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FAs Fear DOL Rule Hampers Young Client Engagement

By Murray Coleman December 5, 2016

As implementation of the new DOL rule nears, advisors are becoming concerned about collateral damage choking relationships with younger professionals and next-generation investors.

That’s a key takeaway from a new study by CoreData Research of U.S. advisors. The results show that 71% of FAs will look to “disengage” from “mass-market” feeder markets if the DOL does become a reality.

“In the U.K. after similar regulations were introduced, a certain faction of the industry argued that an advice gap would form with many mass-market investors being left behind,” Will Roberts, a senior consultant at CoreData Research, tells FA-IQ.

Such mass-affluent investors often already fall below most advisors’ sweet spots. But industry experts warn that developing relationships with Millennials – particularly promising entrepreneurs and talented young professionals – will become increasingly important in a graying America.

Critics of the DOL rule predict that implementation is likely to bring unintended consequences. A chief concern is that costs to advisors will skyrocket to handle compliance with the new set of regulations. That could leave many mass-market investors, generally considered those with $1 million or less of investable assets, out in the cold.

“Our studies suggest that more advisors will disengage from mass-market investors,” analyst Roberts says.

The mandate to create a fiduciary standard in retirement planning comes with restrictions on the use of commissions in IRAs and similar accounts by brokers. The DOL rule is set to begin implementation in April but is being opposed by key advisors to President-elect Donald Trump.

Some industry researchers see parallels to 2013’s imposition of the Retail Distribution Review in Great Britain. Much like the DOL rule in the U.S., the RDR pushes advice-giving beyond basic suitability standards and eliminates so-called commission bias risks for investors.

The fear by some U.K. advisors was that the RDR would create higher costs of doing business for wealth managers in a more regulated environment, thereby raising fees paid by clients, CoreData’s Roberts notes. That was particularly true of smaller FAs and investors with relatively little in savings.

Earlier this year, however, an FT study found that retail investing costs in Great Britain were actually 10% lower in the three years since reforms took hold. But that was much less of a drop than expected by consumer advocates.

Dean Harman

One possible explanation cited in the report: While some underlying fund and related investment costs slid, an industry research group calculated average fees for first-time clients charged by advisors were actually moving slightly higher.

“Although market structures are much different in the U.S., implementation of the DOL rule here will also raise costs for broker-dealers and advisors,” says Dean Harman, an advisor in suburban Houston.

Besides running an independent RIA, he serves on the board of the Financial Services Institute. The FSI represents about 39,000 independent advisors and broker-dealers. Harman, whose firm manages about $200 million, has testified before Congress about the DOL Rule.

“To think that profit margins in this industry won’t come under more pressure by the DOL’s increased regulation is sort of Pollyanna-ish at this point,” he says.

Harman refutes estimates by the outgoing Obama administration that investors will save around $17 billion a year through implementation of the new rule. “They looked at very general factors that were most convenient to making their case – they didn’t look at all of the variables that advisors and broker-dealers must confront on a daily basis,” he says.

By his calculations, advisors are going to face on average six to seven more pages of paperwork just to open a new tax-deferred account. “They’re also going to need to re-evaluate their entire investment engagement process to consider new liability issues – and be much more judicious about what they can and cannot say to different clients,” Harman says.

Other possible margin pressures Harman sees coming involve cutbacks in educational outreach to novice investors. “I’m hearing that bigger broker-dealers are preparing to spend tens of millions of dollars to set up proper compliance systems,” he says.

The result will be that at least some of those higher operational costs will be passed along to clients, Harman asserts. “The DOL rule is going to definitely make it harder for this industry to work with Millennials and other rising professionals,” he says.

Mark Shepherd, managing principal at Shepherd Financial Partners in Winchester, Mass., doesn’t see implementation of the DOL rule as too costly.

His practice, which manages about $780 million, serves predominately mass-market investors. Shepherd doesn’t set account minimums and his average client has around $700,000 of investible assets.

“After 28 years of operating as true fiduciaries for people,” he says, “we don’t see anything in these new regulations that will force us to fire any clients or raise our fees. In effect, we’ve been operating within the spirit of such regulations since we opened.”

Advisor Harman says he also supports “the spirit of the rule.” He points out that his indie RIA is set up to operate on a fiduciary basis for clients – both in retirement and non-retirement accounts.

“My reservation about the DOL rule is that the same basic aim – to create more unified standards of conduct – could be achieved in a much more cost-effective manner for everyone involved through more regulations overseen by groups that really know this industry,” Harman says.

In short, he’s advocating that regulatory issues keep being controlled by the SEC and Finra, an industry-supported watchdog.

“The DOL really isn’t even the right regulatory body to oversee a more unified standard,” Harman says. “We already have two other sets of regulators doing much the same – this whole thing seems to me like overkill.”

In the end, he worries, “it’s the little guy who’s going to get lost in the shuffle.” And that’s a shame, Harman says, “since this is the very type of investor we need to cultivate to keep replenishing our industry – and are arguably the most in need of our support.”