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Financial Planning or Asset Management? Clients Need Both

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Well, our ongoing discussion of the relative merits of AUM fees vs. flat fees appears to be resonating with many advisors, who continue to post thoughtful and insightful comments on the subject. I suspect that the recent interest in this discussion is driven by a number of factors, including the decades old disappointment that most financial planners can’t get paid for financial planning alone, the more recent forays of brokers and breakaway brokers into retail asset management at ridiculously high fees and the emergence of “robo-advisors” offering computer-managed portfolios for ridiculously low fees. 

Taken together, these events are more than enough reason to reexamine the current  independent advisor business model based on AUM fee compensation. Yet I started this discussion out of concerns about the tenor of recent critiques of AUM fees by flat-fee advocates, who seemed to have overlooked many of the client benefits of management fees—which have propelled independent advisors to the top of the heap in retail financial services.

At the same time, I should reiterate that I have no problem at all with advisors charging flat fees for their advice: the advisors themselves appear exceedingly client-oriented, and flat fees offer many of the advantages of AUM fees, avoid a few of the conflicts and, as the Hitchhiker’s Guide to the Galaxy described the planet Earth, are mostly harmless.

Now for the newest comments in our discussion of advisor compensation. Brett Alexander addresses the issue of whether AUM fees create conflicts in the way advisors manage client portfolios: “Regardless of type of compensation, the fiduciary standard still applies. Both a ‘financial planning’ based [advisors] and ‘AUM’ compensated advisors are held to the same standards in the eyes of the SEC and state regulators. An AUM-fee-based advisor can’t simply open an account and run it like George Soros. When the regulators come knocking, you better be able to show your process on how you matched the client portfolios with their desired goals and risk levels. The argument that someone providing “comprehensive financial planning” is more aligned with the client’s interests is a red herring.” 

I would add to Brett’s comments that it feels to me that some of this discussion has lost sight of what managing an investment portfolio is all about: particularly when focusing on the fact that AUM-fee advisors continue to get paid when client portfolios decline in value.

The “value” of portfolio management isn’t just when a portfolio grows: minimizing those inevitable market drops and helping clients decide when to avoid further losses by selling an asset and when to ride out the down markets both add tremendous value.

So I don’t understand why it doesn’t make sense that an advisor still get paid during down markets, yet share the client’s pain by getting paid a little less. After all, if the client doesn’t sell during down markets, they’ve experienced no financial loss at all. 

Next, Carolyn McClanahan writes: “It appears the fundamental difference in our views is you state the assets drive the plan, and I say the plan drives the assets. For example, if someone has few assets, or if their assets are tied up in a business created by their human capital, how would an advisor who works on AUM provide advice to that client?…Controlling spending, savings, mitigating risk, and proper maintenance of human capital are components clients can control in their plan. By focusing on these things, and managing the assets in conjunction with the plan, they can more likely avoid failures by both clients and their advisors when the capital markets do not deliver as expected (example – 2008). Again, charging based on AUM is a disservice to the model of true planning in this regard.” 

Again, Carolyn, I feel your pain. I don’t believe anyone in this discussion (certainly not I), is suggesting that there isn’t any value to financial planning. In fact, without a financial plan, asset management is just a trip without a destination. Yet in the 40-year history of financial planning, very few planners have actually gotten paid for doing financial planning.

Most people just don’t see the value in financial planning enough to pay for it. But the reality is, whether you charge a flat fee or an AUM fee, what people are paying you to do is to manage their investments so they can reach those financial goals you’ve established for them.

That’s the engine that drives the “plan,” and what most people are willing to pay for. And for good reason: most people today can’t reach their financial goals and meet their financial obligations without investing—and they know it. And so they’ll pay for it.

While it’s certainly more efficient to have a plan, far fewer people know that. I’m not saying that portfolio management is more important than the financial plan. I’m just saying it’s a moot point. To win the battle with brokers and robo-advisors, today’s professional advisors have to offer both.

If it makes you feel better, by all means, charge a flat fee. But if you think your clients are paying you to do financial planning, history suggests otherwise. 


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