To Succeed in the (Near) Future, BDs Must Avoid the Winner's Curse

Why is that the case? One reason the study cited is the revenue benefit for the BD when a rep uses the corporate RIA. The BD may charge 15 to 20 basis points for its services and may derive revenue from the funds and fund managers on the platform that it usually chooses itself. Finally, the revenue from those services is not subject to the competitive pressures of the BD’s payout grid, which we’ve seen affects a broker-dealer’s bottom line in the “winner’s curse” scenario.

Therefore, the study argued, it is in the best interests of the broker-dealer not just to encourage its reps to take a fee-based approach to their businesses, but also to encourage the use of the BD’s RIA rather than have reps form their own or use third-party TAMPs. “What should be without compromise” in a broker-dealer’s relationship with its reps is a “broker-dealer’s conviction to not be relegated to a vendor role, where they are merely one of several relationships,” the study warned. Instead, a BD’s advisory platform should provide advisors and end clients with experienced operations, integrated technology, due diligence of the investment options on the platform, and legal and regulatory support. Ironically, the study noted in its conclusion, such a platform “is highly sought by a market outside of the FINRA and broker-dealer jurisdiction: large RIA firms.”

Longevity and Stability

In looking at the importance of the sixth and final “transformation” that the Broker-Dealer of the Future must embrace, the study began by delivering some sobering statistics on the broker-dealer industry itself. Using FINRA data, FA Insight reported that 863 broker-dealers closed their doors from year-end 2007 through May 2014, bringing the total number of BDs to 4,142. Still, the study argued that “longevity is perhaps the most underappreciated advantage of working with a broker-dealer,” when that BD enjoys “deep capitalization to withstand the fluctuations of volatile equity markets,” along with “carefully constructed custodian agreements” to protect individual investors. For advisors, broker-dealers must exhibit a “sustainable strategy” that will provide them with a “solid foundation to build a practice.”

While many advisors like to complain about their broker-dealer’s compliance department (think of the pejorative phrase used by some reps to refer to compliance as the “sales prevention department”), reps searching for a Broker-Dealer of the Future should appreciate a compliance department that during the financial crisis of 2008-2009 “showed the importance of compliance as part of the culture of the firm.”

Having such a “right culture” with its system of checks and balances not only helps protect the firm against bad publicity, but also the assets of individual investors, the study argues, and advisors themselves. The “right culture” must extend into the due diligence process of new products, the study said. While the tight margins of broker-dealers can make the marketing fees and high commissions of certain new products attractive to BD leaders, “compromising the integrity of the research process to capture such opportunities can have disastrous results.”

Looking at strategic longevity, the study recalled the sales of many broker-dealers over the past few years, which have made many BD reps “increasingly leery of the potential sale of their broker-dealer” because of the changes—not always positive—that come with an acquisition. To be successful in both organic growth and recruiting, therefore, the leaders of the Broker-Dealers of the Future must be able to “make a strong statement about [the firm's] own stability” and convince its advisors that they are “dedicated to the business and can handle succession issues.” Only then, the study concluded, will those successful broker-dealers “earn the trust of both financial advisors and individual investors, and have a bright future.”