What's at stake for forward-thinking firms

By Michael Foy

While the ultimate fate of the DOL Fiduciary Rule as regulation now appears uncertain, many industry firms are making clear their intention to move forward—regardless of what happens on the regulatory front—with significant business changes originally initiated by expectation of the rule going live in April. Some of these changes have the potential to significantly disrupt the way investors save and plan for retirement. J.D. Power’s Department of Labor Special Report surveyed more than 1,000 full-service investors in February to understand not only their awareness and perceptions of the rule itself, but also to assess the relative attrition risk faced by firms depending on how they change their products and pricing in response to it.

IRA assets represent an overall market of nearly $8 trillion in the United States1 and while the industry has been directing more of those assets into fee-based accounts for years, Morningstar estimates that the terms of the rule would impact about $3 trillion in client assets and $19 trillion in wealth management industry revenue.2 These are largely assets in commission-based retirement accounts where advisor compensation may depend on the specific investments they sell clients, which, therefore create an inherent conflict with the fiduciary standard. Several firms, including Merrill Lynch, have already committed to eliminating commission-based retirement accounts entirely going forward, regardless of what happens with DOL from a regulatory perspective.

This will leave a substantial number of retail investors currently paying commissions for retirement accounts with a choice:

  • Stay at their firm and switch to a fee-based model
  • Find another full-service firm that will continue to provide a commission-based full-service option
  • Move to a self-directed service model and continue to pay commissions, potentially with access to some limited advice and guidance through a centralized (e.g. call center) firm representative
  • Move to a digital advice model (i.e. robo-advisor) that will provide automated portfolio management based on investor-provided goals and risk tolerance for a lower fee than a traditional advisor would charge

This significant money-in-motion event will undoubtedly create winners and losers among industry firms, with the outcomes determined by how effectively they can communicate and deliver on the unique value proposition they provide to those segments of the market in which they choose to compete.

Fee Aversion

While the annual Full Service Investor Satisfaction Study supports the intuitive hypothesis that current fee-based investors are generally more satisfied with what they pay their firm than those who pay commissions, findings of J.D. Power’s DOL Special Report show there is significant resistance among those commission-based clients—especially the high net worth—to being forced to migrate to fees.

  • More than half (59%) of investors who pay commissions say they either “probably will not” (40%) or “definitely will not” (19%) be willing to stay with their current firm if it meant being forced to move to a fee-based retirement account.
  • High net worth investors ($1 million+ investable assets) are more resistant to the change than others and are also more sensitive to the specific level of the proposed fee. At a proposed 1% fee, 25% of HNWs say they “definitely would not” be switching from commissions, compared with 52% at a 2% fee who say the same.
  • “Validators,”3 a younger, fast-growing segment of the full-service investor market, are also highly resistant to moving, with 61% saying they “probably would not” (35%) or “definitely would not” (26%) switch.

Channel Switchers

Many larger firms dropping the commission model clearly hope to redirect some of these dislocated retirement assets to a proprietary self-directed or limited advice (e.g., advisor call center) service model or toward a digital advice platform (i.e., robo-advisor). The good news for firms that provide these alternatives is that many younger investors appear open to both, though older and more affluent clients may be more likely to seek another full-service firm that will continue to support commission-based retirement, of which there will be many, especially if the DOL rule is ultimately not implemented and the Best Interest Contract Exemption (BICE) requirement is dropped. Firms that don’t have alternative service models to offer clients are likely to lose clients across the board, and in some cases their advisors may leave with them.

  • More than half (56%) of Gen X and younger investors (ages 52 or younger) would consider a robo-advisor as an alternative to traditional advice vs. just 19% of Boomer and older investors (ages 53 and older).
  • Close to two-thirds (62%) of Gen X and younger investors would also consider self-directed vs. 36% of Boomer and older investors if they want to continue to pay commissions.

 

 Key Takeaways

1 ICI Research Perspective, January 2017 

2 Morningstar Report “Final Department of Labor Fiduciary Rule’s Effects Are Substantial”, 2016

3“Validators” are defined by J.D. Power as full-service investors who want to be actively involved in investment decisions and view their FA as a sounding board for ideas.

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