Wall Street Meltdown Could Swell RIA Ranks
The demise of Lehman Brothers and the sale of Merrill Lynch to Bank of America will likely trigger a surge in the number of advisors looking to transition into the independent RIA marketplace, according to observers. It may also mean that those looking to make the transition will find themselves in more of a buyer's market-one in which the competition for jobs is more fierce, and the rewards less lucrative.
"I would say that as their choices narrow, the value of the deals will be decreasing," says Michael Di Girolamo, managing director of the investment advisor division of Raymond James.
The financial services industry-and the financial world in general-suffered dramatic changes on September 15, when two of Wall Street's most prestigious financial institutions fell under the weight of bad real estate investments. For Lehman Brothers, it marked the end of a history that predates the Civil War. Merrill Lynch, which brought Wall Street to Main Street in the post-World War II era, managed to avoid liquidation and struck a deal to be bought by Bank of America for $50 billion in stock.
Thomas Bradley, president of TD Ameritrade Institutional, believes a number of Lehman and Merrill advisors will gravitate toward the independent RIA space. "Especially those who are already thinking about going independent," he says. "I think they may jump on this opportunity rather than stick around someplace with a lot f instability."
The number of breakaway brokers had already been increasing even before the large national wirehouses started to crumble from excessive exposure to the subprime mortgage space, Di Girolamo notes. The Lehman and Merrill Lynch troubles only highlight the trend, he adds.
"I think [reps] look at the Mother Merrill model and the large wirehouse model and say, 'How much safety is there really in my career and for my clients?'" he says. "If I am already significantly fee-based, what's behind that brand? Is it a value or is it a hindrance?"
Some wirehouse brokers are more likely to affiliate with an independent brokerage firm so they can hang on to their commission-based clients. "Commonwealth has historically thrived from a recruiting perspective in these times of extreme turbulence, as advisors seek affiliations with firms that offer conflict-free advice that are not making headlines for the wrong reason," says Wayne Bloom, director of wealth management at Boston-based Commonwealth Financial Network.
Bradley says it's usually larger broker/advisor groups with a structure in place, typically with $250 million to $500 million in managed assets, that tend to make the transition. "The ones with the best profile to go independent are primarily fee-based and basically running their office now and relying less on their current firm. Percentage-wise, the majority of brokers will probably stay where they are," Bradley says. "While the percentage of those who'll break away probably won't be great, I think the numbers [who do] will be pretty decent."
As for existing RIAs, observers say the most immediate impact has been the need to prop up the confidence of clients in what may be the scariest marketplace since the Great Depression. "The bad news of course is that our advisors are taking a lot of calls from nervous clients and having to settle them through this by explaining the difference in our business model from what they're seeing on CNN and CNBC," Bloom says.
The regulatory front is another area in which RIAs may see an impact from the tumult on Wall Street, says Duane Thompson, managing director of the Financial Planning Association's Washington D.C., office. He says the collapse of Lehman and Merrill
Lynch could cause Congress to give greater attention to regulatory reform next year.
"The only connection is that if it does create more impetus for reform, then financial planners and advisors could get sucked into the current along with everyone else," he says.
Citigroup Defection Illustrates Talent Flight To RIAs
Two advisory teams from Citigroup with an estimated total of $7 billion under management have moved to Rockville, Md.-based Convergent Wealth Advisors-a deal industry experts say may signal a trend as national banks and wirehouses collapse under the weight of subprime mortgages and auction rate security woes.
Advisors at these large banks have in the past been reluctant to leave because of generous deferred compensation packages, but now tumbling share prices have made many of these plans worthless anyway.
The flight of talent to RIA firms is also a matter of sheer survival at a time when some of Wall Street's most prestigious firms are going under. In mid-September, Lehman Brothers announced it had filed a Chapter 11 bankruptcy petition because of $60 billion in troubled real estate holdings. At the same time, Bank of America Corp. said it was buying Merrill Lynch & Co. in a $50 billion stock transaction.
"I see this as the beginning of a trend," says Mark Tibergien, CEO of Pershing Advisor Solutions. "Now that many of these deferred compensation programs are under water-combined with the bad press-it's making it easier for people to make the leap."
If the Convergent deal is any indication, the industry could be looking at an unprecedented transfer of advisory talent. Citigroup lost a total of six advisors who formed two different institutional client offices in Washington, D.C., and Rochester, N.Y. Together, they now make up the institutional group at Convergent, one of the nation's largest independent RIA firms. Convergent officials declined comment on the deal's details, and it was unclear exactly how much of the $7 billion in assets under management might have moved with the advisors. As of December 31, 2007, Convergent itself managed $6.2 billion in assets with an average client account of $25 million.
The departing advisors included George Dunn, a 29-year veteran of Citigroup/Smith Barney Institutional Consulting, and Peter Dunne, who was with Citigroup 22 years. They, along with Bruce Wall, a 15-year veteran of Citigroup Institutional Consulting, now head Convergent's Washington, D.C., institutional group office.
The Rochester office consists of Lori Van Dusen, who was with Citigroup 21 years, David Mattia, who was with Citigroup Institutional Consulting for 18 years as a director and senior vice president, and Richard Van Kuren Jr.
Tim Welsh, president of Nexus Strategy LLC in Larkspur, Calif., says experienced talent has been moving from wirehouses to smaller RIAs for several years, but the Wall Street crisis has fueled the trend. "It's just the beginning of a tipping point," he says.
Advisors with decades of experience at Wall Street firms have seen their fortunes crater in recent years. The tarnished reputations of the big firms also have caused advisors concern about losing clients if they remain.
Smaller RIA firms, meanwhile, have become adept at streamlining the transition process and have caught up to the larger firms on a technological level, Welsh says. He notes that large independent broker-dealers such as Raymond James and LPL are also taking in the flow of talent from Wall Street. "Everything is in place to push these guys out," he says.
Some experts, however, are cautious about the trend. Mark Hurley, founder of Fiduciary Network, a holding company that invests in fee-only RIAs, says integrating these new books of business into an RIA business can be difficult, but vital. Otherwise, he asks, what's to stop the advisors from making another switch down the road and taking their clients with them?
"In one sense, it's a major coup," Hurley says. "In another sense, it's a different set of problems. It's like the dog that catches the car. What do you do with it once you've got it?"
Merger Creates $1 Billion Fee-Only RIA Firm
In a transaction that creates the largest fee-only RIA firm in California's Marin County, Brouwer & Janachowski (B&J) last month acquired Seton Smoke Capital Management. Terms of the deal were not disclosed.
Tiburon, Calif.-based B&J, manages about $700 million for 200 clients, and the acquisition gives it another $300 million in assets and some 160 new clients. Seton Smoke's primary principal, Robert Smoke, plans to stay with B&J for at least five years. Because of the cost and scarcity of real estate in the region, Seton Smoke will keep its office seven miles away in Greenbrae, Calif.
To build out its management team, B&J has made longtime advisor Rita Lee a principal of the firm. In addition, Jack Scaff III, a senior advisor at Seton Smoke, will become a B&J principal after the transaction closes. "We hope to bring in more shareholders," says CEO Kurt Brouwer.
Fiduciary Network in Dallas helped pay for the deal after it bought a minority stake in B&J last year, a sale that gave the Marin firm an attractive, revalued currency for an acquisition. "We wanted to bring in new shareholders in the past, but we didn't have a currency," Brouwer explains. "Now the process is in place."
Robert Smoke, who founded his firm in 1983, says about ten different potential acquirers have approached him over the last four years. "None of them seemed like a good fit," he says. "This does. It allows me to bring in a younger person as a shareholder. It's really hard to facilitate unless you are a larger firm with the capital to do it like Fiduciary Network."
Both B&J and Seton Smoke are, in addition, shareholders in National Advisors Trust Co., and were both around in the mid-1980s when fee-only RIA firms were rarities.
Fiduciary Network is a holding company created by former Undiscovered Managers CEO Mark Hurley and New York investor Howard Milstein's Emigrant Savings Bank. Since its formation in 2007, it has acquired minority stakes in four firms, including Regent Atlantic of Chatham, N.J.; Evensky & Katz of Coral Gables, Fla.; and Brightworth of Atlanta. Hurley says he expects to see many more transactions like the B&J-Seton Smoke deal because the economics are very advantageous for both parties.
RIA Numbers Keep Growing
The number of registered investment advisors grew 5.6% for the year ending in April 2008, maintaining the same steady growth pace that it has for most of this decade (at least when the aberration of hedge fund RIAs are taken out of the mix).
According to a report issued by the Investment Adviser Association and National Regulatory Services, there were 11,030 investment advisors registered with the Securities and Exchange Commission as of April (reflecting the gain). Total assets under management at all RIA firms jumped 12.3% to a record high of $42.3 trillion.
Annual increases in the number of RIAs rose between 3.5% and 5.7% from 2002 to 2005. This reflected steady growth, but then the number ballooned to a 19.4% increase in 2006 after the SEC adopted a rule in 2004 that required certain hedge fund advisors to register with the agency. That rule was invalidated by a court case two years later, which explains the undersized 1.5% increase in new RIAs in 2007, says David Tittsworth, executive director at the Investment Adviser Association. Bing Waldert, an analyst with Cerulli Associates, says the total number of financial advisors in the industry has dropped by an average annual rate of slightly under 1% during each of the past three years. That's primarily because of the shrinking number of advisors at wirehouses, insurance brokers and broker-dealers. "The one channel seeing growth is in RIAs," he says.
Boosting Retirement Savings Longevity
Longevity is increasing, and so is the need to make sure people don't run out of money before they run out of time. At a September government meeting, Joan Gucciardi of the American Society of Pension Professionals Actuaries (ASPPA) outlined recommendations she said could improve the longevity of retirement savings.
Before a U.S. Department of Labor ERISA Advisory Council working group addressing the drawdown of defined contribution assets in retirement, Gucciardi called for encouraging defined contribution plans to offer participants the chance to take a portion of their benefits in a lump sum or IRA rollover and another portion as an annuity or a set of fixed payments. She says most plans currently require a participant to pick a single payment option, and that even when participants prefer a lifetime guarantee they find it hard to commit all of their benefit to an annuity payment.
Gucciardi, a senior consulting actuary with Summit Benefit & Actuarial Services and a member of an ASPPA committee on government affairs, also suggested that 401(k) plans should offer annuity options found in defined-pension plans.
Gucciardi said more needs to be done to discourage pre-retirees from spending their retirement savings before they retire, and to encourage retirees to manage their nest eggs more wisely. That includes retirement plan sponsors designing changes to their defined contribution plans, as well as legislative changes both to ERISA and the tax code to permit these changes.
Is The Commodities Party Over?
The great commodities bull market has gone splat. Oil plunged from $147 a barrel in July to double-digits by mid-September (Who ever thought that $95-a-barrel oil would seem "cheap"?), and after the Lehman-Merrill A-bomb flattened the markets, the entire commodities complex was in the scrap heap. The closely watched Dow Jones-AIG Commodity index, which had roughly doubled during the past five years as it hit an all-time high on July 2, subsequently tanked 26% through September 15.
Many pin the pullback on the slowing global economy and on mass selling by speculative investors.
"There's a lot of reasons for commodities to sell off, but the recent vicious selling was due to overselling by overleveraged hedge funds," says Peter Holst, managing director at Delta Global Advisors. "Hedge fund guys think they're the smartest in the room, and they kept buying commodities and took them to unrealistic levels. BHP Billiton at $95 was hard to justify." Then the worm turned.
"You look at some of these commodity names and they sold off too hard too fast," Holst says. "You can see the forced selling some days and can see huge amounts of stock for sale."
James Mound, editor of the ommodities-trading newsletter moundreport.com, blames the plunge on the ascendant dollar. "I believe the entire commodities sector as a whole is completely tied to the U.S. dollar," he says. "The question isn't on an individual commodity basis; it's about whether the dollar is going to pull off its rally."
Mound believes the commodities most likely to recover quickest are goods such as corn, soybeans and cotton, which have been punished despite favorable supply-and-demand structures.
Others reckon that commodities are taking a needed breather and that the underpinnings for a bull market remain in place. The game is still about supply and demand, and despite the recent free fall in prices there remains a ravenous, long-term global appetite for food, fuel and other fodder from the earth.
"In the coming months, global growth is likely to continue to slow but economic development [and] the demand for raw materials of all kinds that feed that growth are still going to be a very potent force," said Robert Kapito, president of investment manager BlackRock.
That is, when hedge funds stop selling.