Casting a Wide Net

The events of September 11 further shook the foundations of the nation’s wirehouses and brokerage firms. Already struggling under weak markets and sluggish trading volumes brought on by shaky consumer confidence, the attacks on the World Trade Center and the Pentagon exacerbated these firms’ declining revenue streams, spurring layoffs in divisions bearing the brunt of the economic blow. But despite these setbacks, both the wirehouses’ and major brokerage firms’ fee-based services are continuing to thrive.

Indeed, even as Wall Street firms slash staffing in such divisions as investment banking, they are instituting new services for advisors. In so doing, it’s getting harder to separate the Merrills and Morgan Stanleys of the world from the Schwabs and Fidelitys. In October alone, Fidelity Investments Institutional Brokerage Group and Frank Russell Company joined forces to offer a separate accounts program for advisors.

TD Waterhouse Institutional and Charles Schwab unveiled similar versions of new services for fee-based advisors, including equity research from Goldman Sachs. CSFBdirect Institutional will soon introduce new software for advisors that offers block trading capabilities. And GE Financial Assurance recently acquired Centurion Capital Group to help the investment company accelerate its foray into the third-party mutual fund and separate account wrap market for independent fee-based advisors.

But some advisors say this latest round of new services is a self-serving attempt by wirehouses and brokerage firms to drum up new business in a down market, and the attention being lavished on them will do little to appease advisors’ strained marriages with these firms. “They have seen volumes drop, and they are soliciting us for business,” says Tom Gryzmala, a planner with Alexandria Financial Associates in Alexandria, Virginia. “Going forward, the [advisor/wirehouse relationship] is going to be a mixed situation at best.”

Sam Hull, a planner with Northstar Financial Planning in Bedford, New Hampshire, doubts the new wirehouse and brokerage services will receive a warm welcome from advisors. “Everybody wants to be in our shoes, even Morningstar, for gosh sakes.” Hull says he’s irked by these firms’ service offerings that consistently compete with advisors. “Vanguard is aggressively offering financial planning services, and they have made their retail Web site much more friendly than their advisor site. To me, that’s just another example of the fact that Vanguard is really a retail house, and we are kind of along for the ride, although at the far end of the train.”

It remains to be seen if the wirehouses and brokerage firms will suffer any long-term repercussions from the terrorist attacks. The outlook is both sanguine and grim, depending on who’s talking. Chip Roame, managing principal of Tiburon Strategic Advisors, a research firm in Tiburon, California, says the terrorist event “is going to be a blip in the business of investing.” He’s optimistic the nation’s stockpile of baby boomers will keep investment firms of all types busy for the next couple of decades. The investing business will do “exceptionally well for the next 20 years because people will earn a lot of money, they will retire, and this money will flow into the investing market.”

But Martin Weiss, chairman of Weiss Ratings Inc., which issues safety ratings on financial institutions, including brokerage firms, worries that some brokers lack the capital to withstand a prolonged bear market. He says well-capitalized firms like Charles Schwab, Prudential Securities, and Morgan Stanley will be more apt to stomach the multiple hits that the industry has taken this year in falling commission and IPO revenues, the World Trade Center disaster, and the bear market.

Also troubling, Weiss says, are the extra costs associated with the attacks. Some firms will have to absorb the expense of relocating, hiring, and setup costs not covered under their insurance policies. While well capitalized, Morgan Stanley, the World Trade Center’s largest tenant, estimates it will suffer $150 million in damage and relocation expenses. Weiss says the brokerage firm’s property damage is fully insured, but it may be hard for the firm to recoup the losses it suffered when business was interrupted.

Even before the World Trade Center attacks, Weiss says, CSFB, Goldman Sachs, and Merrill Lynch were downgraded because of drops in their capital ratios. “Therefore, there’s a good chance we’ll see further downgrades once we put a reliable dollar figure on the recent financial damage to these and other firms.”

But in these times of instability for the wirehouses and brokerage firms, their fee-based services show no signs of faltering. Since entering the fee-based asset management business some four years ago, the wirehouses and brokerage firms haven’t tired in their efforts to build and hone their fee-based skills. “The growth in fee programs in wirehouses is substantial,” says Tiburon’s Roame. “What they are building are their separate account wraps and their fee-based brokerage accounts.”

In a new research report, “Fee Accounts and the Booming Turnkey Asset Management Program (TAMP) Market,” to be released this month, Tiburon examines the growth of fee-based investing programs by the wirehouses and regional brokerage firms, as well as the emergence of separate-account turnkey asset management programs. “We think the TAMP market is booming and will continue to boom,” Roame says. Tiburon estimates that there are now 57 TAMPs with $64 billion in assets, and the research firm expects these assets to hit $200 billion by 2005. Tiburon says the frontrunners in the TAMP market are SEI, Lockwood, Envestnet PMC, AdvisorPort, RunMoney, London Pacific Advisors, Centurion, AssetMark, Assante, Buckingham, Brinker, and Morningstar.

TAMPs have become an invaluable resource, particularly for independent reps. These programs provide five crucial services to those working in a fee-based environment: client profiling software; assistance with investment selection (for instance, Lockwood screens separate account managers, while SEI helps you choose the right mutual fund); ongoing monitoring of accounts; the shipping of quarterly client performance reports; and handling of client billing.

Tiburon’s report also asserts that fee accounts continue to comprise a larger percentage of clients’ assets at wirehouses. At year-end 2000, 12.9% of wirehouse and regional brokers’ assets were in fee-based programs, up from 5.4% in 1995. “This isn’t 12.9% of their flows, this is 12.9% of their assets, which means fees have to be way outgrowing commissions,” Roame says.

And according to the report, consumers appear to prefer advisors who use fee-based models to ones based on commissions. Tiburon asked a group of consumers to rate their fee-based advisors and commission advisors on a 10-point scale. The fee advisors got an 8.7, while commission advisors registered only a 6.3.

As Jay Lanigan, executive VP and head of the RIA business at Fidelity Investments Institutional Brokerage Group, puts it, “More and more end consumers seem to find a fee-based relationship to be more consistent with the type of relationship they are looking to have with a financial services representative, whether it be an advisor, broker, or insurance agent.” On the other hand, John Bachmann, managing partner of the St. Louis-based brokerage firm Edward D. Jones & Co., says his commission-only firm is thriving, and his customers couldn’t be more satisfied. (See sidebar, page 56)

In the world of wrap programs, separately managed wrap accounts dominate, accounting for nearly $300 billion of the $600 billion in total assets, according to Tiburon’s report. Mutual fund wraps rank second, holding about $127 billion; fee-based accounts total $103 billion; and broker wraps account for $54 billion. Wirehouses dominate in separate accounts offerings, with Solomon Smith Barney taking the lead with 27% of the market. Merrill Lynch runs a close second with 22% of the market, while the other three wirehouses–Morgan Stanley, Paine Webber, and Prudential–each account for about 10% or less in market share.

As investment firms of all types vie for high-net-worth clients, separate accounts have become the golden chalice because they’re customizable and tax efficient. Fidelity Investments is getting in on the separate accounts game–albeit belatedly–by aligning with Frank Russell. The two firms’ separate accounts offering, called Russell Managed Portfolios, will combine Frank Russell’s multi-manager investment style with Fidelity’s technology platform and services. The relationship allows Frank Russell to deliver its traditionally institutional investment expertise to RIAs and their high-net-worth clients.

Fidelity’s Lanigan says as “RIAs have focused more on the financial planning aspect of client relationships, and they continue to add value in their wealth management capacity, clearly separate accounts have been an area of interest for some time.”

This isn’t the first time Frank Russell has hooked up with Fidelity to service advisors. Last year, the Tacoma, Washington-based investment firm abandoned its trading custody platform, Russell Advantage, and transferred its 100 advisors onto the Fidelity IBG platform. At the time, “We recognized that advisors going forward wanted open architecture and efficiencies in trading administrative platforms so they could become more efficient at their business,” says Len Brennan, managing director, Russell Investment Group. “It was a logical extension for us to create a product line of segregated accounts based on Russell’s objective research of money managers and manager of managers approach,” he says. Russell Managed Portfolios will be available on November 5 through RIAs who custody their assets on Fidelity’s institutional brokerage platform.