Weekend Reading for Financial Planners (June 12-13)

Author: Michael Kitces

Team Kitces

Michael Kitces is Head of Planning Strategy at Buckingham Wealth Partners, a turnkey wealth management services provider supporting thousands of independent financial advisors.

In addition, he is a co-founder of the XY Planning Network, AdvicePay, fpPathfinder, and New Planner Recruiting, the former Practitioner Editor of the Journal of Financial Planning, the host of the Financial Advisor Success podcast, and the publisher of the popular financial planning industry blog Nerd’s Eye View through his website Kitces.com, dedicated to advancing knowledge in financial planning. In 2010, Michael was recognized with one of the FPA’s “Heart of Financial Planning” awards for his dedication and work in advancing the profession.

LPL Unveils Pure-Play Custodial Service For Fee-Only RIAs (Diana Britton, Wealth Management) – As one of the few independent broker-dealers that is self-clearing, LPL has long offered custodial services for the RIAs that were part of its growing base of dually-registered brokers since 2008. And the accelerating shift of brokerage firms away from commission-based and towards fee-based advisory accounts has led to LPL becoming the third-largest RIA custodian in the marketplace (with more than $500B in advisory assets), as more than 75% of all LPL’s new asset flows are going into advisory accounts. But now, LPL has announced that its RIA custodial platform will not only be available to the hybrid advisory firms that are affiliated with its broker-dealer; instead, LPL’s RIA custodial platform will now be available to independent fee-only RIAs as well. Of course, the reality is that the RIA custodial marketplace is already highly competitive, which raises the question of how LPL anticipates getting its ‘foot in the door’. Initially, LPL is expected to simply retain many of its hybrid RIAs that in recent years have been dropping their broker-dealer licenses and going “full RIA” only, and can now remain with LPL as fee-only RIAs without any broker-dealer relationship at all. In the future, though, LPL states that its goal is to provide a more “high-touch, white-glove” approach, going beyond “just” being the keeper of the assets and settling the trades and towards additional practice management value-adds, as a way to attract RIAs from other custodians. Notwithstanding its “upmarket” approach, though, LPL emphasizes that there will be no asset minimums to custody with LPL (and no multi-custodial fees, unlike for LPL’s hybrid RIAs that do pay an additional fee to custody their RIA assets at non-LPL custodians). In addition, LPL’s growing “Business Solutions” offering, which offers outsourced services for a monthly subscription fee, includes consulting on business strategy and CFO Solutions to assist in advising on the financial health of the firm.

Advisors Added more Clients In 2020 Than Prior Years (Karen DeMasters, Financial Advisor) – According to Schwab’s latest Independent Advisor Outlook Study, the typical independent advisor added more clients in 2020 than prior years (despite the disruption of the pandemic), and are even more bullish on the future, with 95% of participants stating that they expect the financial services industry to grow at least as fast or faster than the overall market. However, the Outlook study did observe a number of changing trends in the aftermath of 2020, including the rise of remote work (both in managing teams, but also the opportunities of recruiting talent and attracting new clients without being constrained to the local geographic area) and accelerated adoption of technology. Other notable shifts heading into 2021 included: advisors were more likely to report that an increase in the number of affluent investors was driving their growth, but were also more likely to report struggling with new forms of competition for those prospective clients as their primary barrier to growth; the majority of growth for firms continues to be organic, though it is almost evenly split between attracting new clients to the firm and growing the relationship with existing clients; and overall, firms stated that the top drivers to firm innovation now are not changing client needs, but the growth of the AdvisorTech industry supporting advisors (and making change possible) and a need to streamline processes to handle the ongoing growth.

Wealthy Investors Seek Purpose-Driven Investments After Pandemic (Michael S. Fischer, Think Advisor) – Is “purpose-driven investing” the new “goals-based investing” for HNW clients who already achieved all their goals? A recent UBS study suggests wealthy investors are reassessing their life goals, and are more focused than ever on aligning their investments with their values. The survey was conducted in May among 3,800 investors across 15 global markets who are at least 25 years old and have at least $1M in investable assets. Approximately 60% stated that they are more interested in sustainable investing versus May of 2020, and a full 90% want to invest according to their values. Similar to other recent studies on the topic, these changes are also much more pronounced amongst younger investors (e.g., 76% of those under 50 years old are now highly interested in sustainable investing, versus just 37% of 50+ investors). Additionally, 74% of younger investors are motivated to develop or update their financial plan, 79% said the pandemic prompted them to reassess what was important in their lives, and nearly 50% planned to increase their charitable giving, all of which correlates with the fact that the wealthy emerged from the pandemic in better shape than ever financially, and may be feeling guilty about their prosperity in the face of growing wealth inequality (66% reported feeling guilty for being more fortunate than others). Women seemed to be impacted more by the pandemic, with 75% saying the pandemic made them want to make more of a difference in the world (versus 65% of men). And 45% of women said the pandemic has led them to want to retire earlier to enjoy life (versus 37% of men). A growing population of wealthy investors feeling more generous and more energized to align their wealth with their values and sense of purpose, combined with evolving views on how and when they want to shift from the accumulation phase to the decumulation phase, clearly contributes to the increase observed over the past year in those seeking out advice and financial planning guidance, often for the first time.

FINRA Withdraws Expungement Proposal Amid Sharp Criticism (Andrew Welsch, Barron’s) – The FINRA “expungement” process is meant to allow brokers whose records are ‘unfairly’ blemished on BrokerCheck to be able to expunge the complaint so it’s not visible to consumers in the future. At its core, the issue is that expungement is meant to be an “extraordinary” remedy used only in rare circumstances to remove a customer complaint, but in practice firms rarely object to the process and investors face many hurdles to participate in the process, such that in practice expungements were becoming increasingly common. Consequently, the Public Investors Advocate Bar Association (PIABA) has long criticized the process as being too easy for brokers to expunge their records of potentially valid complaints that consumers should know about, and had sharply criticized FINRA’s recently proposed updates to the expungement as still not going far enough to protect access to important regulatory information about prior customer clients against brokers. As the proposal would have limited questionable practices like prohibiting firms from conditioning a client’s settlement on not opposing a subsequent expungement to hide the incident, and trained arbitrators to better weigh the decision to grant a broker’s expungement against the ramifications of consumers (and other state regulators that also rely on the system) no longer having access to the information. At this point, it appears to be ‘back to the drawing board’ on a new proposal to overhaul the expungement process, with FINRA stating that it will work with state securities regulators to return expungement to be only the ‘extraordinary remedy’ it was originally intended (for situations where the broker’s record is ‘clearly inaccurate’).

Time To Rethink Forced Arbitration? (Investment News) – Back in April, Congress proposed the Investor Choice Act, which would bar broker-dealers and RIAs from including mandatory arbitration agreements in their brokerage and advisory agreements. Ultimately, reforms to limit mandatory arbitration over the past decade have all stalled – and it’s unclear whether the Investor Choice Act will ultimately gain more momentum, as it would require more bipartisan buy-in to surpass the potential Senate filibuster – but ending mandatory arbitration is increasingly becoming a top priority for advocacy groups that argue consumers should at least have the option to bring their case before a judge or jury (and that the industry’s existing arbitration process tends to be unfairly tilted towards protecting the industry). Lobbyists for large brokerage firms through SIFMA (the Securities Industry and Financial Markets Association) maintain that arbitration is a faster, more efficient, and lower-cost way to resolve client disputes and is fair, but consumer advocates suggest that consumers should have the option of pursuing the ‘higher-cost’ approach through the court system (and the larger awards and damages that a court may assign), and that if arbitration is so effective then the industry can simply let consumers decide that for themselves (rather than mandating it)?

FSI Vows To Monitor Reg BI ‘Regulation By Enforcement’ (Mark Schoeff, Investment News) – In recent months, incoming SEC Chairman Gary Gensler has pledged that the SEC will work “through examinations and enforcement [and] guidance to ensure that [Reg BI] is fully complied with as written”, and may even “update and freshen” the guidance as needed. In response, the Financial Services Institute (FSI), which represents independent broker-dealers, is raising concerns that the SEC will engage in “regulation by enforcement”, using the enforcement process itself as a way to establish new rules (that firms wouldn’t have known they needed to comply with until it was too late because they were already facing an enforcement action). The FSI pushback comes in the aftermath of the SEC’s Selective Share Class enforcement initiative in recent years, where the SEC took action against broker-dealers that were recommending higher-fee mutual funds (that paid a 12b-1 fee to the broker-dealer) over lower-cost non-12b-1 alternatives without providing disclosure to clients that there were less expensive share classes available, which FSI maintains was an example of “regulation by enforcement” (as the SEC insisted that such disclosures should have been provided), though the SEC insists that such a requirement was consistent with the fiduciary obligation of RIAs in the first place (for broker-dealers engaging in such activity in their hybrid-RIA advisory accounts). As a result, while FSI has stated that it will be “paying a lot of attention to the SEC and FINRA and their examination and enforcement activity around Regulation Best Interest”, regulators are insisting that it’s not engaging in new rulemaking to just actually enforce the regulations as written.

ProPublica Highlights How Super-Rich Pay ‘Almost No Income Tax’ (BBC News) – The big news buzz this week was an article from ProPublica (a non-profit focused on investigative journalism in the public interest) that analyzed IRS records of 25 billionaires and found that they paid an average of just 15.8% of their AGI in taxes over the past decade, and in some years had an outright zero-dollar tax liability (e.g., Jeff Bezos paid no tax in 2007 and 2011, and Elon Musk paid no taxes in 2018). Notably, the ProPublica study didn’t allege there was any illegal activity in the tax minimization efforts, but simply that the existing system of deductions and credits and ‘exploitable loopholes’ are making it possible. In particular, the article highlights the strategy of ultra-HNW investors borrowing against their illiquid assets to fund their lifestyles… and in the process, being able to generate ‘income’ from their assets, without triggering the recognition of capital gains, and even being able to claim an investment expense deduction for the interest (as the loans are often structured against investment assets). As a result, from 2014 to 2018 the wealth of the 25 richest Americans jumped $401B (according to Forbes data), but paid only $13.6B in total taxes over that time period (per ProPublica’s data). And while there has been increased attention on tax reform – including Biden’s recent American Families Plan proposal – ProPublica also notes that the changes would actually have little impact on billionaires, who in practice wouldn’t face the increased capital gains tax rates (at least, not anytime soon) precisely because of the borrowing structures that allow them to generate liquidity (at ultra-low current interest rates) without triggering capital gains. Which in turn raises questions of whether proposed tax policies may again shift away from income-tax-based systems, towards one that includes at least some level of wealth tax as well. In the meantime, the fact that ProPublica accessed such information directly from the tax returns of the individuals involved, with some suggesting that it may have been generated by an illegal leak from the IRS, has also triggered Federal investigations into the source of the data.

How The 1 Percent’s Savings Buried The Middle Class In Debt (Rebecca Stropoli, Chicago Booth Review) – A recent research paper dubbed “Indebted Demand” by professors Atif Mian, Ludwig Straub, and Amir Sufi, is making a new case that the so-called “global savings glut” in recent years, that has driven real interest rates lower and lower, may not be a function of ‘excess’ savings from emerging markets (as many have contended), but instead is being increasingly driven by the savings of a small number of ultra-wealthy individuals (which are concentrated in the US). Notably, in this context, the issue is not necessarily about “billionaires buying yachts” (which the economists note do ultimately re-inject dollars into the economy, via the workers and equipment used to build the yachts, which then circulates more broadly), but literally the raw amount of cash savings from the ultra-wealthy. In fact, the researchers estimate that 60% to 75% of the entire “global savings glut” that emerged from the early 1980s to recent years was driven by the wealthiest Americans in particular (which at times in the 1990s and 2010s added up to the entire increase in the global savings glut). In the aggregate, this ‘excess’ wealth that wasn’t being otherwise deployed drove down interest rates, leading to an explosion of consumer debt built on those low interest rates (e.g., as the top 1% deposits their cash into banks, which then lend it out to consumers through the financial system) – to the extent that in the aggregate, net borrowing of the bottom 90% was effectively funded by the excess savings of the top 1%. Similarly, the researchers found that a cash build-up is also occurring within companies, which in the aggregate decreased corporate spending to labor and capital by 7% from the mid-1980s to 2014, while profits grew by 13%, amounting to almost $1.2T in reduced investments to workers and plants/property/equipment and a 10-percentage-point rise in nonfinancial corporations holding money market funds and CDs of ‘undeployed cash’. Ultimately, though, the question becomes what to do about the issue, for which the conclusions are far less clear, between creating incentives for investment, tax policy to shift dollars towards investment, the potential of a wealth tax to ‘force’ more of a redistribution, or even reforms to corporate taxation (recognizing that billionaire wealth is typically concentrated into equity ownership anyway, such that corporate tax policy is indirectly ‘billionaire tax policy’ as well). Nonetheless, the point of the researchers remains that the rise of the “global savings glut” of recent decades appears to be less a function of emerging markets coming online and joining the global economy, and potentially a function of wealth being “inefficiently distributed” within the economic system, such that cash literally can’t be deployed fast enough to productive activities and is being accumulated as cash and bank deposits that in the process are driving down interest rates and fueling consumer debt in the process?

Workers Are Gaining Leverage Over Employers Right Before Our Eyes (Neil Irwin, New York Times) – One of the biggest criticisms around the widening of income inequality is that workers simply do not have even ‘bargaining power’ to negotiate higher wages (either individually, collectively through unions, or in the aggregate through the economy), leading to an ongoing shift where the share of wealth to workers has been declining and the share of wealth growth via capital has been on the rise. However, as the pandemic subsidies and the economy roars back to life, a shift appears to be underway, with one survey from the Federal Reserve finding that the “reservation wage” (the minimum compensation workers would require) jumped nearly 19% for those without a college degree over the past 18 months, leading to another survey from the Conference Board finding that 49% of organizations with mostly blue-collar workforces are finding it hard to retain workers (up from 30% before the pandemic), even as March witnessed the highest number of open job positions since 2000 and the number of postings that say “no experience necessary” is up 2/3rds over 2019 levels and the number of jobs with starting bonuses has doubled. The shift appears to be driven by a number of factors, including both a change in the willingness of workers to accept lower wages (or relocate) for work after a year of work-from-home, a stagnation of US population growth in the aggregate (as the growth rate of the number of Americans between ages 20 and 64 turned negative last year for the first time in US history and the Congressional Budget Office projects labor force growth of just 0.3% – 0.4%/year over the 2020s, half the rate of the past 20 years), and the fact that as more work turns virtual consumers suddenly have more choices on what jobs to seek out and where to work (rather than being beholden to their local market and job opportunities). Which in turn is driving not only an acceleration in wage growth, but also more willingness of companies to invest into training, and an overall more competitive landscape for talent across a wide range of industries.

Crazy New Ideas (Paul Graham) – It’s easy to look at a new idea that seems distant and remote from the way things are done, and proclaim “that will never work”. Yet as Graham notes, the reality is that throughout history (and especially the history of science), that’s exactly the way big things get started: someone proposes an idea that sounds ‘crazy’, most people dismiss it… and then it gradually takes over the world. Which isn’t to ignore the reality that most implausible-sounding ideas really are bad and can be safely dismissed… but be cautious when they’re proposed by those who are otherwise experts in their domain (because if they’re proposing it anyway, they may know something you don’t?). Accordingly, Graham suggests the better approach when facing a “crazy new idea” from an otherwise credible source is to ask questions – to try to understand why the idea is being proposed, and how it could be such a good idea if the world hasn’t done it already (for which there are many reasons in practice, from limitations of the current system to simple inertia of the status quo). For those who are trying to create something new – their own business or idea – it’s also important to remember that the rewards of ‘crazy new ideas’ are outsized to the upside, but often involve beating the incumbents, who may then have a vested interest in seeing the status quo remain (and can succeed in making it remain for a long, long time). Thus, for instance, Copernicus published the heliocentric model in 1532, but it took nearly 200 years(!) before the rest of the world agreed. Which also means that having new ideas can be very ‘lonely’ early on… even if they become very popular down the road.

Stop Being So Hard On Yourself (Melody Wilding, Harvard Business Review) – One of the biggest keys to long-term success is being willing to put in the effort to ‘strive’ and really work hard to achieve one’s goals… along with being self-critical enough to recognize when we’re not succeeding, and take in that information to figure out how to adapt to get better next time. Yet Wilding highlights that one of the key challenges of being a “sensitive striver” (a high-achiever who is also highly sensitive) is that it’s easy to fall into a negative spiral of self-recrimination (e.g., over-analyzing our shortcomings, ruminating over ‘minor’ missteps, etc.) if we fail to uphold our own high standards for ourselves. And in fact, it turns out that “self-criticism” may not actually be a very effective strategy for self-improvement, instead often leading to less motivation, worse self-control, and procrastination when we lose confidence in our own ability to achieve outcomes. So how do you tackle ‘excess’ levels of self-criticism? Wilding suggests a number of strategies: consider naming your inner critic (e.g., Wilding calls hers “Bozo”, others might call it their “gremlin” or “little monster”), so that you can then better distance yourself from it (e.g., one individual called their inner critic “Darth Vader” and then purchased a small Darth Vader action figure they kept on their desk as a reminder to keep the inner critic in check); avoid over-generalizing one bad experience or moment in a meeting that may not actually have been very noticeable to anyone else (as we have a tendency to “spotlight” ourselves and misjudge how much others notice what we may notice about ourselves); refocus your “what-if” narrative (e.g., away from “what if they don’t think I’m smart because I asked a bad question” to “what if this idea isn’t stupid, but is the breakthrough that moves the project forward?”), which re-tunes the focus away from “what went wrong” to “what went right” instead; set a timer for yourself, during which you’re allowed to self-criticize and ruminate… but then have to ‘agree with yourself’ to move on once the timer dings (e.g., after 30-50 minutes); and consider trying to expand your definition of success in the first place (rather than fixating on the overall success of the project, did you take one step forward to overcome resistance or fear, stand up for what you think is right, or take a small step towards a goal instead?).

Lessons Learned The Hard Way (Seth Godin) – In third grade, Godin once lost the entry round to a spelling bee for not knowing there is a “d” in the word “handkerchief”… and hasn’t spelled it incorrectly since. Similarly, Godin is now able to recall exactly where he keeps the thermos in his house… because the other day he spent 20 minutes looking for it unsuccessfully, and then when he finally came across it a few days later, the outcome of where he found it was seared into his brain. The key point to recognize in these exercises is that the way we really learn a lesson and ingrain it, to the point that it’s something we really know, remember, and care about, is not through mere ‘exposure’ to the topic, but through effort and failure. Accordingly, Godin suggests that in the end, it’s not tests that hold the greatest value in evaluating and cementing learning, but projects, where we actually try to apply the knowledge… as regardless of whether we succeed or fail, it’s the effort of doing (and overcoming the failures we may have along the way) that really helps us learn. Or stated more simply, “just about anything worth learning is worth learning the hard way”.

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

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

Gavin Spitzner contributed this week’s article recap on Wealthy Investors Seek Purpose-Driven Investments After Pandemic.