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Indie BD Reps Most Likely to Outsource Model Portfolios: Cerulli

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Is there a business case for outsourcing?

New research from global research and consulting firm Cerulli Associates focuses on the benefits that advisors attain when they outsource and rely on model portfolios in their practices.

“The Department of Labor’s Conflict of Interest Rule has raised standards for investment due diligence and documentation; consequently, advisors making their own investment decisions increases potential liability for broker-dealers,” Kenton Shirk, director of Cerulli’s U.S. Intermediary practice, said in a press release. “In response to this growing concern of liability, [broker-dealers] seek to refocus advisors on home-office discretionary programs.”

According to research from Cerulli, advisors underperform home-office programs. Between the first quarter of 2010 and the fourth quarter of 2016, home-office-packaged portfolios delivered an average annual return of 5.19%, compared with 3.70% for advisor-created portfolios.

As a result, BDs want to refocus advisors on home-office discretionary programs that give more control to home offices’ research teams. Asset managers are responding by adjusting distribution strategies to reflect the growing influence of professional buyers.

Both BDs and asset managers need to understand the advisor’s requirements and objectives if they want to identify and influence portfolio construction behaviors.

As part of its research, Cerulli compared the portfolio construction process for advisors affiliated with wirehouses, independent broker-dealers (IBDs) and independent registered investment advisors (RIAs).

“Use of model portfolios is prevalent across all three channels with at least 74% of advisors using either practice models or outsourced models,” Shirk said.

Practice model users are those who rely on model portfolios created from scratch by advisors, a chief investment officer, or analysts employed within the practice, and these advisors insource investment decisions. Whereas advisors who primarily use outsourced models rely on model portfolios built by a BD home office or other third party, and these advisors outsource investment decisions.

Cerulli finds that outsourcing model portfolios to a home office or third-party provider is most common among IBD advisors: 43% do so.

This is “likely due to the advisors’ role as both a financial advisor and a business owner, accompanied by their propensity to be financial-planning-oriented,” Shirk said in a statement. “These attributes create time constraints, making it essential for IBD advisors to turn to outsourcing.”

More than one-quarter of wirehouse advisors (27%) also outsource portfolio construction, while RIAs were found to be the least likely to outsource (12%).

Interestingly, the research also finds that IBD advisors who outsource are less productive than their peers. IBD advisors who outsource tend to have lower levels of assets under management and emphasize mass-market clients. These firms have notably lower AUM per total practice headcount compared with those who build custom portfolios or practice models.

“This suggests that IBD advisors who outsource tend to struggle more to build operational scale even though they outsource a core function with the intent of increasing capacity,” Shirk said in a statement. “In turn, this implies that they may outsource to sustain a higher volume of lower-balance clients.”

Comparatively, the research finds RIAs that outsource models tend to be solo advisors with small firms operating with limited support staff. Smaller RIAs may be more receptive to outsourcing, skewing productivity metrics, because they are resource constrained, according to Cerulli.

The research finds that wirehouse advisors are more successful at outsourcing in terms of productivity.

Wirehouse advisors who outsource models are also large individual advisors and teams that focus on HNW clients, but they are more likely to emphasize wealth management and financial planning. These advisors use time gained to execute on financial planning and wealth management services, according to Cerulli.

— Check out The 3 Best Ways Indie Firms Can Add Female Advisors on ThinkAdvisor.


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