October 23, 2004

Full disclosure
Disclosure key to HNW market

A few weeks ago, it was revealed that more than 70 percent of advisors polled by Advocis are against disclosing what they are paid. More recently, a consulting firm uncovered that advisors are having difficulty attracting and retaining high net worth clients. While no explicit link exists between these two findings, advisors should not kid themselves by assuming that these are unrelated findings.

Survey said.

Of the five questions asked in the Advocis survey, two were about compensation. One asked if advisors supported the elimination of embedded trailer fees on mutual funds. A whopping 95 percent of respondents said "no". I believe that this is overstated - by up to 10 percentage points - for two reasons.

First, many of Advocis' membership have their roots in the insurance industry. Such advisors have always been compensated by commissions and - unlike the investment industry - there is no trend or push toward the separation of compensation and product sales. Second, the question - as shown in the above link - did not propose an alternate compensation system for advisors to replace trailer fees. In other words, only half of the required information was provided.

The other question asked if advisors supported the disclosure of their compensation. Seventy-two percent of respondents do not. Seemingly, many agree that clients should know how advisors are paid - but no how much.

I firmly believe that these issues help explain why most advisors are finding the high net worth market challenging.

Disclosure and HNW investors

I won't argue with the conclusion reached by Taddingstone Consulting Group, which cited the availability of products beyond mutual funds as key to serving the needs of nigh net worth (HNW) individuals. However, a more core issue is at the root of advisors' difficulty with this market segment.

Many professions and other businesses target wealthy individuals. And, just about every advisor craves a practice filled with HNW clients. So, it should come as no surprise this sought-after group is more skeptical than most when it comes to handing over their relatively large pools of cash. This is where disclosure comes in.

All clients appreciate honesty and candour, but this is doubly true for HNW individuals. In other words, trust is the first step to winning any client. The next hurdle is to convince the client that you can competently and aptly handle their account and add real value. Disclosure helps in both regards.

Making transparent the current bundled nature of compensation will send a message to your client that you want to get all of your cards on the table. This candour, while shocking at times, is appreciated by HNW clients since it portrays honesty and confidence. The latter quality ties into an advisor' s skills or ability to add real value. (Shock sometimes results from highlighting the client's total fees, in dollars and cents.)

HNW clients tend to value the advice provided by their lawyers and accountants. Cheques are written - sometimes large ones - for the services of these professionals. Such a professional advisor requires a basic level of confidence in his/her skills to sit in front of a client and hand them an invoice for advice. While most of the industry doesn't function this way, advisors can come close to effecting this level of transparency.

I'm sure to get some criticism on this point but at least I can speak from first hand experience. I have provided advice to HNW clients for several years. Simply disclosing to the client - in writing - total fees charged and commission generated from year to year (in dollars and cents) goes a long way toward this end. A fee-only arrangement goes slightly further, where invoices are actually sent out and cheques written by clients for services rendered.

All of this is not to say that no commission-based advisor will ever be successful in the HNW market. Some are very successful. Generally, however, advisors longing for a solid HNW practice are dreaming if they think it can be built without incorporating a good level of disclosure.