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Industry Spotlight > Broker Dealers

4 Reasons Small BDs Are Under Pressure

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Higher interest rates are enabling money market accounts, sweep accounts and margin accounts to contribute noticeable profit increases to the bottom lines of some broker-dealers.

But though we’ve seen a bump up in profitability for BDs in general, we also see some worrisome trends unique to smaller organizations, which will work against their future survival.

Here are the four trends most affecting small broker-dealers today:

  • Fewer mutual fund sales and more ETF sales;
  • Fewer REIT and alternative investment sales;
  • More retiring advisors, lower rates of succession plans and recruiting difficulties; as well as
  • A lack of scale, which puts them at a disadvantage on the services they offer, their technology and profitability
  1. Lower Mutual Fund Sales

As the market has shifted away from mutual funds and toward ETFs, 12-b1 trailing commissions and mutual fund commissions that broker-dealers previously relied on for income are quickly disappearing.  

Mutual fund companies, variable annuity and fixed annuity companies are paying small BDs substantially less than larger firms, and in some cases, nothing in terms of revenue sharing.  

  1. Less REIT and Alt Income

Some smaller-broker dealers specialize, or at least emphasize, sales of REITs and alternative investments. These products are highly profitable for broker dealers, as they can earn 1% to 1.5% more in commissions on sales of these product sales vs. sales of some other investments; this extra commission is often referred to as marketing allowance.

In the last two years, sales of these products have dropped dramatically, which means some small BDs have been scrambling to fill the void of lost profits.

  1. Retiring Advisors, Recruitment Woes

Since 2012, the number of broker-dealers offering forgivable note money (or loans) has grown to include many midsize firms. More and more advisors changing broker-dealers expect forgivable notes to be part of their recruitment packages.

But small firms typically don’t have the capital needed to offer note money early on in the recruitment and related due diligence process, which means smaller firms are frequently cut out of contention.

Advisor sentiment about the questionable survival of small firms is very real, giving small firms an industry reputation of being financially frail. The struggle to keep up with FINRA demands further adds to their struggle to compete.  

One way, unfortunately, that a handful of firms seems to have grown their ranks is by lowering their compliance standards and bringing on advisors with multiple disclosures that larger firms turn away.

The new FINRA rogue broker rule will affect 61 firms, 55 of which are small broker-dealers with less than 150 registered representatives. (Six are midsize broker dealers with 151 to 499 advisors). The irony is that the broker-dealers that can least afford compliance problems often end up taking on the most risk.

Besides advisors with compliance issues, some small BDs are failing to address their aging advisor population. Meanwhile, a good number of midsize and large firms are helping their advisors with succession/continuation plans, as well as financing of those sales. Smaller organizations frequently have been far behind the curve on what they can offer an advisor in succession assistance.  

We get calls from advisors in their 60s or 70s who are desperate to find successors for their books of business. Their broker-dealers have no other advisors in their geographic area, nor do they offer any financial support to these retiring reps.

The average age of financial advisors today is 51, and nearly one-third of all financial advisors are projected to retire within the next 10 years. Small firms likely will see their advisor numbers shrink as advisors retire, and they are poised to lose assets due to their increasing inability to recruit advisors who can fill this void.  

  1. Poor Scale

While larger broker-dealers can make profits of 15-20 cents per dollar of revenue, smaller BDs make 5 cents on the dollar at best. Market forces have evolved to a point where smaller firms are now seeing less than 5% of their topline making its way down to EBITDA.

There are two main reasons:

First, small broker-dealers are making a decreasing amount of revenue from vendors.

Broker dealers make 1-10 basis points on either assets or sales of mutual funds and variable annuities; small firms make 1 to 2 bps vs. 8 basis points or more at many larger firms. Larger firms also have the ability to make these basis points on assets and sales, as they leverage their scale to obtain more of both.  

Second, operating expenses are dramatically lower for larger firms due to scale.

With the additional profit, scale gives larger firms more power to do things that help clients, such as capital to spend on marketing, back-office technology, services that enable advisors to operate more efficiently and focus groups.  

Tough Times

As a recruiting firm, we started pulling away from working with smaller firms in 2014, when we saw their ability to compete wain.

One small broker-dealer we worked with for many years, Wall Street Financial Group, decided to become a Super OSJ with Securities America in September 2016. It rebranded itself as Evolution Financial Advisors. President Victoria Bach continued in her leadership role, and her business partner Rob Anderson stayed on board.

“After several years of trying to run our BD/RIA within the ever-increasing strictures of a changing regulatory landscape, we found ourselves on a battlefield of slimmer margins, robust technology developments that seemed out of reach, marketing and business development needs of advisors and competitive advisory platforms; we painfully realized that, as a small broker-dealer, we could not keep up,” Bach explained.

“Against the increased costs of regulations and litigation plus the financial squeeze of products, ticket charges, high payouts, FINRA fees, SIPC fees and others, we were losing ground even with the changes we’d implement to adapt. We were missing out on recruiting opportunities, because we couldn’t provide transition assistance, nor did we have the offerings that mid- to large-sized BDs advertised,” she said.

“Finally, we lost some advisors with whom we’d had a good history as they looked to grow their businesses in ways that we couldn’t support with the resources we had at the time. With all this staring us in the face, we started looking into winding down our BD and our RIA to become a Super OSJ with a larger firm,” according to Bach.

Historically, smaller firms have been able to offer stellar service to their advisors, with strong relationships between advisors and both the management and staff of BDs.

At one time, that was enough for these organizations to thrive and grow.

Today, as the number of regulations increases and market trends shift, small firms are at a disadvantage. If the economic and market tides go out, small BDs could resemble swimmers at a clothing-optional beach.   


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