For the first time in history, commission-based financial advisors are seeing a decline in new business development across the wealth management sector. Why? Because the investment industry as a whole is shifting towards fee-based financial advice as clients are looking to only pay for the services they need.
According to the research firm Cerulli Associates, registered investment advisors and dually registered advisors grew from being almost non-existent 30 years ago to managing just under $2.8 trillion in AUM at the end of 2013. "In the last five years, AUM growth has averaged 14.5 per cent (for fee-based financial advisors) vs. 9.4 per cent for the entire industry." What does that mean for commission-based financial advisors?
It means the client pool for commission-based financial advice is decreasing and advisors need to rethink their service offering if they want to remain competitive in this changing regulatory industry. With that being said, the question both advisors and clients need to ask themselves: is there still a place for commission-based advice in the world of wealth management?
The Role of Commission-Based Financial Advisors
Commission-based financial advisors deal strictly with investment strategies. They operate similar to stock brokers in the sense that they actively buy and sell securities for their clients. These advisors receive commissions—not from their clients, but from the companies where they purchase the securities.
Since the financial crisis of 2008, the financial advice industry has grown skeptical of commission-based advisors because it's perceived that their services are limited to investment strategies. Many consumers now suspect that commission-based financial advisors may prioritize their bottom line over the best interests of their clients.
The Role of Fee-Based Advisors
Fee-based financial advisors have a completely opposite income structure. These financial advisors are paid by their clients for the services they provide. The upside to this is that fee-based advisors offer a variety of services beyond the scope of investments such as tax, estate and retirement planning.
It's perceived that fee-based financial advisors always have their clients' best interests at heart because they don't make any revenue on the sale of financial products or specific securities. They are only paid (by their clients) for services rendered.
Which Type of Advisor Is Best?
The answer depends on client needs. If an investor doesn't have sophisticated financial planning needs and just wants help with investment selections, a commission-based financial advisor can be the right choice. There will be no out-of-pocket costs to the investor because the advisor is paid by the securities company. Clients who are still hesitant can review whether suggested investments are best suited for their needs by researching the options presented.
The trouble with this is some clients may have a hard time finding a commission-based advisor. According to CNBC, "Not only are more consumers moving to the (fee-based) model, but a growing number of commissioned brokers from the large wire-house firms and independent broker-dealers are doing so as well."
Although fee-based advisors are paid by their clients for services, and not from financial products sold, they still receive payment in one form or another. Yes, clients only pay for services rendered, but if the advisor doesn't recommend new services, they don't get paid. The other side of the coin is that consumers shouldn't expect to receive a professional service without paying for the service provided. (For related reading, see: Should You Choose a Fee-Only Financial Advisor?)