Revenue Sharing Falls Victim to Fiduciary Push
The days of asset managers paying brokerages big bucks for shelf space and wholesaler access are hardly over. But a growing cadre of advisors who’ve worked on both sides of revenue sharing deals are predicting a new era of consolidation, thanks in large part to an industry trending towards heightened fiduciary standards.
The result, say industry analysts, is a likely shakeout in wholesaler pitches that advisors working at wirehouses and broker-dealer networks must deal with on a regular basis.
“We’re definitely going to see a winnowing down of revenue sharing deals by large broker-dealer networks that greenlight wholesalers calling on advisors,” says Meredith Lloyd Rice, a Cogent analyst.
Home offices are already putting “the brakes” on calls from reps pitching product information for fund distributors, she notes. In a recent study co-authored by Lloyd Rice, the firm’s researchers found a quarter of all advisors surveyed reported “less frequent” contact with external wholesalers.
In fact, even those fund middlemen ranked by brokers as “best-in-class” for their technology prowess barely score more than high single/low double-digit approval ratings. Leading the pack were American Funds (13%), Vanguard (10%) and BlackRock (9%).
While some advisors might welcome fewer calls from wholesalers, Lloyd Rice warns that brokerages like Ameriprise and Morgan Stanley already scaling back revenue sharing deals risk “going against the grain” of a wealth management push to higher fiduciary standards.
“The danger is that more restrictive revenue sharing practices by broker-dealers – who are feeling fee compression pressures just like fund distributors – will actually go against their advisors’ efforts to strive to deliver the best solutions to each and every client,” she says.
Indeed, regulator Jay Clayton last week gave notice the SEC has started a new review of advisors’ conduct. That comes as partial implementation of the Department of Labor's fiduciary rule is set to begin June 9.
Tougher scrutiny coming
The sister news service of FA-IQ credits such a move to “changes in revenue-sharing terms required of product partners.”
Ameriprise isn’t expected to necessarily choke access to those fund families by advisors and their clients, points out Derek Holman, co-managing director at southern California-based EP Wealth Advisors.
“In response to a changing market environment for these types of soft-dollar business arrangements,” says Holman, whose independent RIA manages about $2.7 billion, “such a policy twist seems focused on limiting exposure to wholesalers.”
When Holman started at two different major wirehouses some 20-plus years ago, wholesalers would come into his office and bring bagels.
“They’d offer golf trips and take us out to steak dinners in order to incentivize reps to sell their products,” he says. “It wasn’t necessarily about what’s in the best interest of our clients.”
While he hears that such pitches still take place, Holman believes that the upcoming DOL rule has “brought a different type of mindset.” He’s hearing less in the industry about indirect or “soft” payments such as trips and other incentives.
“In today’s fiduciary world, wholesalers who really want to reach advisors are talking in more nuanced terms about about how they can provide better service to help us serve as fiduciaries – they’re by and large avoiding direct sales pitches,” says Holman, who works with wholesalers on an invitation-only basis.
Changing investment platforms
The impact of a higher fiduciary standard, however, is also sending ripples into the makeup of product platforms. Morgan Stanley, for example, is reportedly taking Vanguard off its distribution platform. The move, says Vanguard, is being driven by the fund giant’s unwillingness to pay the brokerage for distribution.
To advisors like Holman and industry analysts such as Lloyd Rice, changes in how revenue sharing deals are viewed by both asset managers and broker-dealers represent “the next act” in a longer-term trend.
“What we’re finding in our research is that advisors are making greater use of recommended lists put together by their investment committees and home offices,” says Lloyd Rice. Even those who like to “keep a hand” in the selection process, she adds, are expressing more desire these days to “significantly” pare relationships with fund distributors and managed account providers.
Adopting a more “selective” list of fund families and outside managers is key to making sure FAs can tailor their particular investment philosophies to each individual client’s needs in today’s wealth management marketplace, says advisor Scott Upham.
The managing partner at Augusta, Maine-based Cribstone Capital Management took over a predecessor firm in 2012 that operated as an affiliated partner of Ameriprise’s hybrid network. In 2015, Cribstone registered as its own RIA.
“We think that revenue sharing arrangements need to be disclosed and investors need to understand if they’re being affected by what’s happening behind closed doors – that’s one of the major reasons why we’re not operating anymore in the broker-dealer space,” says Upham. “There needs to be more transparency with these types of deals.”
One way he sees Cribstone flexing its fiduciary muscles is by negotiating “clearer terms” with back-office service providers that adhere to the firm’s asset allocation strategies.
“We don’t pay regular ticket charges to brokers anymore, so our clients aren’t paying every time we trade on their behalf,” says Upham, who started out as a funds wholesaler. Instead, he says investors pay “a small” quarterly “asset-weighted” fee to cover execution costs.
“I don’t want any revenue-sharing agreements that a custodian might have in place to even enter my mind when making portfolio decisions for a client,” adds the longtime financial advisor.
Alternatives spread in popularity
At Fairfax, Va.-based Edelman Financial Services, planners don’t work with wholesalers at all, says chief executive Ryan Parker. “When we need information or support we deal directly with the home offices of a select group of low-cost fund families and ETF providers,” he says. “So we've created an environment where our advisors don’t have to deal with revenue sharing types of issues.”
The former LPL Financial executive, who joined Edelman Financial last year, predicts that “shelf space” being decided on brokerage platforms through revenue-sharing agreements is a “wilting” marketplace that will eventually "dissolve" and fade away.
Edelman Financial, which manages more than $18 billion, builds client portfolios using ETFs which can be bought directly through market exchanges. The firm’s advisors also use mutual funds from Dimensional Fund Advisors.
“The economics in this business are increasingly shifting away from funds coming with A-shares and 12b-1 (marketing) fees,” says Parker. “Instead, we’re seeing more advisors steering their clients into less-conflicted and lower costing institutional share classes and clean shares – nothing embedded with extra revenue streams that can be shared by broker-dealers and asset managers.”