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January 07, 2011 at 05:05 AM
Forecasting is always a messy, inexact business, whether you’re discussing investment returns or Super Bowl winners. The primary benefit advisors provide is to increase the chances that their clients will achieve their financial goals—and increasingly these days, their overall life goals—despite the essential unknowability of the future.
With that caveat in mind, the editors of AdvisorOne, Investment Advisor and Research magazines present their consensus choices for the 10 biggest challenges advisors will face in the new year. These are practice management issues and portfolio construction issues. They are local issues—down to the state and municipal levels—and global issues. These are technical issues and interpersonal ones. In other words, they touch all the areas where advisors operate.
Close contenders for the Top Challenges included achieving true client data aggregation—a technological and business development opportunity for many advisors—and the higher profile but challenge of finding appropriate fixed income, to name just two.
Challenge No. 1: Finding Alpha in a Slow-Growth Economy
The proliferation of ETFs and ETNs based on narrower and narrower indexed slices of the overall market (such as on the VIX), a recent upsurge in new mutual funds of all kinds, the growing interest in hedging strategies and the resurgent interest in hard assets like precious metals all attest to increased advisor interest in, and challenges around, finding alpha in new ways and through new vehicles.
Adding a fillip of investing returns to portfolios that since the 2008-2009 markets and economic crisis are much more attuned to risk management is not a simple task, especially when you take into consideration investors’ herd mentality (see top issues Number Five below) and the financial services marketing machines that push investing vehicles that promise outsize returns with minimal risk.
Gil Weinreich (left), editor of Research magazine and Portfolio channel editor for AdvisorOne, points out, however, that while “Maintaining beta doesn’t have the same glory as the search for alpha, it’s important in any market.” He recalls Warren Buffett’s two rules of investing:
- Rule No. 1: Never lose money.
- Rule No. 2: Never forget rule No. 1.
Weinreich says that “once the client’s portfolio is sensible and secure, the fun begins with the smaller pool of capital committed to alpha.” His “personal guess” is that advisors will increasingly find alpha in the commodities sphere, perhaps in “commercially viable shale oil production that lessens our dependence on foreign imports, or in some sort of natural product that can help sugar-addicted Americans enjoy tasty foods without the negative health consequences.”
Challenge No. 2: Due Diligence on Investment Managers and Vehicles
A related issue to the search for alpha is the quest for trust. A primary contributor to the market and economic crisis of 2008-2009 was not simply the securitization of mortgages gone awry, but the lack of transparency into those securities. Do you still trust the ratings agencies? Do you still trust money market funds? Do you trust all kinds of private partnerships? Do you trust the announced earnings of public companies? In your search for alpha, do you rely on internal due diligencers, or do you outsource that heavy responsibility?
In her analysis of the data gathered to create the annual Top Wealth Managers list, Kate McBride (left), editor of AdvisorOne’s wealth channel, notes that the most successful wealth managers bring much of their due diligence work in-house. That strategy is an underpinning of the trust relationship with clients, and reflects the larger sizes in AUM of the Top Wealth Managers, but it also may well be a sign that you’re not only serving the high-net-worth, but doing it well. If you outsource, with whom do you do so? Those companies that perform due diligence on behalf of advisors of all kinds should thrive.
Challenge No. 3: A New SRO for Advisors?
Perhaps within a week’s time from writing this article, we will know whether the SEC has recommended a new regulator for RIAs under its mandate arising from the Dodd-Frank reform law, and whether that SRO will be FINRA, which has been lobbying for such a role for years. (In fact, we may know as early as Jan. 14 what the SEC will recommend).
The FSI, the independent broker-dealer group, formally endorsed FINRA for the role on Dec. 20. In doing so, Dale Brown (left), FSI's president and CEO, said picking FINRA would be “best for investors, since it addresses the most significant problem in the current structure: the huge gap between how broker-dealers are regulated and how investment advisors are regulated.”
Other advisor advocacy groups—particularly those in the Financial Planning Coalition, such as FPA and the CFP Board—reject FINRA for the role. The broker-dealer community, while not totally happy with FINRA, believes naming it the SRO will help create a level regulatory playing field for all RIAs and BD reps. There are rumblings that the SEC will instead recommend another group to serve as regulator—perhaps the CFP Board in some capacity?—but regardless of who is chosen, the regulatory scheme for RIAs is likely to change. Stay tuned.
Challenge No. 4: State, Local and Federal Government Budget Woes
Gil Weinreich weighs in on this issue forcefully, saying that 2011 “can make or break America’s economic future.” Research magazine’s long-tenured editor says “We’ve gotten ourselves into a fiscal trap, where any necessary corrective moves we make will create other problems. If we raise taxes for the increased revenue we need, we will further weaken the private sector, thereby stunting job growth. Yet insufficient revenues adversely affect America’s credit rating.”
What’s the result? Weinreich worries that a “crippling” increase in our borrowing costs will negate any conceivable benefit of past stimulus measures. “Getting out of this pickle,” he says, artfully mixing metaphors, “will take the dexterity of entangled porcupines. Failure to get out will have the same catastrophic consequences as Greece and Ireland are currently experiencing.”
Challenge No. 5: A Fiduciary Standard for All
The controversy over the adoption of a single, strong fiduciary standard for all advice givers has perhaps produced more heat than light, though considering the strong feelings involved, it’s understandable. Many non-RIAs, especially reps in the independent broker-dealer world, have already adopted a de facto fiduciary standard, and for years some IBDs have welcomed reps that have their own RIAs, not to mention a firm like LPL which already has a healthy custodian operation for its reps who are RIAs, and for non-LPL reps as well.
As with most standards, the devil of a fiduciary duty being imposed for all will be in the details. We’ll begin to see those details by Dec. 21 when by another Dodd-Frank mandate the SEC must present its recommendations on the matter to Congress.
Gil Weinreich has this to say about the wirehouses and a fiduciary standard: “Wirehouse advisors may have no choice but to make a virtue out of necessity,” adding that “now’s the time to let clients know they will adopt business practices that unambiguously put their clients’ interests ahead of their own.”
“The lack of political unity,” says James Dailey (left), “is likely to be the downfall of the euro.” 
When it comes to evergreen issues for advisors, no topic is more timely and pressing than easing the exit strategies of advisor pioneers and “replacing” those departing advisors with a new generation of advice givers. It’s an issue Mark Tibergien (left) of Pershing has preached for years: that there is a talent shortage in the industry that will only grow larger as the baby boomers age and seek advice, and as those pioneers of the industry—the average age of a practicing advisor is somewhere in the mid-50s now—make their ways to the exit.