New Models, Technology Challenge Tradition

Traditional broker/dealers are considering more direct, digitally enhanced advice models to meet competitive demands, according to a new analysis from research and analytics firm Cerulli Associates.

Cerulli draws that conclusion in the first quarter 2014 issue of The Cerulli Edge – Managed Accounts Edition, which analyzes the growing impact of direct and online advice providers on traditional advisory and investment services arrangements.

Overall, firms within traditional advisory channels are beginning to consider direct broker/dealers as legitimate competitors and are adapting their business models accordingly, explains Patrick Newcomb, a senior analyst at Cerulli. This is happening for a number of reasons, according to Cerulli’s analysis, but one important factor is that investors across all wealth tiers appear to be growing more accepting of an advice arrangement that does not involve a face-to-face relationship.

In previous periods, industry decisionmakers assumed that an in-person relationship was a necessity, especially with higher net worth clients, but Cerulli has found investors across wealth tiers are increasingly accepting of alternative arrangements.

Newcomb says there are several benefits to launching a direct sales and advice platform for traditional broker/dealers and others that provide financial advice, including creating a funnel for younger advisers on staff that need help prospecting new clients. Direct models may also help advisory businesses cultivate younger clients with small account balances, Cerulli says, who are likely to favor digital forms of advice and who often represent unprofitable business for advisers working in traditional models.

Cerulli warns that firms outside of the direct channel need to tread carefully when entering the direct advice space and building out digital capabilities. If positioned incorrectly, home offices could wind up competing with their own representatives and advisers in the field, instead of offering them an additional support service.

Cerulli says the continued evolution of direct service providers, which generally began operations as discount brokerage trading platforms but have evolved to offer financial advice and other services, represents one of the main challenges for traditional firms moving forward. This is especially true regarding the burgeoning “eRIA” model, under which firms present a limited and inexpensive advice offering to clients primarily through electronic means.

Other findings in Cerulli’s analysis show direct providers have been busy evolving from strictly providing transactional services to offering investment advice, and in some cases, comprehensive financial planning. This development is an example of industry convergence rather than external disruption, Cerulli explains, but it still represents a major challenge for firms that lack the ability to adapt.   

Direct providers are typically advantaged by scalable call centers and technology platforms, Cerulli says. In many cases, these advances stemmed from pent-up demand from current clients who were happy with their provider relationship, but wanted more assistance than was originally available within the firm’s model.

Key takeaways from this trend, in Cerulli’s analysis, include the fact that eRIAs are difficult to categorize under one strict competitive umbrella. Some firms view themselves as computerized certified financial planners (CFPs) and look to actively replace advisers, whereas others consider themselves as chartered financial analysts (CFAs) and see their role more as a distributor of low-cost packaged portfolios—presumably leaving more room for traditional advisers.   

Cerulli says that, so far, eRIAs appear to be targeting mostly Generation Y investors and younger Millennials just entering the work force, rather than trying to take away legacy businesses from traditional firms, which have a stronger standing among older and more well-established clients. The investors targeted by direct providers also tend to have lower account balances and are not as attractive for traditional asset managers, Cerulli says.

Another important trend is that eRIAs are predominantly using exchange-traded funds (ETFs) to bring low-cost investments to clients, and they are favoring alternative index weighting and “smart beta” strategies within client portfolios—in particular equal weighting, fundamental weighting, and sector weighting.

More about how to obtain a full copy of the Cerulli analysis is available here.