A 2018 TD Ameritrade-FA Insight study of more than 320 RIAs found that one in six firm owners placed pricing pressures among the top factors that are challenging their future growth—yet most firms are still unwilling to deviate from the traditional asset-based fees. In a typical RIA, 98 percent of clients are still served with an asset-based advisory fee.
“There is definitely fee pressure in advisory fees, if not fee compression,” said Anderson. “I think, to this date, what we’ve seen advisors do is combat fee compression using lower product fees instead of lowering their advisory fee. Consumers see improvement to their costs and don’t complain.”
AUM-based fees are gaining market share not because they’re better than alternative fee structures, but because they’re the easiest revenue model to adopt for advisors transitioning away from commission-based revenues, Anderson said.
Significant challenges lie ahead for advisors who want to derive revenue from a percentage of their client assets, he said. For one thing, clients have diverse needs and won’t always want an “all-in” AUM-based relationship with a financial planner or advisor.
“The consumer should have the power to get the advice and services they’re looking for without paying for an ongoing relationship,” he said. “This is the way the whole economy has moved. In the old days, you went to a store and picked something close to what you wanted or needed from the available inventory. Now you can go online and get exactly what you want.”
A larger problem with the AUM-based fee is that it has little to do with the actual value being provided by the advisor’s work. Wealthier clients often have to pay more for the same services received by less wealthy clients. At the same time, an advisor’s AUM-based fee tends to remain static whether or not they increase costs by offering more services.
Scott MacKillop, CEO of First Ascent Asset Management, a turnkey asset management platform that itself charges a flat fee for its services, said that the AUM-based revenue model gives consumers the impression that higher-net-worth clients receive the bulk of an advisor’s time, energy and talent.
“The client is essentially being told that ‘the more you pay me, the better job I will do for you,’” he said. “The logic of the model breaks down over time: Is the advisor really going to work harder and do more for a $1.5 million client than they do for a $1 million client? A $500,000 client? If I’m a $500,000 client, that arrangement doesn’t make me feel very good. If I’m a $1 million client, I might wonder if I’m getting second-rate financial advice.”
AUM-based fees also grow or shrink with market forces that advisors cannot control, MacKillop said, meaning advisors could increase the amount of revenue they derive from a client without offering any additional services to that client, and without incurring any additional costs by serving that client.
Some firms are able to justify their AUM-based fees by adding on services, MacKillop said, but many of these advisors will experience increasing margin pressure over time if they keep expanding their roles.