(24 March 2014 update: I discovered all three fee-based UK firms mentioned below has either closed down or bought over by another firm not in the business of fee-based planning).
I did a google and found quite a number of fee-based IFAs all from the United Kingdom. As these firms write about their business models although none of them are identical in their approach, I could fully understand where they are coming from:
Without going into another long essay tonight, these are some of the hindrances that are going against fee-based model in Singapore:
- The lack of investment platform providers friendly towards the IFA business. For example, IFAST and Navigator monopolized the entire unit trusts platform market which IFA uses. Although their range of unit trusts are (almost) infinitely more than tied-agent's limited fund range in their ILPs, the lack of ETFs is a big problem. Many IFAs are just too contented and happy that they have many more unit trusts funds than the tied-distribution channels but why remain contented with the status quo? Some IFA firms have linked up with security firms like OCBC Securities, Saxo Capital just to name a few. But the link up is merely as an Introducer. There is no B2B relationship. Without a proper B2B setup, the IFA could only provide partial after-sales servicing.
- From client's side, there appears to be a severe misconception that it is possible to get advice for free. As noted by one of the above IFA UK firm, a commission-based only adviser does not get paid when he give advice. He is only paid if he pushes the client to the next stage – which is the purchase of products. A fee-based adviser gets paid majority of the fee when he gives advice. It is not necessary for him to push the client to purchase anything.
- Financial planning consists of these areas: (1) Budgeting, (2) Ratio Analysis, (3) Tax planning, (4) Estate Planning, (5) Investment & Retirement planning and (6) Children's education. Out of these 6 areas, only (5) and (6) may involve the purchase of products. The remaining 4 usually does not require the purchase of any product. Thus it can be seen that Budgeting, Ratio Analysis, Tax Planning and Estate Planning are areas normally left out. However, clients normally do not demand to be advised for these 4 areas due to the lack of awareness. Nevertheless, it is the duty of the adviser to help them.
- It is generally true that clients prefer to pay using commission than write a cheque to pay that same amount. Let's say a product A pays $1000 in commission and another product B pays $0 commission but he has to pay a $1000 in fee. Numerically both incurs the same cost (i.e. $1000 + 0 = 0 + $1000). However, due to mental accounting, the embedded fee is more appealing because for the former case the client writes one cheque to the product manufacturer while for the latter case he writes two cheques – one to the product manufacturer and another to the IFA company. I am not surprise that even a mathematician could suffer from such mental accounting handicap! But the difference in the manner the adviser is paid make a lot of difference in the approach. Remember, the commission-based only adviser will ONLY be paid if he pushes the client to the next stage of purchasing a product.
- Existing regulation indirectly prevents fee-based adviser from entering the market place. Much of the regulation focuses on disclosure with regard to commissions – such as a life insurance's distribution cost and a unit trust's sales charges and so on. There is much emphasis is placed on disclosure of these “hidden fees.” However, has MAS really considered putting it into regulation that clients have the right to specify the exact fee they will be paying? I suspect that mandating the removal of distribution cost from insurance and unit trust is going to harm the industry in the sense that companies which had generated large amount of sales through high commissions will find itself suddenly lack of sales since they have to compete based on quality of the products. Large companies will go-under resulting in further erosion of confident in the economy.
The following are the market practices among companies which are not in favor of the consumers:
- Banks, unit trusts platforms prefer to recommend unit trusts to their clients citing the products being professionally managed. Since it is already well-known that passive managed funds underperform active managed funds on a long term basis, why are unit trusts still recommended? It is because these unit trusts pay large trailer fees to these distributors. (However an ETF does not pay trailers. That's why distributors refuse to carry ETFs.) But clients does not “know” it because these fees are already reflected in the NAV. However, these embedded fees are still fees. To make things worst, not all of these trailers are passed on to the IFAs. As the IFAs need to charge their clients fee, they will impose a wrap fee on top of the unit trusts management fee. So if the management fee is 1.5% and a wrap fee is 1%, the client ends up paying 2.5% per year. This has not include all the unreported fees such as soft dollar commissions and fund's own brokerage cost. From my calculation, an ETF is 3.55% to 7.65% per annum cheaper than the unit trusts. If the FA charges 1%, the ETF is still 2.55% to 6.65% cheaper. But client will not pay because of various problems listed above mainly due to the preference of paying fee via commission rather than via the cheque book.
- Why pay wrap fee, should just DIY and buy unit trust from fundsupermart and dollarDex right? Yes and no. Those who can DIY and does not require any adviser should DIY – but DIY in ETFs and not unit trusts! But where to find ETF? Go ask your broker. But your broker could only earn fees for frequent trades. The broker could not charge an on-going advisory fee. I have a brokerage account in which the securities firm constantly spam my mailbox for latest buy/sell recommendations. While MAS prohibits financial advisers from recommendation without needs-analysis, it seems MAS do not mind securities firm from encouraging their clients to churn without any proper fact finding. Why the double standard? Not surprisingly, seems that MAS is out of touch with what is happening in the ground.
- I know Lyxor has been trying very hard to promote ETFs listed on the SGX. Looking at the poor trading volume, I know it is having a very hard time. They have tremendous obstacles. But looking at the kind of Etfs they have listed such as India, Malaysia, Taiwan, Hang Seng, Commodity ETFs etc, I know they are approaching it from the “favor of month” strategy. Not too long ago, asia was having a bull market and perhaps that was why they have listed single country funds. However, Lyxor must realise that these funds (and any ETFs) are not attractive to share investors because they prefer to buy individual companies shares. In Singapore, the only people selling funds are the financial advisers with the banks and IFAs. However commission based adviser will not “sell” these ETFs since it pays no commission. Anyway, a fee-based adviser will have problem recommending these ETFs because almost all of Lyxor funds are Asia. How to do asset allocation like this? I have no solution for Lyxor maybe except to say that they may have more success channeling their advertising budget to helping the needy.
In the meantime, UK is banning commissions in favor of fee-based advice. See here: RDR: FSA expects firms to be well ahead of 2012 deadline
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