Much of the growth in the wealth management industry over recent years has happened on the RIA side, so it’s easy to see why broker-dealers seem like yesterday’s news.
The figures are stark—over the last 15 years, the number of independent RIAs in the United States has risen by about 40% to just shy of 15,000 firms, while the number of broker-dealers has fallen by about a third to below 3,500, according to SEC and Finra figures.
Yet it would be a mistake to write off the brokerage model as a way for financial professionals to serve clients. Brokerage remains as relevant a way to meet specialized needs of some investors as fee-based service, even if its days as the dominant wealth management model are in the past. A hint: It’s not just legacy clients who have been paying commission fees to their brokers for stock, bond and mutual fund trades for decades and are content to continue doing so.
The reality is that the incorporating a brokerage model can be a better approach for clients seeking a wider range of investment options, vehicles that would help them diversify their portfolios beyond vanilla, market-traded securities. Broker-dealers’ role in the wealth management ecosystem is becoming more niche, and it’s up to broker-dealers to change with times to stay relevant.
RIAs Shy Away From Alts
The RIA model, as it stands today, is tremendously effective at offering advice for a broad cross-section of the American investing public who are interested in putting their money in markets, where assets are liquid.
Yet if these investors wanted to move outside of traditional securities—and some of them do—it’s a different story. Investments in many alternative asset classes, such as private real estate, carry with them a greater degree of liquidity risk. Additionally, these investments typically are harder to source and vet, and more burdensome to execute due to administrative and operational hurdles.
For RIAs, the compensation received from clients for alternative assets stretches out over time and often don’t justify the additional time, effort and risk. For this reason, fewer RIAs work with alternative investment classes.
But on the brokerage side, broker-dealers can set up selling agreements with product sponsors in which commissions compensate registered reps up front, at levels that make offering alt investments more feasible.
The economics may change in the future, but for now alternative investments are predominantly distributed by broker-dealers. The upshot for these firms, then, is that they can maintain relevance for investors looking to diversify beyond stocks, bonds and mutual funds, but only if they invest in the capabilities so that offering those investments makes sense for the reps themselves.
Access To Deals
The broker-dealer model offers an ability to diversify that extends beyond the retail alternatives space into other, even more exotic opportunities such as private equity investments, M&A deals, syndicate offerings or private placements—transactions that, due to their complexity, require the assistance of an investment bank.