To fee or not to fee?

[Bylo Selhi]

To fee or not to fee?

The dilemma facing advisors is a variant of what Shakespeare's Hamlet agonized over: "To fee or not to fee." Brayman says the industry is in transition from a product focus to selling products with advice on request and ultimately making advice preeminent. Mutual fund sales people are in the middle category: If clients ask for financial plans, advisors generate them but they're still stuck in the commission mode. Most advisors are stuck there, Brayman said in an interview, "They started out to become financial planners but never really got out of product mode." Ultimately, "advice makes more money," Brayman says. The ideal is a compensation model where advisors are paid a fee for their time or on client assets under management. Five years after this transition, fee-only or feebased advisors can make four times more revenue and 60% more profits. They also attract larger clients: the same well-heeled clientele mentioned by Sjogren...

[cpcohen]

This leaves a critical question open:

After the advisor switches to a different charging algorithm, are the advisor's clients _worse off_ or _better off_ than they were before?

If the advisor is collecting 60% more revenue from the same clients . . .<g>

Charles

[OtherWise]

If the advisor is collecting 60% more revenue from the same clients . . .<g>

A little cynical?

As an advisor who has offered fee-for-service planning for many years, I can speak to this. I have seen the costs and benefits/drawbacks that exist with mutual funds, index funds, investment counsel, and brokerage models.

A few years ago, I migrated from straight fee-only advisory services to a combination of fee-only planning and fee-based investment management. The model we chose to offer our clients was beneficial to the clients - they saved money compared to the traditional retail mutual fund investment strategy, and, in many cases our fee structure competed favourably with investment counsel fees, with the added benefit of more comprehensive tax-planning and financial planning.

At the same time, the model also benefits the advisor.

[Norbert Schlenker]

OW, long time no see. Glad to see you back.

[OtherWise]

Glad to see you back.

Thanks. It's good to be back!

[dougd]

I switched from a commissioned based advisor to a fee-based advisor just over two years ago. I couldn't get the commissioned-based advisor to tell me how much she was making as a result of my investments through her, although she indicated it was cheaper than fee-based, after which we parted company. After moving to a fee-based advisor and having been with him for just over two years, I can now see what my investments costs are front and center. Although I am generally happy with the advice and structure of my investments to a more passive arrangement, I can't help but feel that I am paying too much for the advice being given at 1.5% of amount invested. This appears to be the norm here in Canada, or a bit on the high side, but it seems excessively high when compared to American rates, which for the same amount invested, is running around .42%, almost a quarter of what is happening here in Canada. I am sure there are some good reasons for a larger fee here, but not to this extent.

For the advisors out there, how would you recommend I broach this subject with my advisor?

[Slippy]

Hard to say. You havn't disclosed the size of the portfolio nor what services you are receiving. Is your advisor just giving you portfolio design or are you getting financial planning, tax planning etc. (ie: true full personal financial service)

Going rates for all inclusive full personal financial servcie would be something like:

under $150K: ~2.25%

150-500K: ~1.75%

500K - 1M: ~1%

Now if you are only getting an annual meeting and initially only got some cookie cutter portfolio recommendation and you have $500K I'd say you are overpaying.....or should start demanding much more service.

Also, can you tell us where the .46% in the US number is coming from? That strikes me as being very, very low....or it doesn't include much by way of servcie.

[dougd]

Thanks for the response. Services include the generation of an IPS for both myself and my wife along with semi-annual reviews, gradual transition from an active-based portfolio to a passive one, with emphasis on index funds and their DFA counterparts.

Portfolio in total > $300K.

Here is the link to the US site I found:

http://assetbuilder.com/Investing/inv_abprice.aspx

From here the rate is .43% vs. the 1.5% I am paying here in Canada. From what you have stated above, my rate appears to be quite competitive for the amount invested. I just don't understand why there would be such a large difference between US & Cdn advice. I would expect some (size of market, # of competitors, etc). My education continues.

[Norbert Schlenker]

Doug, IMO it's a combination of "what the market will bear" and "limited economies of scale".

[DanH]

Thanks for the response. Services include the generation of an IPS for both myself and my wife along with semi-annual reviews, gradual transition from an active-based portfolio to a passive one, with emphasis on index funds and their DFA counterparts.

Portfolio in total > $300K.

Here is the link to the US site I found:

http://assetbuilder.com/Investing/inv_abprice.aspx

From here the rate is .43% vs. the 1.5% I am paying here in Canada. From what you have stated above, my rate appears to be quite competitive for the amount invested. I just don't understand why there would be such a large difference between US & Cdn advice. I would expect some (size of market, # of competitors, etc). My education continues.

A DFA approved advisor in Troy Michigan, Rick Ferri charges a minimum of $2,000 per year. Once you have at least $800,000, you go on their sliding percentage fee schedule. And that's for portfolios of passive funds, mostly DFA (it appears).

On $300,000, that's 0.67% annually. My firm charges $2,500 + taxes (0.875% on $300k incl GST) and that's with clients having to do all of their own paperwork and trade execution. That's one of the cheapest rates you'll see (largely because nobody I know has a similar model) but I'm not taking new clients so it's a moo point . While 1.5% strikes you as high, you cannot expect anything below 1% annually at that level and get all of the administrative stuff handled for you.

So, not surprisingly, Norbert's assessment seems right on. Part of it may also be that if you want a fee-only advisor, you have less than 10% of the nation's advisors to choose from. In other words, fee-only advisors are something of a scarce resource.

[Bylo Selhi]

Rick Ferri charges a minimum of $2,000 per year. Once you have at least $800,000, you go on their sliding percentage fee schedule. And that's for portfolios of passive funds, mostly DFA (it appears).

FWIW Steve Evanson, another DFA approved advisor, generally charges $2k to $4k based on account complexity, not account size.

[dougd]

To all,

Thanks for your feedback and insight on this. As I indicated in a previous post, my education continues with your contributions to this forum, which I appreciate. It seems my rate is well within what one can expect to pay here in Canada. As I said before, like the advisor and the advice, wasn't sure about the rate. All is good.


Doug

[TMG]

It may be worth pointing out in case DanH's post is not clear on this point: if the advisor is doing the trades etc. for you, he or she is incurring costs for those trades.

There are also costs, but they come in the form of time (or administrator time) to handle the paperwork associated with opening accounts, completing mandatory KYC updates, etc.

I'm not suggesting that these costs are the lion's share of the costs charged to you, but that it is worth separating out the "advice" costs and the other costs associated with having someone else manage your funds for you -- so you are comparing apples and apples when you are looking at various fee models.

[Slippy]

I don't think everything is being counted here.

dougd:

In the link you posted, and the one that Dan posted those are just advisory fees. It looks to me like you still have to pay the MER for the DFA funds on top of that, or the ETFs, or the index funds, whatever your poison. A quick look at Paltrak shows me that DFA Cnd. Core Equity (for example) charges 1.51%. Add to that the 60 bps that you would be paying the DFA advisor that Dan linked to, and you are back in the 2%/year range. Likewise for the American fellow.

The guidelines I posted should be all in. Advisor and Manager. At 2%/year on $300K I'd be expecting a full personal financial plan, not just some investment advise and an IPS.

[adrian2]

I don't think everything is being counted here.

dougd:

In the link you posted, and the one that Dan posted those are just advisory fees. It looks to me like you still have to pay the MER for the DFA funds on top of that, or the ETFs, or the index funds, whatever your poison. A quick look at Paltrak shows me that DFA Cnd. Core Equity (for example) charges 1.51%. Add to that the 60 bps that you would be paying the DFA advisor that Dan linked to, and you are back in the 2%/year range. Likewise for the American fellow.

The guidelines I posted should be all in. Advisor and manager. At 2%/year on $300K I'd be expecting a full personal financial plan, not just some investment advise and an IPS.

All in meaning including MER of the underlying funds? Is the investment advisor also a fund manager?

[Slippy]

"All in" meaning total cost from the client's perspective. In my post on Jan. 8 I suggested ~1.75% for a portfolio size of 150K to 500K. That would break down into a cut for the advisor and a cut for the manager (ie: DFA fund MER). The manager and the advisor could be the same person/firm but they don't have to be. The advisor's cut could also come directly out of the mutual fund MER as is the case with the vast majority of retail mutual funds sold in Canada. In this case though, I believe that the DFA MER is going entirely to DFA, and the advisor has to charge an additional fee on top of that.

Specifically, the OP would be paying DFA ~1.5% to "manage" his money (in quotes because my understanding is that DFA is relatively passive) and the advisor charges seperately another ~.6% on top of that.

This would largely explain the discrepency between rates in Canada and rates in the US that the OP has observed.

[DanH]

dougd:

In the link you posted, and the one that Dan posted those are just advisory fees.

That's true. In my link I believe that is mentioned. GST must also be added to fees chargd by a Canadian advisor.

It looks to me like you still have to pay the MER for the DFA funds on top of that, or the ETFs, or the index funds, whatever your poison. A quick look at Paltrak shows me that DFA Cnd. Core Equity (for example) charges 1.51%.

That's for the A series units, which pay a trailer fee of 1% annually. The F series units, which is what fee-only planners would use, charge around 0.6% annually.

Add to that the 60 bps that you would be paying the DFA advisor that Dan linked to, and you are back in the 2%/year range. Likewise for the American fellow.

That would bring the all-in investor cost to 1.3% x 1.05 (for GST) + 0.6% (F class MER) = 1.97% annually. So, your two percent figure is about right. But DFA's U.S. funds I think charge about half of what their Canadian funds do. And none of their U.S. funds include trailers - that's unique to Canada.

At 2%/year on $300K I'd be expecting a full personal financial plan, not just some investment advise and an IPS.

After all is said and done, this statement remains valid, I'd say. Particuarly when the advisor is getting 1.3%, which is only attainable by a commission model if selling a high-trailer wrap program.

[Slippy]

Thanks for the clarifications Dan.

I stand corrected on the DFA trailer and checked again and indeed the 1.51 MER does contain a full 1% going to the advisor

This line in my post Jan 9 @ 10:17AM

"Specifically, the OP would be paying DFA ~1.5% to "manage" his money (in quotes because my understanding is that DFA is relatively passive) and the advisor charges seperately another ~.6% on top of that."

should be corrected in that OP would be paying 0.6% to DFA (F class MER) and 0.6% + GST to the advisor.

It wil be nice when I renew my Paltrak this month since I'm going to get the upgrade which includes all of the F class stuff. I've been wanting it for a while but was waiting for the current lisence to expire.

[Norbert Schlenker]

Last week's regulatory changes by Britain's Financial Services Authority (FSA) received little coverage here in Canada. However, these are changes that should grab the attention of Canadian advisors, suppliers and regulators alike.

The biggest change made was regarding how advisors get paid. The FSA has effectively banned upfront sales commissions from being attached to any financial instruments, including insurance policies. Instead advisors will have to provide clients with a fully disclosed, upfront choice of a one-time billable fee or an ongoing fee for service.

The FSA claims that the move will prevent unsuitable products from being pushed by unscrupulous advisors who care more about making money than helping people...

Opinion: Canada should ban commissions too

[Slippy]

It will come here eventually. I seemed to recall reading somewhere that Australia is already looking at implementing this as well.

Advisors who provide great service have nothing to worry about.

I will however disagree with the article in that all clients will benefit. This will hurt small clients.

[Flights of Fancy]

I don't think small clients will necessarily lose out. I read the article to say that hidden upfront commissions are on the way out - and that clients can choose to pay a lump sum upfront, or an ongoing fee.

What they are ending is the potential lack of disclosure and the invisibility (to the client) of fees, not the fees themselves.

[kcowan]

Small client will lose out because the visible fee will demonstrate how little the sales agent is making on the transaction. Unless, of course, the big clients start to smarten up and all that are left is small clients...

[bones1]

Small client will lose out because the visible fee will demonstrate how little the sales agent is making on the transaction. Unless, of course, the big clients start to smarten up and all that are left is small clients...

Fair enough, but being a financial advisor / mutual fund salesman isn't charity work. If someone has very little money and no real prospects of future wealth, why should a fund salesman spend the same time with them as someone with a portfolio of a million dollars? (Assuming he gets the same percentage kickback from the mutual fund company.)

Maybe small investors are better off sticking with "free" GICs. They probably can't afford to lose the money in equities.

[Flights of Fancy]

OK, what am I missing? I read the linked article, and I read a few articles about the regulatory changes in Britain.

It will no longer be possible to have hidden commissions, but I don't see anything which prohibits a one-time fee or sets fee amounts.

Why could an advisor not then charge a fee which is equivalent to the 5% DSC fee? That's all they are making on small accounts anyways (plus an ongoing trailer, I know that). Perhaps the client would accept the fee, and perhaps not.

"Small clients will lose out because the visible fee will demonstrate how little the sales agent is making on the transaction" -- I don't understand how the second clause logically follows from the first.

[Flights of Fancy]

To be even clearer: sales agents are *already* making small amounts on small accounts.

How does more fully disclosing this to the client harm the client? Is the suggestion that advisors will no longer work with small clients?

Well, why are they working with them now, then?