Note, by the way, how much I emphasize my doctor’s knowledge, insight and availability, not our “friendliness.” I am not paying my doctor to be my buddy. He doesn’t box, he doesn’t approve of drinking, and he likes talking about home improvement (a topic they will discuss to punish me in hell). However, he is an expert, and he remembers and documents everything there is to know about me. That is knowledge. And that knowledge turns into insight.
How To Pay?
So if we pay for access and a relationship, what is a fair and reasonable amount? For me the answer is clear—we need to charge in a way that encourages the development of a relationship rather than sporadic and opportunistic transactions.
Fees for assets under management are an amazing pricing method that advisory firms should never, ever give up if they don’t have to. AUM fees allow advisors to build a great and consistent relationship with their clients and translate that relationship into insight tremendously beneficial to those clients.
Research suggests we evaluate relationships through different frameworks depending on whether they are “social” or “commercial.” In social relationships, we are reciprocal, attentive and cordial and do not take advantage of the other party. Commercial relationships are quite different. In these, we bargain, we haggle, we feel fully entitled to take advantage of the other party if they make a mistake.
Research also indicates that in the presence of money—either a price tag or a bill or an invoice or physical money—we tend to switch to the rules of the market, which say, “Protect yourself at all times.” In a famous study, a day care in Israel, aggravated by parents being late, started charging steep late fees. As a result, the parents became even more late, not less so. What the researchers discovered was that before the change, the parents tried not to be late out of politeness and respect for social norms. Once the price tag was there, it became a commercial transaction. They decided to just pay the fee.
The advantage of AUM fees is that they are very seamless. There are not a lot of reminders to the client that this is a commercial transaction. As a result, clients treat it as a social interaction: They are friendly, reciprocal and attentive rather than guarded and opportunistic.
The State Of Industry Pricing And The Myth Of Compression
When we asked in a survey, “Do you feel that your pricing is under pressure?” 47% of the firms responding said, “Little: Sporadically we have to answer questions.” Another 40% said, “Some: We need to be more competitive with our pricing.” Cerulli Associates’ results are similar. In the research firm’s interactive dashboard asking advisors about fee compression for 2018, only 30% of those responding agreed with the statement, “I feel pressure from clients to reduce fees.” Only 5% strongly agreed.
When our firm asked advisors if they had changed their fees in the last two years, only 37% of firms had. Now the punchline: Of those firms that said yes, only 10% lowered them! Thirty-five percent increased their fees and 55% increased the fees for some clients and lowered them for some. For me, this does not reflect price compression—quite the opposite.
Pricing Divergence
It is still not clear, even to industry insiders, what “advice” means. The components of “advice” are also not agreed on. Advisory firms describe their relationships with clients similarly but provide dramatically different services. Imagine if cars did not have a make, model or year but were simply “cars.” Shopping for one would leave consumers puzzled. Some would cost $500,000, others only $10,000.
Without agreed upon definitions, a consumer with $2 million in investable assets may be paying an advisory fee of anywhere from 65 to 95 basis points for the same service (or one that is described in a similar way to something with a different price). The fee is not a function of the components of the service. The “2016 Fidelity RIA Benchmarking Study” showed that there is no correlation between the number of services provided and the prices paid by clients. Rather, advisors (and perhaps clients) mostly judge pricing based on the size of the household relationship.
This lack of consistency in pricing and lack of correlation between pricing and service components are interpreted by some industry observers as evidence the market is inefficient. Again, I disagree. While I can’t break my visit to the doctor into components such as diagnosis, evaluation of alternatives, prescription, education, etc. (my insurance company can and does), I don’t feel that I need to or care to. All I want to know is that I can go to the doctor with something that hurts and shortly walk out with the pain gone.