Industry Trends Threaten Traditional Broker/Dealer Model

Broker/dealers (B/Ds) can address new regulatory pressures, and new competition, by enhancing their value proposition and embracing technology, a report by Cerulli suggests.

Broker/dealers (B/Ds) can address new regulatory pressures, and new competition, by enhancing their value proposition and embracing technology, a report by Cerulli suggests.

Despite ongoing legislative battles to curtail portions of the Department of Labor (DOL)’s industry-sweeping conflict of interest rule, the regulation is under full implementation, as of June 9. The rule and other regulatory pressures have changed the way many advisers do business, and this shift could pose a major threat to the traditional broker/dealer model.

“One of the most important trends in the wealth management industry is the shift away from commissions to fee-based pricing,” notes Bing Waldert, managing director of U.S. research at global research and consulting firm Cerulli Associates. “Even if it is ultimately diluted, the DOL conflict of interest rule has reinforced the shift away from commissions to fees.”

In fact, excessive fees are at the center of litigation coming against the retirement planning industry, and commissions are often scrutinized regardless of whether an investment vehicle—including a B/D’s proprietary product—is in the investor’s best interest.

Thus, Cerulli finds many firms are deciding to mandate fee-based pricing even on individual retirement accounts (IRAs), which thefiduciary rule now applies to.

But beyond Capitol Hill, broker/dealers are facing growing competitive threats fueled by the rise of the independent registered investment adviser (RIA) model and a shift in consumer consciousness.

NEXT: Growing competition

“Since the financial crisis, there has been growing consumer awareness of the conflicts of interest inherent in the wealth management industry, creating another competitive threat for B/Ds,” Waldert says. “When Cerulli examines market-share shifts, the focus has always been the shift of advisers away from employee-based B/Ds to more independent models. However, some portion of the registered investment adviser channel’s growth can be attributed to investors choosing to do business with an independent adviser with fiduciary positioning.”

Waldert notes, “In order to enhance their credibility with advisers, B/Ds must reconsider their value proposition as an adviser service organization. It’s important for B/Ds to help advisers further their career goals, because if adviser recruiting slows, organic growth becomes more important.”

Cerulli found that, at their peak, wirehouses such as Merrill Lynch and UBS offered an adviser up to 300% of his gross revenue to entice him to join their firm. Now, such firms are cutting back on these recruiting packages. This means advisers may be lured by other options such as the independent model or emerging multi-adviser RIAs, which, Cerulli says, provide “many of the same functions as those classically performed by B/Ds.”

When wirehouse advisers were asked  why they prefer the independent model, they cited certain “major factors.” These included greater autonomy (72%), ability to build financial value in an independent business (62%), higher payout (60%) and desire for more personal culture (57%).

Further, Cerulli’s research indicates that independent and hybrid RIAs have steadily taken market share from broker/dealers. In 2006, RIAs held 15% of the market share. By 2015, that number had grown to 23%. At the same time, the share of wirehouses and other broker/dealers slipped from 85% to 77%.

Still, Cerulli notes, “Regardless of a B/D’s strategy and market positioning, it must recognize the role of technology in realizing this strategy. To some extent, technology will provide operational efficiency—this is most essential to firms that wish to operate at scale or those that wish to be hands-off with their advisers, essentially providing an operational platform. This is especially relevant for those firms that wish to grow through acquisitions because dropping a smaller, less efficient B/D onto a cutting-edge technology platform can result in immediate cost savings.”

Cerulli adds that this technology frees broker/dealer firms to “spend more time prospecting or cultivating existing investor relationships. If this efficiency can be spread across thousands of adviser practices, it can result in significant growth for the B/D. Furthermore, these advisers recognize the role of the B/D in helping them to build a more productive and efficient business.”

Cerulli found multiple instances of broker/dealers adopting automation to improve the client experience. For example, it cites Morgan Stanley, which has begun testing the algorithmic assistant “next best action.” This solution guides the adviser as to the next investment he should recommend to a client, based on that person’s life situation. It also tracks all transactions and communications between the adviser and client. Cerulli says, “This allows for machine learning—the tool will improve on its recommendations the more it learns about the adviser and his or her practice.”

These findings are from the “The Cerulli Edge – U.S. Edition,” October 2017 issue. Information on downloading the report can be found at