Getting advisers on board (Financial Adviser 11-12-06)
The market for outsourced investment management is growing strongly with a range of alternative strategies establishing market share. Fund of funds, manager of managers, discretionary management, and passive investment strategies are all making their mark.
However, what has been achieved to date is still only scratching the tip of the iceberg as the vast majority of IFAs cling desperately to the belief that their job is to pick investments for clients, and by doing so outperform other IFAs and the various outsourced investment strategies available.
If you are a more traditional fund manager laughing at this statement then stop because you are being affected by this too. The adviser who buys your fund this week instead of accepting the outsourced investment solution from your competitor may be using another of your competitors in 6 months time simply because your results were not as good as someone else in the pop charts. This has significant implications for the cost of marketing and distributing all investment solutions.
Can the average IFA really hope to manage money better than a carefully selected and blended portfolio put together by a disciplined team of investment professionals? It is highly unlikely, and it is even more unlikely that they are evaluating this in a disciplined and scientific manner over the long term across all client portfolios.
The situation is similar to a personal investment client managing a share portfolio; we probably hear about the successful stocks in the portfolio rather than the failures. Surveys of drivers across the UK asking them to rate their ability consistently show that most drivers rate themselves as above average. The same occurs with IFAs when asked to rate their ability to pick funds, outperform markets, fund managers, or other IFAs.
Even where this situation is true, that after fees the IFA can do better than an outsourced investment solution, there is still a business case for considering outsourcing even if this results in marginally lower long term investment performance. This is based on two key drivers;
- IFAs can add significantly more value to clients through advice than investment performance.
- Clients value high quality relationship and service far more than marginal investment outperformance.
Let’s consider key driver number 1, that with limited resources the adviser can add more value through advice. Consider the example of a high net worth client who has £1M invested with their IFA and has significant other assets and income. An extra 1% of investment outperformance each and every year would add £10,000 to that client in year 1, fluctuating with the value of the portfolio. However a decision to contribute a portion of their income to a pension fund, to accumulate assets in an offshore tax structure, or to alleviate an IHT liability may save the client tens of thousands or even hundreds of thousands of pounds.
Putting aside the fact that even an IFA who can outperform an outsourced investment management solution is unlikely to do so by more than a few basis points over the long term, how much investment outperformance would they need to generate to match their strategic value added? Yet often these strategic wins are missed by IFAs who are spending time on picking funds for clients.
Key driver number 2 is also influenced by the use of limited resources that all businesses face; that is, clients value high quality relationship and service far more than marginal investment outperformance. Many advisers dispute this as they are constantly defending or explaining investment performance to their clients. However IFAs that have a strong service and advice ethos spend relatively little time on this area. Time is spent on educating clients regarding the fundamentals of long term investing, or meeting regularly with the client to remind them of their actual objective as well as the progress they are making towards it (both high value added service functions which clients will pay a premium for).
The new business model for IFAs is based on gathering AUMs collected via a wrap or platform, and generating on ongoing renewable income stream. This requires the provision of service and advice on a regular basis (e.g. annually). Done well it is profitable both in the short term and long term as it creates high quality relationships and aligns advisers interests with that of the client.
As IFAs move to the new business model there are opportunities and threats for the outsourced investment management options. The opportunity is to work closely with high quality advisers that truly understand their business and are prepared to let go of managing money so that they can focus their efforts on higher value added areas. The money invested from these advisers is sticky providing maximum opportunity for reduced marketing and distribution costs for the manager. These advisers once acquired are low cost to service and the funds just keep flowing in. The threat comes from the commoditisation of the investment offerings that a move to this advice model inevitably creates. By extension this raises the costs of marketing and distribution for managers trying to establish the relationship in the first instance.
Distribution strategy for investment managers that encourage advisers to outsource investment management will need to evolve with the changing IFA market; for starters by dropping the use of the word ‘distribution’. IFAs need to be viewed as partners by the investment managers, in word and spirit. By taking a partnership view investment managers can be viewed as suppliers by their IFAs, in the same way that many other businesses have formed close working relationships with suppliers to improve productivity and lower costs (e.g. the car manufacturing industry). So how can investment managers promoting an outsourced investment management solution work more effectively with their IFA partners?
The very first step is by segmenting their target advisers into some broad groups:
- The first group understand where they really add value to clients and are seeking an outsourced investment solution to free up resource.
- The second group still believe they add value by picking funds or designing investment strategies for clients.
These two groups need to be approached very differently. Group one can be shown the benefits of one particular outsourcing solution over another. Group two need to be assisted in understanding where they really add value. To simply try and sell the investment solution to the second group will be expensive and largely unproductive until the penny drops for them regarding the broader business model. Until IFAs are absolutely clear on how an asset gathering, fee based, advice driven business model works they will not let go of their current client value proposition; investment manager selection. Yet investment managers spend most of their time trying to tell advisers why outsourcing makes sense from an investment point of view, rather than helping them get to a point of understanding about their own value added.
The advisers that accept the outsourcing argument truly understand their value and can happily let go of managing money as a core component of their value proposition. For proof investment managers need only look at their existing ‘A’ class clients’. Nearly all of them will have two key characteristics:
- They are secure in the other value they can add to clients
- They can and do still position themselves as the client’s investment manager by reviewing the process and performance of their outsourcing partner on a regular basis.
Recognising these characteristics makes it far simpler to work with the IFA market as tailored approaches can be made to the different adviser groups. Those that already understand that their value proposition to clients is service and advice based can be offered a service and support package that assists the adviser in appearing bigger than they are in the client’s eyes. For example:
- Data and market research that a small IFA business cannot afford to do and rarely gets access to.
- Sales support material that reinforces the value of the outsourced investment solution (in difficult market conditions or relative to alternative investment strategies).
- Corporate hospitality invitations for the adviser and their clients.
- Business consultancy support (possibly paid for or subsidised) to help drive improvements in the efficiency and consistency of delivery of the service and advice proposition.
Those that don’t already understand that their value proposition to clients is service and advice based can be offered a service and support package that moves them to that point. For example:
- Educational messaging delivered via a range of media to begin shaping the arguments for outsourcing.
- Conference and workshop presentations that explain the value in adopting the business model generically, rather than presentations about the investment solution itself.
- Access to business consultancy support (paid for by the adviser) to begin the process of business transition from old model to new.
- Packaging of the examples of success in the first group so that advisers ready to transition can see the path and learn from those before them.
The investment partnership strategies of the future will focus around clearly segmented adviser markets, and brand building value added partnership strategies between investment managers and IFAs. A true supplier partnership will replace the current ‘distribution’ thinking that annoys IFAs and holds back the growth of an eminently sensible investment management solution for some advisers.
This article was first published by Financial Adviser December 2006.
