The recent decision by Fidelity Investment that it will not be charging any fees for certain index funds through its Fidelity Zero Total Market Index Fund for US stocks and the Fidelity Zero International Fund for stocks outside the U.S. raises some important questions for both advisors and investors.
The main question is: Now that more investment products(ETFs and mutual funds) have a very small or 0% cost, what is the dollar value of investment advice?
This question has been smoldering for decades, possible since the debate over the value of active vs. passive fund management, but with the growing popularity of robo-advisors and low cost-products, this discussion now has a more profound impact on the entire relationship between advisors, huge investment firms and their own clients.
In an interesting roundup article on Fidelity’s announcement from a European source (Advisor 2.0, managed by Robin Powell in the UK), a number of advisors offered their opinions on this major shift and all of them said it was a game changer.
One advisor summarized the situation by saying “the financial advice profession, including robo-advisers, have embraced the low-cost fund/ ETF model. The trend toward the commodification of asset allocation and portfolio management is already firmly in place,” according to Tadas Viskanta, Director of Investor Education, Ritholtz Wealth, “This development confirms that financial advisors will need to prove their value to clients in ways that go beyond portfolio construction.”
And since there are now more low- or zero-cost index funds (domestic and international) to choose from, investors can get more information from the fund companies themselves and the financial media. All this “creates an opportunity for sophisticated advisers to help them distinguish between smart innovations and gimmicks. And it’s not a moment too soon because the days of fund companies paying advisers to sell their wares are ending,” according to Nir Kaissar, (@nirkaissar) financial adviser and Bloomberg columnist.
So how should financial advisors adapt to this major change?
“From an adviser’s point of view, anchoring your value proposition to an active manager whose outcome you have very little control over is no longer viable,” Abraham Okusanya, @AbrahamOnMoney, Director of FinalytiQ said. “The job of an adviser has now shifted to helping clients capture market return by managing clients’ behavior. That’s an enduring value proposition.”
Can Advisors Manage Client Behavior?
In the U.S., this means much more than the hackneyed advice of telling investors to save more, work harder, take more market risk and hope for a bull market.
Instead, it should be clear to financial professionals that things are not going well for most Americans seeking long-term financial security.
And while it is a golden rule that most financial advisors only want to work with the wealthiest top 2% of Americans, it is safe to assume that 2% does not need your advice now. They have needs and contacts that don’t include anyone on LinkedIn or at the local Lion’s Club luncheon.
The political landscape that Americans see today has huge financial and wage inequality components that escape the financial advice scope of almost all advisors. This is understandable since investment firms religiously tell their advisors to avoid any discussions of politics. But the truth is that economics was originally the study of political economy, a term that originally encompassed moral philosophy.
Adam Smith was a moral philosopher who made ethical behavior central to his work, even in The Wealth of Nations (1776). By the mid-1800s, social engineering ascended “to heal the breech” between the natural world and the “puzzling, untidy, disturbing world of human
affairs.” (The Rise of Political Economy as a Science, Deborah Redman, MIT Press, 1997, p. 135). This was all part of making economics into a science, so logical reasoning could be used to provide solutions to social problems.
Should Financial Advisory Firms Provide Advice to Solve Social Problems?
Not even close. This is understandable today since even the Federal Reserve makes policy decisions that exclude social “externalities.” Following this lead, global corporations favor institutional shareholders, while financial corporations disadvantage their own clients by most notably opposing the fiduciary standard. This routinely happens when the big firms use their own customers’ money to pay lobbyists to work against their own customers’ best interests.
This puts advisors into an ethical dilemma and now the expansion of low- or no-cost products means clients can more clearly see the value of the advice they are paying for, as well as what the parent investment company is doing to advance their own financial interests outside of the face-o-face advice they receive.
Once more investors get informed about this situation, the worse it should become. This will put more pressure on front-line advisors to justify their services and costs.
One solution is to adopt the very popular fairtrade model used in many sustainable industries that says fairtrade (in part) should create better prices for producers (in this case, lower costs for investors) and “fair terms of trade” (full transparency).
It also means that advisors and their firms cannot ignore the political environment, especially when it comes to addressing the permanent retirement crisis that can only be solved with federal and state programs and financial-fiscal reforms outside of providing individual, face-to-face advice. While this may seem like a sensitive issue, it’s worth noting that specialized financial advisory firms already exist that cater to gay investors, Evangelicals and Muslims. A firm appealing to larger political interest group, such as progressives, would also find a fertile audience.
But it’s clear that ignoring the economic changes caused by an inequitable economic system won’t produce industry-wide sustainable growth in many financial advisors’ practices. For large investment firms, adopting a new business model based on political change will also mean the days of paying for huge, expensive wholesaler-sold, actively-managed funds should be moving towards the elephant graveyard.
So watch the national and local political landscapes for an indication of these changes. If the electorate makes changes promoting reform, the handwriting is clear for the financial industry to see.
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