Whenever markets hit a soft patch, clients become more price sensitive. This phenomenon has been fostered by a recent string of anti-fee media articles, the official launch of Vanguard Investments Canada Inc., a leader in low-cost investment products, and the broader growth of exchange-traded funds. It’s inevitable that some clients will ask more pointed questions about fees or demand cheaper products. Many advisors are challenged to give price-sensitive clients a sound and complete reply.
The most common advisor response to fee-sensitive clients is: “It’s the net return that matters.” Although this is true, it fails to recognize the cause and effect of fees and performance. Higher fees equal lower long-term performance, and vice versa. Fees are more important for conservative funds but less important for more growth-oriented funds. But less important doesn’t mean irrelevant.
Less often, I’ve heard advisors boast of their market timing expertise. Perhaps such advisors are among the few who truly possess this skill. For most, this is not an argument in favour of high fees.
Instead, here are some tips to create a more effective response:
> A Fair Cost Comparison. Too often, ETFs’ management expense ratios are compared with load mutual fund fees. Usually, the former do not include advisory fees, while the latter almost always do. There is no doubt that ETFs are compelling for disciplined do-it-yourself investors. But ETFs’ attractiveness is less for advice-seekers.
I have seen several fee schedules for fee-based advisors that use ETFs as the vehicle of choice for client portfolios. If my observations are any indication, it is very common for fees to start at 1.5% annually for the first $250,000 in portfolio value.
With Toronto Stock Exchange-listed ETFs’ average MER hovering around 40 basis points, that’s a MER-equivalent fee of 2.10% annually (1.50% x 1.13 for HST + 0.40%). That’s almost exactly the weighted average MER of long-term mutual funds. In a case like this, the ETF portfolio offers clients no meaningful fee advantage.
> Advisor Value-Added. Rather than extolling your market timing skills — assuming that you have none — a more effective argument is to point to the full suite of services covered by the fees paid by clients. To the extent that you provide tax, estate or other financial planning services, it’s important to stress that the investment fees pay for this value-added advice.
But even on the investment side of things, advisors who use a well-developed process for client discovery and goal-determination in designing asset-mix strategies are far ahead of most. Chalk up another point for any advisor who has acted as a grounding force in tough markets — i.e. getting clients to rebalance in late 2008 or early 2009. Investor misbehaviour costs an estimated 80 bps-100 bps annually in forgone performance. Successfully managing behaviour alone could justify your fee.
> Sourcing Cheaper Products. In my experience, there are probably 30 bps-40 bps of potential cost savings hiding in most advisor-constructed mutual fund portfolios. It’s not hard to reduce client fees (which will boost performance) while maintaining your compensation level. In other words, this is a win-win strategy because you can address clients’ fee concerns while demonstrating your value via client-friendly product selection. IE
Dan Hallett, CFA, CFP, is director, asset management, for Oakville Ont.-based HighView Financial Group, which designs portfolio solutions for advisors, affluent families and institutions.