Two decades after initial attempts to lower fees, pricing pressure has taken hold among Canadian investment funds. Some people have warned that the same pressure will extend to financial advisors’ compensation. The latter has begun to materialize in the U.S. and, to a lesser extent, in Canada, but it’s a process that will take many years. Discussions examining other fee models typically highlight hourly fees as the alternative.
But if advisors move away from commissions and asset-based fees, I don’t view hourly fees as the successor fee model. Hourly fees can work for unregulated financial planners. In my view, however, hourly fees don’t work for advisors who integrate financial planning and investment management. More important, this model is inconsistent with maximizing client outcomes.
Canada’s fee-for-service financial planning advice segment is small. And with financial planning unregulated (except in Quebec), financial planners who don’t give investment advice have zero regulatory requirements. (Ontario is seemingly on a path toward regulating financial planners.)
However, providers of investment advice are rather heavily regulated – a mismatch with an hourly fee model. Securities laws were designed around commission- and asset-based compensation models. And regulators have shown no sign of proposing that the investment industry adopt or shift to any sort of hourly fee model. But if the industry so desires, it must dramatically overhaul the structure of rules and regulations.
Most clients would be surprised at the amount of time and resources that are devoted to prudent wealth stewardship. Any financial advisory firm that attempts to adopt a pure hourly fee model would have invoices that resemble those of law firms.
Every cost incurred – for example, postage, photocopies, phone calls, client-specific research – would show up on each invoice. In this case, clients may be turned off by the list of charges. Advisors may feel pressure to waive fees for some of their time spent on each file to improve the optics.
In an hourly fee model, gauging up front whether a client is interested in ongoing advice or is simply a one-off engagement is difficult. That makes nailing down client capacity impossible. Take on too few clients and your business’s viability will be in question. Take on too many, and you risk not being able to handle all client requests.
Hourly fees deter client/advisor contact. Yet, optimizing client outcomes – in wealth planning and investment management – requires regular contact. Clients need that contact and counsel during bear markets, for example, more than at any other time, but would be less likely to contact their advisor (because of the extra fees) when investment values are sinking.
Similarly, financial plans can grow stale quickly, in part because of their many embedded estimates. Even well-designed plans require regular review and updating, without which the plans can be ineffective.
Fee structures have changed before. The transition from commissions to fee-based happened largely in the 1990s and 2000s in the U.S., and in the 2000s and 2010s in Canada. The industry could see more compensation changes within the next decade or two. But the pace of change isn’t likely to be swift. And when change occurs, firms will survive and thrive as long as any changes are aligned with sustainable business practices driven by prudent wealth stewardship.
Dan Hallett, CFA, CFP, is vice president of Oakville, Ont.-based HighView Financial Group, which designs portfolio solutions for affluent families and institutions.