As far as we know, robo advisors haven’t put anybody out of business — yet many traditional advisors are cowering in fear. Partly, it’s because we’ve seen how quickly online offerings can upend established businesses. Partly, it’s because major firms like Fidelity, Schwab and Vanguard are throwing their weight behind low-cost, technology-driven advisory models.
But mostly, I suspect, it’s because robo advisors highlight the fundamental weakness of traditional advisors. What weakness? Many traditional advisors charge a high price for a fantasy they can’t deliver on: that they can build portfolios that deliver long-run, market-beating returns, thereby justifying their fees.
You could try to keep selling this fantasy. But eventually, investment costs will take their toll, clients will notice their lackluster performance and many will move their money elsewhere. What’s the alternative? Here are four possible responses to the robo threat:
CUT YOUR FEE
Do I have any takers? I thought not. It’s tough to compete with robo advisors when they’re charging 0.25% of assets and you’re charging 1%. It’s conceivable we might see a broad move by traditional advisors to lower their fees to, say, 0.75%.
But competing solely on price would be foolish because there’s no way traditional advisors win. They offer personalized attention and an office on Main Street. Robo advisors offer limited service and an online portal. No matter how much traditional advisors cut their fees, the robos will always be able to charge less because their fixed costs are so much lower.
SLASH OTHER FEES
An obvious strategy: Move part or all of your clients’ assets from actively managed funds to index funds — and then make sure your clients know how much they’re saving.
This has two virtues. First, it gets you away from selling the fantasy. Second, you bring some relative certainty to your clients’ results, because you know at least part of their portfolio will earn the market’s performance. That means fewer disappointed clients and fewer awkward conversations.
But shifting to index funds has a downside: Your clients may end up with portfolios similar to what they could get from a robo advisor — yet you’re charging perhaps three times as much (or more). Still, by ensuring your clients are in less expensive funds, you’ll close the gap. Before, you might have been charging 2% a year, between your fee and actively managed fund expenses. Now, even if you stick to charging 1% of assets, your clients’ total costs might be 1.15% versus 0.4% from a robo.
CONNECT WITH CLIENTS
Advisors are often exhorted to “deepen relationships” with clients. I hear this so often it sounds like an unsavory marketing ploy (or, perhaps, a slogan for an online dating service).
Yet there’s an undeniable benefit: The more your clients like you, the less chance they’ll take their business elsewhere. As a highly successful — and highly ethical — advisor once told me, “I feel sorry for my clients, because it’s so difficult for them to fire me.”
My suggestion: If you want “deepening relationships” to be less of a marketing ploy and more about delivering value, forget how it benefits you and focus on how it might help clients. One rule of thumb says advisors should be in contact with clients 12 times a year, whether it’s an e-newsletter, a phone call, an in-person meeting or a client appreciation dinner.
What should be your overriding goal with all of these communications? If you strive to get clients to like you more, it probably won’t prevent their sleepless nights during the next market swoon. But if you use your regular communications to sell them on the virtues of long-term investing and on your approach to both the markets and financial planning, they may display greater calm and tenacity when the financial world next turns against them.
GO BEYOND PORTFOLIO BUILDING
Many traditional advisors, of course, do far more than just invest clients’ money.
They help investors think through their goals, including what sort of retirement they can afford, how much assistance they can offer their kids with college and whether there’s room in the family budget for a second home. Good advisors help clients estimate how much they need to save for retirement and how much they can safely spend once they stop working. They spot holes in clients’ insurance coverage and in their estate plans, and suggest ways to save on taxes. They develop full-blown financial plans. And when disaster or tragedy strikes, good advisors help clients cope with the financial fallout.
But most advisors don’t charge for any of this. Instead, their compensation is tied to the investments their clients buy — which happens to be the one area where they are least likely to add value.
How did traditional advisors end up in this mess? There are three key reasons:
- Until the 1960s, it was assumed most professionals beat the market. For decades, many advisors honestly believed this was how they could justify their cost. It took countless academic studies and better benchmarking of portfolios to hammer home the disappointing truth.
- The current compensation model was developed when the role of advisor was more limited. Before the 1980s, most focused almost exclusively on selling investments. Now, portfolio design is just one service of many offered by good advisors, who aim to help clients with their entire financial life.
- It’s always been far easier to sell a product than information. Just look at the newspaper business. People were happy to cough up for the printed page. But when the information was put online, the willingness to pay evaporated. Similarly, the broad financial advice from an advisor was always more valuable than the resulting trades. But it was a lot easier to charge clients for the investments they bought at the end of the conversation.
Many traditional advisors know their greatest strength lies in delivering planning advice and providing ongoing hand-holding. Meanwhile, they may be able to improve on the portfolio clients owned previously.
But they aren’t likely to pick market-beating investments, no matter how many hours they devote to studying valuations and hunting for star fund managers. Yet their fee is based not on the broad advice and ongoing hand-holding, it’s based on the portfolio that won’t beat the market.
If traditional advisors want to fend off the robos, they need to change the conversation. How? Stop selling the fantasy of market-beating performance. Explain that your goal is to help clients not just with investments, but their entire financial life. Tell clients that, while you might charge 1% a year, only a quarter or half of the fee is for investment management — and the rest is for everything else you do.
What if, as an advisor, you don’t do much else beyond investment management? It’s the classic science fiction movie. But this time, the robots will be victorious over the humans — and deservedly so.
Jonathan Clements, a new Financial Planning columnist in New York, is a former personal finance columnist for The Wall Street Journal. He’s author of Jonathan Clements Money Guide 2015 as well as the forthcoming How to Think About Money. He’s also former director of financial education at Citi Personal Wealth Management. Follow him on Twitter at
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