Monthly Archives: February 2014

Why is Asset Consulting so lowly valued by the market? 19 February 2014

Imagine a financial adviser’s investment committee that consisted of Kerr Neilson, David Hale and Warren Buffet (as an example) – the committee meets each month to discuss current market conditions, asset class valuations, future risks (regulatory, geopolitical etc) and then provides a list of suitable investments and tail risk ideas to match the prevailing market conditions in way that all of the moving parts work together.  In essence, advice that is insightful, original, powerful and actionable, and definitely different from the crowd.

What would this advice and insight be worth? A low fixed annual cost, a small basis point fee or a substantial fee?

One might assume, that if affordable, an adviser would pay a great deal for such priceless insight from such an esteemed panel – I am also sure that the end customer, knowing who was on the investment committee would be more than happy to pay a higher fee than what might be offered by the planner next door, who also had a committee, but who had driven the price of that ‘insight’ so low, that the ability to hire the best talent pool would be impossible – after all, “price is what you pay and value is what you get.”

Hopefully, we can all agree that managing money in such an interconnected and complex investment environment is very difficult, and that not everyone can read these conditions with equal skill.  In the low cost part of the consulting world, simple and scalable models help to combat the ‘you don’t need skill’ argument by offering academically verifiable models such as Strategic Asset Allocation (SAA) services using a mix of passive core holdings with alpha satellites – i.e. I get my skill at the manager level and am happy to pass up the additional value in the asset allocation piece because in the long run the future will look like the past and that ‘markets work’.

Providing five SAA models that match five risk profiles, for example, with intermittent tactical (albeit hard for to act on) advice is not that difficult.  I believe that career risk management and agency issues are at play here too… “it wasn’t me, it was the market and in the long term…” fair enough, we all have mortgages to pay.

In my view, the standardized SAA solution perfectly matches the “I can’t/don’t want to pay for insight” problem because in essence, it is an excel spreadsheet that solves the asset allocation problem in an undifferentiated way, with the manager/investment selection piece actually funded by the managers themselves – but is this really how clients want their money managed in an environment where objective based advice and multi asset/dynamic portfolio manufacturing is on the rise?  That is, insight should be at a massive premium right now but is being priced as a low priced and widely available commodity.

When we look at the consulting market, there is cut throat competition amongst the providers (maybe we have too many in Australia?), either by small individuals (desperate to survive/thrive) or from large research houses, that structurally enshrine the low cost model – it is hard to win business when you are in the ‘insight’ end of the consulting world in this environment, if the offer is 100-200% more expensive than the market average for ‘similar’ services.

So how did we get here? 

I do not think there is one simple cause but some of the underlying drivers (not in any order and not exhaustive) might be as follows: –

  1. Industry funds have effectively gotten the entire industry to drive prices down across the value chain.  Why pay a lot for asset consulting in that environment?  This explains the rise in low cost ETF portfolios that have simple SAA models to back them – is this how you want your own money managed though? It seems more like a business solution than a client solution.
  2. The research industry (in the main) is funded and paid for by fund managers.  With the revenue generated by product ratings, research houses can provide low cost IC representation services and “scale” that advice at low cost.  What would the cost of that consulting be if the managers did not indirectly fund this consulting pricing model?
  3. In addition to point 2. Researchers may sell the IC service as a loss leader, which grows their market share, which means they have greater reach over greater FUM, which means more managers want a rating from those houses who want access to that FUM…
  4. There are a number of smaller consultants who have very low overhead and can provide a decent service for some components of the investment committee role (e.g. asset allocation, manager quant, economic reports etc) – but if those consultants are sitting on numerous committees, where is the differentiation and is it really tailored for the advice process and unique needs of that practice?  As importantly, how do you bring all of the moving parts together and then implement?  This is the really hard part for advisers.
  5. Maybe consultants have been unable to demonstrably show how they have added significant wealth through their investment calls over time, which if empirically provable, could justify higher fees.  Is this an opportunity for the higher priced providers to get their voice heard more?  Prove it and I will pay!
  6. Smaller boutique advice firms who are attempting to stay independent (more please!) but do not necessarily have the revenue base to pay for the best talent, may take a compliance approach and say, “good enough will do.”
  7. The Internet has disseminated ideas with ease and maybe advisers are sourcing their ideas from the lowest cost platform of all.
  8. Advisers have been let down by poor decisions by consultants who may have vested interests (e.g. they have their own implemented models) and are now backing themselves more and using consultants as sounding boards only.

 

Some of these comments are simplistic of course and I am just hypothesizing, whilst considering Sir Templeton’s wise words – the vicious circle feeds on itself because how could an ‘insight’ consulting business raise capital to build a first class service if the capital funders saw the level of pricing offered in the market – no thanks!

But some observations in light of the above hypothesis: –

  1. Why are advisers prepared to pay more for basic administration (e.g. wrap fees) than insightful advice (this may not be the case on large account balances) – what is worth more to the end consumer over time?
  2. Why do consultants even play in the game for providing such low cost services?  Wouldn’t it be better to vertically integrate and create a first class investment and advice proposition that was independent and stood for something?
  3. Why do advisers think their business will be safe when groups in the UK like Nutmeg (“we can help you set up a portfolio in ten minutes” or in the US like Betterment, are providing online advice/portfolios using algorithms to solve the risk piece and then matched with low cost ETF portfolios at a low monthly fee?  Do we think Australia will just avoid this phenomenon?  I doubt it.

 

Of course, I do not have the answers but if I think about how I want my own money managed (a survey of one!), I am prepared to pay higher fees for insight that preserves my capital, provides a great risk/return outcome and brings me ideas that make sense that I could not get anywhere else.  If I want low cost, I can now buy it online without speaking to an adviser (and yes, this ignores the great value advisers offer outside of the investment piece – but it is that piece that funds the revenue base (largely) of the entire advice industry!

The challenge for the higher priced/premium consultants in the market is to show empirically how that insight has flowed through to consumer wealth outcomes and consistently over time, knowing that mistakes will be made from time to time, and then to explain each decision in a way that advisers and consumers can understand in their language – without this, the low cost consultants and industry funds will have won the day but maybe they will lose ultimately to the online providers leaving a gap for the premium players who choose not to compete in this space – as always, we live in interesting times!

Andrew Fairweather, Founding Partner and Managing Director, Winston Capital Partners