Weekend Reading For Financial Planners (Oct 8-9) 2022

Author: Adam Van Deusen

Team Kitces

Adam is an Associate Financial Planning Nerd at Kitces.com. He previously worked at a financial planning firm in Bethesda, Maryland, and as a journalist covering the banking and insurance industries. Outside of work, he serves as a volunteer financial planner and class instructor for non-profits in the Northern Virginia area. He has an MA from Johns Hopkins University and a BA from the University of Virginia. He can be reached at [email protected]

Read more of Adam’s articles here.

(Ryan Neal | InvestmentNews)

The past decade has seen a surge in digital investment tools available to consumers. From applications like Acorns and Stash that allow consumers to begin investing small amounts at a time to robo-advisors such as Betterment and Wealthfront that handle asset allocation and rebalancing, to digital tools offered by major asset managers (e.g., Vanguard Digital Advisor and J.P. Morgan Automated Investing), there are tools targeted at investors of all wealth levels. However, recent research suggests the current bear market appears to have led some investors to turn away from these tools.

According to research from Parameter Insights, usage of digital advice tools among consumers fell for the first time in 2022 to 20.9% from 27.7% in 2021. Notably, the biggest losses were seen at higher levels of wealth, with usage among those with a net worth of at least $500,000 declining from 38.3% to 14.5% (compared to a decline from 23.6% to 20.6% among those with less than $50,000 of assets). Further, the use of online brokerages by U.S. self-directed investors fell from 35.9% to 22.9% in the past year, according to separate research from Parameter.

Overall, these data points suggest that while digital tools and online brokerages were popular among do-it-yourself consumers during the bull market (when investment gains were easier to come by), the current bear market has driven some investors to seek alternative sources of advice. This presents an opportunity for human advisors to pursue these investors, who are likely looking for more personalized advice than what the digital tools offer. Though, notably, advisors can take advantage of the digital advice tools as well, as many of these companies have pivoted to working with advisors, and can allow advisors to spend more time doing the tasks (like relationship-building) that clients seek from a human advisor!

(Jennifer Lea Reed | Financial Advisor)

Financial advisory firms often devote a significant portion of their budget to their tech stack. At a time when a variety of tools are available to support advisors across a range of business functions, many firms see technology adoption as a way to improve the efficiency of their advisors (though, in reality, this might not be the case!) However, for building or purchasing software to be effective, the firm’s advisors (and clients) have to actually use it.

But a recent survey by the Money Management Institute (MMI) and Aon found that around a third of advisors prefer to use third-party tools over the tools their firms provide. The researchers suggested that one reason is that some firms built their tools incrementally, adding functions and capabilities over time. But this can lead to a situation where the tool is still based on a decades-old platform. And at a time when an increasing number of AdvisorTech solutions are growing the number of integrations with each other, internal, standalone software can lag behind in this regard. And according to Kitces Research, self-built tools often lag in advisor satisfaction compared to third-party software, including in the CRM and financial planning software categories.

In addition to uneven advisor adoption, the MMI/Aon research found that fewer than half of advisory clients said they were very satisfied with their advisor’s digital tools. Many of the more commonly used tools were simpler, including communication tools (e.g., video conferencing and messaging) with a 69% adoption rate, along with account aggregation (66%) and personal goal tracking (65%). Further, the study found a client’s life phase tended to influence the tools they wanted to use; for instance, digital budgeting tools were more popular with younger clients, and retirement income software was more popular with older clients.

Altogether, this survey suggests that firms with a ‘one-size-fits-all’ approach to their tech stacks might want to consider the preferences and needs of both their advisors and clients. And given the range of software solutions available to different client types, firms that serve a more focused clientele are more likely to improve their tech stack in a more cost-efficient manner, only purchasing the tools applicable to their clients (and that allow the advisors to go deeper based on their specific needs). The key point is that technology is only valuable if it is actually used by a firm’s advisors and clients, so when selecting software, firms can consider not only their advisors’ and clients’ needs, but also the user experience that will make them actually want to use these tools!

(Jake Martin | AdvisorHub)

When an advisor prepares to sell their firm, they often take pains to make sure that their clients will be well taken care of by the purchasing firm. Often this is because the advisor simply wants to be certain that clients that they worked so hard to get and care for will still be cared for up to their standards; in addition, though, “fit” also matters because if the acquiring firm isn’t a good fit, the clients aren’t likely to be retained (which usually reduces the value of the business and purchase payments to the seller). In practice, such evaluations typically entail an assessment of the acquiring firm’s culture, planning and investment philosophies, and service offerings, to ensure it matches the seller’s style and what the selling firm’s clients are accustomed to receiving. But recent charges brought by the Securities and Exchange Commission (SEC) against two advisors highlight that there is a more direct legal fiduciary obligation that selling advisors need to conduct formal due diligence on the firms they sell to, and perhaps even stay apprised of how clients are being received after the sale, to ensure that the buyer does not engage in fraudulent activity.

Because, in late September, the SEC brought charges against advisor James Daughtry for breaching his fiduciary duties to his clients, when he sold his advisory business to another broker, Jared Eakes… who would go on to steal more than $2.6 million from those clients. While Daughtry was unaware of Eakes’ fraud, the SEC alleges that Daughtry had conducted “very limited due diligence” into Eakes’ business. In addition, even though Daughtry had promised clients upon the sale that he would continue to monitor their accounts and review proposed investments, the fact that he ceased doing so without informing his now-former clients, and then failed to act when presented with client complaints and other red flags regarding Eakes’ conduct, also meant that he had failed to act in his clients’ best interests.

This case demonstrates that advisors planning to sell their firms will want to look beyond the purchase price and take their due diligence responsibilities seriously, both when looking into the acquiring firm’s planning and investment philosophies and client service practices, but also into any questionable business practices or disciplinary red flags. And also emphasizes that to the extent that sellers commit to remaining engaged with clients for a period of time after the sale, they are really expected to do so… not just to facilitate the client transition, but also to ensure that no red flags arise in the post-acquisition behavior of the buyer (and/or to at least be responsive to clients who do raise such red clients). Because as the SEC’s case highlights, not only could the selling advisor’s clients suffer, but the advisor themselves could face direct consequences from regulators for not upholding their fiduciary duty to clients in and through the sale of their practice!

(Robert Powell | MarketWatch)

There are many aspects of personal finance that engender debate among advisors, from the benefits of traditional versus Roth contributions to optimal portfolio glide paths. But one piece of advice that is almost universally recognized is the importance of starting to save and invest early to take advantage of years of compound growth. But some researchers have questioned this wisdom, suggesting that this saving is unnecessarily limiting individuals’ consumption in their early working years.

According to the “life-cycle hypothesis”, rational individuals allocate resources over their lifetimes with the aim of avoiding sharp changes in their standard of living. For instance, individuals could choose to spend all of their income (or even borrow to consume more than their current income can support) early in their careers, and only save for retirement later on when their salaries are (presumably) higher. This conflicts with the popular guidance that individuals should start to save and invest as soon as they are able to allow their money to grow by the time they need to access it (e.g., in retirement).

But a new study suggests that higher-income individuals might be better off foregoing retirement plan contributions (even if it means giving up a company match!) early on in their careers and only starting to save for retirement as they enter middle age and their income grows (so they could save and maintain their standard of living). Further, the authors suggest that the optimal savings rate for workers who expect to have relatively modest incomes throughout their careers is even lower, because Social Security will replace a significant percentage of their working-age income.

This study raises several potentially significant implications for saving and spending patterns, though the research does come with caveats. First, the authors do not recommend eschewing all savings; for example, an emergency fund could ensure individuals can cover unexpected expenses without building high-interest debt (that can serve as a negative drag on consumption) and saving for a down payment is often necessary to purchase a home (a consumption good). In addition, it is worth noting that the researchers assumed savings would return a riskless interest rate matching the rate of inflation, significantly lower than long-run expected returns if the money were invested in the stock market (the authors take their approach because of the risk involved in investing in higher-returning assets). The study also assumes that individuals will have the discipline to save in their later years and not let their consumption increase directly in line with their income.

In the end, while advisors (and many consumers) might bristle at the idea that higher-earning individuals should forego long-term savings early in their careers, the study does raise important questions about the optimal balance of consumption and savings for younger workers. For some workers, the optionality that peace of mind that significant savings can provide could be a form of consumption itself, while others might prefer to consume more during their early years in return for a smaller nest egg in retirement. The key point is that it is important for advisors to recognize that consumption preferences are likely to differ significantly among their clients, and that their savings rates can be adjusted accordingly!

(Evan Simonoff | Financial Advisor)

In 1994, financial planner William Bengen published his seminal research study on safe withdrawal rates. The paper established that, based on historical market data, a person who withdrew 4% of their portfolio’s value during their first year of retirement, then withdrew the same dollar amount adjusted for inflation in each subsequent year, would never run out of money by the end of a 30-year time horizon – even in the worst case sequence of returns ever experienced in the historical US data. From this insight, the so-called “4% Rule” was born.

And while the 4% Rule appeared to be sustainable (or perhaps too conservative?) during the bull market of the past decade, the combination of weak market performance (in both stocks and bonds) and high inflation this year has led some to question the ongoing appropriateness of the guideline. For his part, Bengen is sticking with the rule, instead choosing to adjust his asset allocation to be more conservative during the current bear market. He thinks it would take inflation of 6% to 8% for close to a decade for him to consider recommending a permanent reduction in the withdrawal rate (e.g., to 3%).

Ultimately, the key point is that the 4% rule is just a starting point for retirement income conversations, as other factors, such as the timing of claiming Social Security and any other ‘guaranteed’ sources of income they have, can influence a client’s plan. And given the range of client preferences for generating income in retirement, being sure to understand each client’s capacity and willingness to accept risk and their ability to be flexible with their spending might be one of the most important ‘rules’ of all!

(John Manganaro | ThinkAdvisor)

While the “4% Rule”— which suggests that a person who withdrew 4% of their portfolio’s value during their first year of retirement, then withdrew the same dollar amount adjusted for inflation in each subsequent year, would never run out of money by the end of a 30-year time horizon — has been subject to numerous challenges and critiques over the years (with some calling it “too safe” and others claiming it is not safe enough), 4% remains anchored as at least a productive starting point for countless retirement planning conversations (before narrowing-in on more client-specific recommendations).

While a recent critique of the 4% rule has centered on high U.S. stock market valuations (at least before the current bear market) and the likely potential for reduced returns going forward, a new study takes a different approach, arguing that the U.S. market returns that the 4% Rule was based on were not reflective of returns across developed markets during the period studied. In fact, the authors find that when using this broader international data set over a longer time period, the ‘safe’ withdrawal rate for a 65-year-old couple with a portfolio made up of 60% stocks and 40% bonds and 1% tolerance for running out of money would be 0.80% (compared to a 3.39% safe withdrawal rate when only investing in U.S. stocks and bonds)! Even if the couple had a 5% tolerance for depleting their assets, their safe withdrawal rate would only increase to 2.26% using the developed market sample.

Overall, this new study suggests that if future investment returns for retirees reflect the historical experience of broader developed markets rather than just returns experienced in the United States, retirees may no longer be able to rely on a 4% safe withdrawal rate. Of course, advisors might argue that incorporating French stock market returns from 1890 is not a highly relevant factor for projecting safe withdrawal rates for U.S. investors today, but the research does show that many countries did not experience the same level of returns seen in the United States during the 20^th century (and for the U.S., as the saying goes, past returns are not necessarily indicative of future returns). In addition, with a range of alternative strategies available, from risk-based retirement income guardrails to guaranteed income products to reduce longevity risk, advisors have a variety of tools at their disposal (beyond fixed safe withdrawal rates) to help their clients create a sustainable retirement income plan!

(AdviserVoice)

There are countless metrics advisory firms can use to measure their firm’s success, in absolute terms and compared to industry-wide benchmarks. And while firm owners often have metrics like Assets Under Management (AUM), revenue, and profitability at the top of their minds, the use of a more comprehensive group of data points can provide a more robust picture of the firm’s health.

One category of metrics pertains to client satisfaction and loyalty. These metrics can include the “Net Promoter Score” (which is based on the question “Would you recommend this company to a friend”?), or by looking at client reviews on third-party websites (which could represent an important opportunity under the SEC’s new marketing rule). Second, firms can assess client service delivery metrics, which can give firms an idea of how well they are meeting their promises and can be measured with data on how quickly the firm responds to prospect and client emails and phone calls (and surveys on whether the clients and prospects were pleased with this response time). A third set of useful data points pertains to how individuals interact with the firm’s website. Three valuable metrics include users (the number of unique people who visit the website during a certain time period), sessions, the number of separate occasions the site has been visited by a user, and page views, or how many individual pages of the site were viewed. And using a tool like Google Analytics can provide more advanced website data as well.

Advisory firms can also assess their prospect and client communication and engagement metrics. For instance, email campaigns can be measured based on areas such as the open rate, click-through rate, and conversion rate (the rate at which recipients follow a call to action). In addition, social media posts can be assessed for the number of impressions they receive and the engagement that they create. Finally, firms can also use client sustainability metrics to measure the strength of their client relationships. These can include the number of referrals received from clients as well as the client retention rate.

Ultimately, the key point is that for a firm to understand its health, it needs to go beyond AUM or revenue and look at underlying metrics that can show how its clients feel about the service they are receiving as well as the firm’s effectiveness in attracting new clients. And by comparing these results to industry benchmarks, firms can then identify areas where they lag other firms and make the changes needed to become a stronger and more sustainable business!

(Brett Davidson | FP Advance)

Business management thinker Peter Drucker’s quote “You can’t manage what you can’t measure” is particularly applicable to advisory firms. And while analyzing metrics often comes naturally to advisory firm owners (who help clients with their own wealth ‘metrics’ throughout the day), these data points can vary in their ability to show the growth prospects of the firm.

For example, many firms measure themselves based on AUM, but this is a ‘lagging’ metric that shows the results of the firm’s work to date but does not give a picture of where the firm might be going in the future. For instance, a firm with $100M in AUM that has onboarded six new clients this year is likely to see better performance in the years ahead than a firm with the same AUM but no new clients in the past year. Instead, firms can look to ‘leading’ metrics to get a better idea of where they are heading. These metrics can be derived by looking at a lagging indicator (like AUM) and working backward to determine how the firm would get there. For example, website visits can lead to email list sign-ups, prospect inquiries, exploratory meetings, and finally new clients that add to the firm’s AUM. By measuring each of these leading indicators, a firm can get a better picture of its prospects going forward than looking at a lagging indicator.

In the end, it’s not just important to measure firm metrics, but to understand which ones show how the firm is doing currently and which ones give an idea of where the firm is heading. By doing so, firm owners can focus their energies on any leading metrics that are falling behind to ensure that their prospect pipeline (which leads to firm profits) remains robust!

(Anand Sheth | Pulse360)

With financial advisor client retention rates typically coming in above 90%, asking clients for feedback can sometimes be an afterthought. But for those clients who do leave their advisor, client service often plays a major role in their decision; for example, 67% of ultra-high-net-worth investors surveyed in one study cited not returning phone calls as the top reason they left their last advisor. And those firms who do ask for feedback often do so in an informal way, either through questions during client meetings or with ad hoc client surveys. But creating a formal feedback process, and asking the right questions, can not only engender greater loyalty from clients, but also make the firm a more attractive home for prospects.

When creating a client survey, advisors can consider asking four categories of questions. The first asks clients how satisfied they are with the value the advisor created this year. This category could include questions such as the areas in which the advisor exceeded the client’s expectations and whether the firm’s fees are fair in comparison to the value the client receives. The second category includes questions that ask the client to rate the advisor’s performance specifically, including whether the advisor understands the client’s needs and goals, whether the advisor is trustworthy, or whether the advisor responds to calls or emails in a timely manner. The third category asks clients how they would like the firm’s service to change; this could include questions on where the firm fell short of the client’s expectations as well as one thing the firm could do differently to make the client’s experience better in the next year. Finally, firms can leave space for clients to leave additional comments that might not have fit within the previous questions.

Ultimately, creating a formal client feedback process with curated questions to identify where the firm is performing well and where it could improve is just a first step. After taking onboard client feedback, the firm can then act to change the areas where it fell short and then communicate these changes to the clients so they know their voices were heard. Doing so on an annual basis can not only allow the firm to track its performance over the course of several years, but also promote client retention in the process!

(Joshua Brown | The Reformed Broker)

As the U.S. emerged from the Great Recession, it entered a decade of growth, both in the stock market and in the economy as a whole. And while the economy and markets hummed along, inflation was muted and interest rates remained low. Some pundits wondered how long this equilibrium would continue, but then in 2020, the pandemic brought the potential for this trend to come to a screeching halt.

The pandemic created a test for the government: in response to a “shutdown” of the economy, could government stimulus be used to prevent an economic depression? And through massive government stimulus, the question turned out to be yes. In total, $3.95 trillion was dropped into the economy (divided among a range of stimulus programs, from the March 2020 CARES Act to the December 2020 Consolidated Appropriations Act to the March 2021 American Rescue Plan Act). And much of this stimulus benefited Americans at the lower end of the income spectrum, often giving these individuals greater financial freedom. At the same time, the Federal Reserve slashed interest rates and began an asset purchase program, injecting even more liquidity into the economy. Altogether, these actions might have helped prevent an even worse economic downturn and possibly contributed to a dramatic rise in the stock market (with the S&P doubling in value between March 23, 2020, and August 16, 2021).

But as Brown suggests, the government’s actions might have worked a little too well. And now, with inflation reaching levels not seen for decades, the Federal Reserve has dramatically reversed course, raising interest rates at breakneck speed, the result of which could be an economic slowdown (and potential recession), that has the potential to not only wipe away gains in the stock market, but also increase unemployment as well. This leaves Brown wondering whether an extended period of widespread economic prosperity (where the benefits are felt on all rungs of the income and wealth ladder) in America is possible, or if the presence of “winners” and “losers” is required to keep the economy (and inflation) on a “normal” trajectory.

The key point is that the American economy has seen wild gyrations in the last few years, and they are likely to be felt in different ways among Americans. So whether an advisor is working with a wealthier client who is seeing their portfolio shrink in the current market or with a pro bono client seeking to stay afloat amid a job loss, there are likely to be many opportunities to make a positive difference in clients’ lives as the economic environment continues to evolve.

(Nick Maggiulli | Of Dollars And Data)

Financial advisors are naturally focused on supporting clients to help them achieve a secure financial future. But this does not necessarily mean building up as large of a portfolio as possible, as, at some point, advisors can help their clients stop maximizing their wealth and enjoy it instead.

Notably, time is an extremely limited resource and history has shown that having a large net worth cannot necessarily guarantee more time to use it. For example, in the 1860s, Cornelius Vanderbilt was one of the richest people in America, but his son died of tuberculosis. And while tuberculosis is less of a problem today (at least in the developed world), there are plenty of other ways for one’s life (or health) to be cut short that money cannot prevent. For Maggiulli, this serves as a reminder to spend his money in meaningful ways rather than trying to optimize his net worth. In his case, he recently paid for a trip to Italy, not only for himself, but also for his sister to join as well (further spreading the joy derived from his savings).

At the end of the day, a client’s net worth is merely a number on a page, and while it can provide a sense of security, actually using the money is often the best way for clients to get enjoyment out of it (unless your client is Scrooge McDuck). So while it might seem counterintuitive to spend now (as inflation raises prices and the economy is weakening), this stressful period might actually be a good time for clients to use their money to free up time and create experiences that can lead to greater happiness (while remaining in tune with their financial plan, of course!).

(Pew Research Center)

Finding meaning is often thought of as one of the most important factors in living a ‘good’ life. While it might be enjoyable to sit on the beach all day drinking margaritas, having meaning and purpose can make life richer. But sources of meaning can vary by person, and, it turns out, by country as well.

Pew Research asked individuals in 17 advanced economies what makes life meaningful to them. In 14 of the 17 locations studied, the most common answer was family. The outliers were Spain (Health), South Korea (Material well-being), and Taiwan (Society). Occupation was the second-most-common response, with material well-being coming in third. In the United States, the most common answers after family were friends, material well-being, occupation, and faith (in fact, the U.S. was the only country where faith was in the top five). The responses given also varied by age, with friends, occupation, education, and hobbies being more popular sources of meaning for younger adults across the economies surveyed, while health and retirement were important for those older than 65. Men and women provided similar responses, with women somewhat more likely to cite family and health as a source of meaning.

Overall, this survey shows the importance of interpersonal relationships as a source of meaning for many individuals around the world. And while occupation and material well-being also rank highly as sources of meaning, their relative position suggests that it’s not necessarily money itself that provides meaning, but rather what can be done with it to build relationships. And for advisors, this could mean helping clients craft a financial purpose statement (or create one for themselves!) that can help guide mindful spending decisions that reflect the priorities that bring the most meaning to their lives!

We hope you enjoyed the reading! Please leave a comment below to share your thoughts, or make a suggestion of any articles you think we should highlight in a future column!

In the meantime, if you’re interested in more news and information regarding advisor technology, we’d highly recommend checking out Craig Iskowitz’s “Wealth Management Today” blog, as well as Gavin Spitzner’s “Wealth Management Weekly” blog.