Without the right due diligence many advisors leave the wirehouse frying pan and jump into the IBD fire

October 15, 2012 — 4:18 PM UTC by Guest Columnist Jack Waymire

1 Comment

Brooke’s Note: This is a great little column and few people who could have nailed it like Jack. We have certainly seen our fair share of people who made a hasty exit from a full service broker-dealer only to be shocked to find their independent broker-dealer was no walk in the park either. See: Why one Merrill Lynch advisor needed to break away twice to become an RIA. It’s hard to imagine that anyone reading Jack’s advice would meet the same fate.

I talk to approximately 20 advisors per month who are thinking about going independent. About 30% of them plan to start their own RIAs and let their securities licenses lapse. See: Should I dump my securities licenses?.

The other 70% plan to retain their licenses because they cannot afford to give-up their commission income. Out of the 70%, approximately 20% intend to join broker/dealers that will let them own and operate their own RIAs. The other 80% will register as IARs under the broker-dealers’ RIAs.

I also talk to 35 advisors a month who have made the leap to independence and are questioning their decisions. They are not questioning going independent. They are questioning the broker-dealers they selected and policies that restrict their ability to grow their businesses. See: How I survived switching custodians twice in one year, and how you can, too.

Restriction friction

The most frequent concern I hear is restrictions that are placed on them by their broker-dealers’ compliance departments. In particular, they are concerned about their ability to market their services on the Internet using blog sites, social networks, publishing services, and lead generation sites.

I usually give them four pieces of friendly advice that is based on my interaction with 60 compliance departments.

First, there appears to be a wide range of interpretation for regulatory compliance issues. Two compliance departments may have very different views of the same issue.

Second, it is always easier for compliance departments to say No. They have to do work to say Yes.

Third, let’s say a compliance department supports 500 advisors. The department may not be willing to do much work for requests from one or two advisors. Their automatic response is No.

Fourth, some broker/dealers say they support the fee side of the business, but it is not true. They stand to make a lot more money if their reps sell commission products. Consequently, their business practices are surreptitiously slanted to favor the commission side of their businesses.

Fighting back

If you are going to retain your securities licenses — and realize the benefits of independence — the following six tips will help you select the right broker/dealer. See: How to choose between the bewildering custody choices.

1. Look at the broker/dealers’ income statements to determine the percentage of revenue that is derived from fees versus commissions. If your focus is growing the fee side of your business, you want to see fees represent at least 50% of the broker/dealers’ revenue. This repeat revenue has a critical mass that is big enough to be important to the broker/dealer.

2. Interview the compliance officer who will be monitoring your activities. Prepare a list of questions that describe your concerns. Then ask the officer to respond in writing so you have documented responses. You want all of your concerns addressed and be extra cautious if the officer uses hedge words in his responses. Vague answers represent potential risk if they cause you to select the wrong broker/dealer.

3. Interview three advisors in your area who are licensed with the broker/dealer. Do not waste your time talking to references that are provided by the broker/dealer. No firm will knowingly supply bad references. In fact, it can be just the opposite. References are carefully selected and many of them are coached to make the right types of positive comments about their broker-dealers. Focus your questions on the compliance policies of the broker/dealers that impact your ability to grow your business.

Big red flag

4. Does the broker/dealer have a written policy for transparency? The policy can tell you a lot about the broker-dealers’ support for the fee side of the business. Fee advisors are more transparent than commission reps. It should be a red flag if a broker-dealer’s policy is to withhold information from investors. For example, does the broker/dealer allow you to acknowledge you are a fiduciary when you provide financial advice and services for fees? You should only select broker/dealers that permit this disclosure.

5. Review the broker/dealers’ approved lists for products and services that produce fee income. You want a robust list of companies that are well known in the industry for producing competitive results. Be very cautious if there are proprietary products on the list. Pay particular attention to SAM, UMA, and ETF products. You may also want to ask if any of the companies paid a fee to be on the approved list and whether this fee is disclosed to investors.

6. Will there be any pressure from the broker/dealer to market particular products. This is one of the primary reasons why brokers leave wirehouses and you do not want to repeat the problem at the new broker/dealer. Pressure may come from the company that owns the broker/dealer, for example a bank or insurance company. They may view you as part of a distribution system that sells company products that maximize revenue and profit.

Jack Waymire spent 28 years in the financial services industry. For 21 years he was the president of an RIA that provided services to more than 50,000 investors. He is the author of “Who’s Watching Your Money?” the first book that provided an objective process for selecting higher-quality financial advisors. He is the founder of two major websites, www.InvestorWatchdog.com for individual investors and www.PaladinRegistry.com for financial advisors. He is a columnist for Worth magazine, a blogger on major financial websites, and is frequently quoted by the media.

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Tommy said:

April 4, 2015 — 4:43 PM UTC

Thank you for the information.

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