Giving counsel on which assets to buy was once the central pillar of what registered investment advisors (RIAs) in the U.S. offered clients, but in recent years their role has sprawled to include financial planning, tax advice and other services.
Investing now takes up just 25 per cent of their time, according to this year’s Financial Times’ (FT) 300 top RIAs report. Yet, the vast majority still charge clients based on their assets under management (AUM) – leading some industry observers to question whether this represents good value for clients.
“The AUM model is prevalent because it’s easy to explain, and regulators accept it,” says David Canter, head of RIA and family offices at Fidelity Institutional, which provides an array of services for advisors. The recurring revenue also suits advisors, he adds.
Yet, not all advisors and clients are happy about the dominance of the AUM fee. A common criticism is that the rising financial markets of recent years have enlarged clients’ accounts, meaning they have to pay their advisors higher fees regardless of the amount of work those advisors are putting in.
“It doesn’t take more time to buy 1,000 shares of stock versus 100 shares of stock, so why should the advisor get paid more for the account that needs 1,000 shares?,” says Randy Waesche, chief executive officer at Resource Management, based in Metairie, La. “More clients are going to be asking what sort of value they’re getting for the dollars they’re spending.”
His firm is part of a small but growing segment of the market that does not adhere solely to AUM-based charges. Resource Management charges clients separately for services outside of investment management, based on a combination of hours worked and the complexity of the tasks.
Wealth-management company Charles Schwab, meanwhile, adopted a subscription advice model last year: clients can receive unlimited advice from a financial planner for a one-time fee of US$300 and an ongoing charge of US$30 a month.
Hourly fees, flat fees and similar arrangements rarely generate the same revenue as asset-based fees, however. Where advisors do use them, some will provide a more basic service to compensate for lower revenues, while others offer these structures to attract younger investors with fewer assets.
The proportion of advisors in the FT 300 report charging a combination of AUM-based fees and flat fees rose to 28 per cent in 2019 from 26 per cent in 2018.
Buckingham Strategic Wealth, based in Clayton, Miss., takes the vast majority of its revenue from AUM fees, but it uses flat fees for specific projects such as financial planning.
“The AUM model is still primarily our model of choice, but we’re in the service business and so we have to be flexible,” says its president, Wendy Hartman.
Asset-based charges typically decline as accounts get bigger. That means, for example, a US$1-million account might be charged 100 basis points (bps) a year while a US$10-million account might be charged 70 to 80 bps.
Even so, among FT 300 advisors, the average AUM fee has held steady at 73 basis points for the past three years, which can look odd when other parts of the asset management ecosystem have seen dramatic fee reductions.
Last year, for example, discount brokerages such as Charles Schwab and Fidelity, which had charged roughly US$5 to US$9 per trade, cut those commissions to zero. Meanwhile, the battle between passive and active management styles over the past decade has brought down costs significantly for managed funds.
Rather than cut fees, many RIAs are competing by increasing the services they provide but for the same cost – in effect a form of fee compression.
For clients of The Colony Group in Boston, the AUM fee includes connections to college admissions consultants for students and travel concierges. The advisor will also charge hourly for additional services such as bookkeeping. “We are constantly under pressure to offer value for what we do,” says Michael Nathanson, chairman and CEO.
Yet, Michael Kitces, publisher of financial planning industry blog Nerd’s Eye View, argues that the real weakness of asset-based fees is that they limit advisors to only take clients with enough assets to make it economical.
“The AUM model works well for those it serves. But it limits the market,” he says.
An investor with US$100,000 might generate only US$1,000 a year in fees, so would be turned away by many RIAs. Among the FT 300, 61 per cent of advisors set an account minimum of US$500,000 or more.
Mr. Kitces has also co-founded a membership organization of advisors offering subscription-based fees. He sees this pricing model as an opportunity to serve clients who have fewer assets but who still need advice.
“It can make advice more affordable,” he says, while opening up the market to millions more investors and deepening the client pool for advisors.
For now, at least, most advisors expect AUM fees to continue to be the standard. But both client and advisor should benefit from the latter’s greater willingness to experiment with how they charge.
Loren Fox is director of research at Ignites Research.
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