We've all seen the ads. Broker/dealers promising massive payouts in large, bold-print type: 90 percent! 95 percent! Even 100 percent!
It's understandable if advisors — especially those fleeing wirehouses over pay issues — are dazzled by the numbers. Expanding the percentage of revenue an advisor keeps from 30 or 40 percent to 90 percent sets off visions of a heck of a lot more vacation days in Cancun.
As much as advisors know intuitively that such pay gains have their costs, experts say it's important for them to drill down into the particulars before deciding to make the jump.
“Are 100 percent payouts too good to be true? Of course,” says Howard Berg, managing director at Jackson Grant, a Stamford, Conn.-based financial services consulting group. “Advisors have to look at what they're making after the haircut.”
That “haircut” includes expenses a wirehouse operator doesn't give a second thought to, such as errors and omissions insurance, ticket charges (ranging from $7 to $12 per trade), rent, phone bills, electric bills and computer upgrades. The list, unfortunately, can go on and on depending how an advisor runs his business. It can get to be a financial back-breaker when bigger ticket costs, like paying for support staff, outsourcing of compliance duties or buying analyst research, are factored in.
Even after covering all the expenses, a good independent advisor can still make more money than at a wirehouse, netting 60 percent to 70 percent after expenses, says Berg.
“A lot of guys do it, and make a business out of it, but you have to understand what you don't get with a 100 percent payout,” he says.
Caveat Emptor
Some advisors learned their lesson the hard way.
“It's an old saying, but you get what you pay for,” says one independent advisor, who requested anonymity. He recently joined a major New York wirehouse after a decade on his own. The reason? The costs his big payout saddled him with were too high.
“For me, it was advantageous to go to the wirehouse,” he says. “My compensation went up because I had no overhead and didn't have to focus on employee management anymore.”
Of course, whether the 30 percent payout of a wirehouse or the sky-high payouts of an independent, all advisors look for three main services from their broker/dealer partners: execution, technology and research.
These factors make or break the advisor's relationship with the B/D and carry considerably more weight than the rate of the payout, industry experts say. If, for example, the advisor faces a daily hassle getting his trades cleared or if the B/D's technology platform is obsolete, it really doesn't matter what the payout is, because the advisors' business is going to suffer. “Payouts are almost irrelevant, because you have to look at the cost of what you're getting for accepting that payout,” says Bill Dwyer, executive director of business development at Linsco/Private Ledger (LPL). “That makes a difference.”
Of course, it's not just running the latest technology or offering clean clearance that matters, Dwyer says. Because all B/Ds operate and execute in much the same way, it comes down to advisors really evaluating what they need for their individual business models. Most important, they have to determine whether this B/D is going to give it to them. This is especially critical when large payout contracts are brought into the picture because these arrangements leave so much responsibility on the advisor.
One of the ways to differentiate between broker/dealers is to compare the geographic scope of their services. “Advisors need to evaluate what the prospective B/D can do for him nationally, compared to what the advisor can do himself locally,” Dwyer says.
A Hard Look
A close look at some of these high-payout deals can shed some light on what advisors might expect. Linsco/Private Ledger, for example, offers payouts that range from 90 percent to 92 percent, and good advisors can expect to net about 50 percent after expenses, the firm says. The firm has 2,300 branch offices, with 4,800 reps who manage $74 billion in assets. LPL, with home offices in Boston and San Diego, is regarded as the largest B/D in terms of annual revenue — $786 million last year.
The LPL package provides access to a crew of 19 research analysts and — because the company became self-clearing in June 2000 — a specially built back-office computer system designed for the firm's advisors. The move to in-house clearing allowed LPL to clean up its technology and place its new platform on all the desks in the field.
This innovation allowed LPL advisors to buy their own financial tools from the menu LPL offered, picking and choosing what they want for their business. “New advisors fear being nickel-and-dimed to death,” Dwyer says. “We maximize the payouts and unbundle the cost to suit advisors' individual needs. You can't affect the cost side at a wirehouse.”
Once in the LPL model, Dwyer says, advisors seldom leave. The firm has a retention rate above 95 percent, a fact he credits less to the large payouts than to the cost controls of tailor-made business tools. “Sometimes, it's the up-front check that gets them to move here, but they stay. And once they're here, the cost control is what they love.”
Another firm, Emerald Asset Advisors of Weston, Fla., also has shifted its model to give advisors more choices. Emerald, which offers 100 percent payouts, is in the process of ending its broker/dealer relationship with Lockwood Financial. (Emerald will still use Lockwood for other management services.) The move will give Emerald and its advisors “ultimate independence,” says Emerald president and chief investment officer Rob Isbitts, and let them approach the industry more as a money manager than an agent of a broker/dealer.
The switch allowed Emerald to more easily customize its menu of financial products for its reps — a big positive considering Emerald prides itself on its diverse investment strategies and styles, which were sometimes constrained under typical B/D relationships.
For Emerald advisors, this change provides more flexibility and products and erases the B/D fee they previously had to pay. Advisors will likely see expenses increase because they'll have to pay their own trading and money management costs, as well as an advisory fee to Emerald. The fee usually ranges from between 80 to 250 basis points. “That's the price of ultimate independence,” Isbitts says.
Over the Rainbow
Given all this — the creeping expenses, the headaches of overhead, the chance your big payout leaves you with a bum B/D — is it still worth chasing that pot of gold?
It's clear many advisors think so, says Richard Peterson, head of Peterson & Associates, a Houston-based broker recruitment firm.
Peterson says advisors have to be cautious because, naturally, the higher the payout, the more the onus is on the advisor to handle much of the business himself. “A large [wirehouse] firm will eat up 60 percent of your gross, but they have to provide a level of service to justify that,” Peterson says. “In the 80 percent to 90 percent payout range, most or all expenses come out of advisors' pockets, and sometimes the B/Ds do little or nothing to support their businesses.”
Advisors have to realize that their customers might not like the changes in service they receive when the advisor switches from the stability of a wirehouse to the do-it-yourself world of an indie.
“If you're going to move somewhere to snag a big payout, you better have a plan to work more efficiently to give your clients a higher level of service,” says Emerald's Isbitts. “More than enough to make up for the clients' loss of the coziness with that big-name, national firm you just left.”
These days, that's even more vital, several industry experts say. With the economy still in the doldrums, the brand names speak even more loudly — enough even to drown out the negative talk surrounding the parade of scandals plaguing the wirehouses. So, if an advisor leaves a Merrill Lynch or a Smith Barney to go to an indie, a good portion of his clients may not make the switch with him.
Above all an advisor has to remember this: A big payout is a bonus to him, not to his customers.
A recent study showed that many advisors were well aware of the tradeoffs involved with a switch to an indie. In a survey of 1,117 independent advisors, registered reps and brokers last summer, CEG Worldwide, a New York-based financial services research and consulting firm, found that 17.5 percent were thinking about switching B/Ds within the next year. While the top reasons given for the desired move revolved around dissatisfaction with their current arrangement, only 12.2 percent of respondents said a desire for better compensation was the reason. Indeed, increased compensation ranked 10th among reasons to switch B/Ds.
“Is compensation and the big payout important? Of course, but is it a stand alone reason for switching? No,” says John Bowen, founder and chief executive of CEG Worldwide.
Basically, the choice of a B/D is too important to your business to be based purely on dollars and cents. “You don't want to pick your partner based on what they can pay you at that moment,” Bowen says.