuing uproar will ultimately question the governance policies at the CFP Board, and that will be healthy for the profession's future.
10. Something dramatic will happen that will take all of us totally by surprise
This is the safest prediction I'll make here. In 2013, the markets astonished us on the upside, the global markets yawned when the U.S. government threatened default on its obligations, the long-predicted action on a fiduciary standard was delayed, and delayed, and finally deferred for another year, while interest rates rose more modestly than most anticipated.
Who could have predicted any of that?
I hope the surprises are all happy ones in 2014 – and that your next 12 months are productive and prosperous and fulfilling.
Bob Veres' Inside Information service is the best practice management, marketing, client service resource for financial services professionals. You can sign up for Inside Information ($299 a year) and a separate Client Articles service ($298 a year) which provides three or more Bob-written blog posts a month for your website or to send out to clients: www.bobveres.com.
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