In a candid interview with ThinkAdvisor and Research reporter Jane Wollman Rusoff earlier this week, the outspoken investment manager Ken Fisher suggests that the brokerage industry has managed to turn Dodd-Frank Section 913 on its head, with dire consequences for independent RIAs (the Fisher interview prompted much soul-searching and responses from advisors).
While Ken’s a smart guy, and not to be discounted out of hand, hopefully the best part of his current views is his depiction of the brokerage industry—and not his predictions about what he thinks is a dim future for RIAs.
Despite his belief that it ultimately will come out on top of the Dodd-Frank reregulation, Fisher isn’t laudatory of the brokerage industry: “The BD world always has been the ‘evil empire,’” he told Rusoff. “BDs will likely subsume and exterminate the RIA world because the BDs would like to take it over: Money has been coming out of BDs and going into RIAs for 40 years. The RIA world has been growing rapidly at the expense of the BD world. And the BD world hates that.”
Then Fisher goes on to tell us exactly how the BDs will exact their revenge: The securities industry “is effectively posturing the regulators for their benefit in all this stuff coming out of Dodd-Frank pertaining to the interrelationship between BDs and RIAs…All the features of the potential fiduciary standard, including mandatory arbitration elimination, are likely to backfire and blow back — maybe fatally — on the naïve RIA world…the RIA world is at threat of being taken over by BDs in a regulatory sense. There’s a good chance that the entire RIA world is gone in 10 years.”
Strong stuff, for sure. And yes, I’m well aware that the independent advisory world has been hearing this same threat at least as far back as the mid-1980s, when FINRA’s predecessor the NASD was lobbying to “regulate” financial planners. Yet it’s possible Fisher is right that this time it really is different: particularly since this time the SEC has a legal mandate—in the form of Dodd-Frank—to actually change existing regulations.
However, I can’t help but feel that Fisher is wrong, and that the tide of change is against the brokerage firms on this one. While they might achieve a temporary victory or two, ultimately it will have to accept that the brokerage business model it’s tried so hard to defend under the guise of “business model neutrality” will have to upgrade into the 21th century.
Originally, say 100 years ago or so, the brokerage model made sense. Broker-dealers underwrote securities for American businesses, and convinced investors to buy them. Those investors, being wealthy and sophisticated, understood how the game worked and so were not taken advantage of (although occasionally a few tried to claim they had been).
But starting sometime in the 1960s, following the post-WWII economic boom, the middle class began to accumulate wealth, too: a trend that has continued through today, when the majority of wealth in the U.S. is now in the hands of the middle and upper middle classes. Unfortunately, financial sophistication did not come along with this growing wealth. It’s no coincidence that the independent advisory industry began to emerge in the late 1960s, and has continued to gain momentum—and market share. Unsophisticated investors need more than brokers, they need independent advisors who are on their side of table, to help them navigate the challenges of the financial services industry to meet their growing financial responsibilities and goals.
The brokerage industry is well aware of this trend. After a brief period in the 1980s, when it tried to outlaw asset management at financial planning firms, BDs have jumped on the middle-market bandwagon: opening their platforms to outside investment products, managing fee-paying retail assets and selling 401(k) programs.
But as Ken Fisher noted, none of this worked: independent advisors have been taking assets away from brokerage firms, in increasing numbers, for nearly a half century.
Will BDs finally buck this trend, and put independent RIAs out of business through new regulations under Dodd-Frank? Not likely. I say that because in my view the independent advisory industry has been gaining momentum for the past half-century. Why? Because it offers the one thing that Wall Street can’t: independence to represent their clients—and only their clients. Which is what investors, in growing numbers, want.
So to my mind, skyrocketing compliance costs won’t put an end to independent advice. Heck, even FINRA regulation (as onerous as that would be) wouldn’t end independent advice.
But either scenario would certainly change the independent advisory business: pushing RIAs into larger and larger firms (as Mark Hurley has been predicting for almost 15 years), with the financial muscle to both bear the costs of brokerage-like regulations and, more importantly, to stand up the brokerage firms in Washington, on technology platforms and in the media. Of course, that’s just my opinion: Ken Fisher might be right.