Charles Schwab is betting that the registered investment advisory firms that are part of its client referral program will be willing to pay slightly more for their streams of incoming customers.
The Schwab Advisory Network refers clients, whose level of wealth and complexity goes beyond the capacity of Schwab's brokerage branches, to an exclusive group of about 140 RIAs. Going forward, Schwab will raise the rates on the fees it charges for those referral leads by 5%.
Schwab has pledged to keep the rates for existing referrals the same up until the as-yet unidentified effective date and provide at least 90 days of advance notice.
Alongside Fidelity Investments' similar RIA referral network, Fidelity Wealth Advisor Solutions, the Schwab program represents a key cog in the organic growth machines of some of the largest and fastest-growing advisory firms. The RIAs in Schwab's network have $280 billion in assets under management, or an average of $2 billion per firm.
The high prices and barriers to entry and strong client retention rates for those RIAs allowed into the networks add up to a constant source of controversy in some industry circles. Schwab, for example, once had as many as 298 RIAs in the network, including those that were once part of TD Ameritrade prior to Schwab's acquisition
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Divergent views
The fee hikes represent "a natural reaction to demand exceeding supply" that accelerated with the TD acquisition, according to John Wernz, the executive-in-residence for private equity firm
"I'm a fan of the Schwab Advisor Network. I think it provides a needed service that Schwab doesn't offer," he said. "I believe the clients of Schwab and Fidelity are much better off because these programs exist."
Custodial competitors to Schwab, though, see opportunities to work with financial advisors whose RIAs can't afford to get into the discount brokerages' referral networks, or those who view the discount brokerages as moving too far into full-bore wealth management services that compete directly with them, said Mike Watson, the head of RIA custody with
The higher fees reflect how the "referral-palooza is coming to an end" and the manner in which "channel conflicts really come into play" for RIAs using large custodians that have retail wealth services of their own, he said.
"This really just speaks to retail-led discount brokerage firms and how they view retail clients," Watson said. "It demonstrates that this is a program — or a 'product,' whatever you want to call it — that's really at the end of its lifecycle."
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Rules for membership
Watson pointed out that Schwab's program extended to RIAs that comprise "a very, very de minimis number compared to the number of advisors that act have custodial assets with Schwab." By the company's own account, less than 1% of its almost 15,000 RIA clients have gained access to Schwab's referral network.
The underlying numbers of the climbing fees display the fact that every basis point of revenue carries business implications in the complex mixture of collaboration and competition across advisors, brokerages, RIAs, custodians, fund companies and technology firms. The 5% higher price amounts to an increase of 1.25 basis points to 26.25 over the current rate of 25 that the RIAs pay back to Schwab for referred clients on the first $2 million in assets flowing through the network.
"As we have shared with advisors in the Schwab Advisor Network program, after 18 years with no changes to the advisor participation fees, there will be an increase of 5% over the current fee for each asset tier," spokesperson Aven Wright said in an email statement. "These changes are planned to go into effect later this year."
Citywire RIA
After the tier for the first incoming $2 million, the existing fee rates are: 20 bps for the next $3 million, 15 bps for the subsequent $5 million and 10 on anything above $10 million,
"In some instances, Schwab will waive or reduce the participation fee or program transfer fee or negotiate a different arrangement with a particular advisor," according to the disclosure. "In other cases, negotiated participation fees and program transfer fees will be based on, among other things, the total amount of custody or trading business placed by the advisors' clients with Schwab. In these cases, the fees will be set below the non-negotiated levels described above, if specified thresholds of custody and trading business are reached. Also, in some cases the fee will cease to be due after a period (rather than remaining payable for as long as a Schwab account remains open)."
An RIA's participation in the referral network could depend, in part, on "the amount and profitability to Schwab of the assets in, and trades placed for, the advisor's clients' accounts maintained at Schwab" and "may also be contingent upon the advisor directing to Schwab for custody a specified amount of assets in its clients' accounts not referred through the service within a specified time period," the disclosure showed. Besides those factors, the RIAs generally must manage at least $250 million in AUM and meet four other criteria requiring the firm to have two or more certified financial planners, operate a predominantly fee-based business and comply with more obligatory hurdles around supervision, licensing, credentialing and tenure.
"Schwab uses eligibility criteria shown below, among other factors, to help determine which advisors to admit to the service," the disclosure stated. "Schwab may change or waive criteria for advisors on a case-by-case basis. Also, on occasion, Schwab may, without notice, change the eligibility criteria for advisors participating in the service."
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Filling a gap or playing musical chairs?
That combination of conflicts of interest, insider access among a few of the largest RIAs and strict control by Schwab frequently draws criticism. The participating advisory firms, however, often cite the high fees they fork over in exchange for the ample client referrals.
The program "is great for the people who participate," but some of the firms have been focusing more on developing relationships with the Schwab financial consultants who refer clients instead of thinking about their marketing methods and "trying to find other ways to organically grow," said Watson. Many RIAs should be considering how to "diversify their lead sources, so that they're not exclusively dependent on referrals" and what they can do to become "the one-stop shop" providing every service related to wealth, he said.
"Now would be the time to really rethink their marketing strategies," Watson said. "When the music stops, there will be no chairs, and, if they don't have a plan, I think there will be serious repercussions for these businesses and their ability to grow."
On the other hand, the large RIA aggregators "often view the referral program as table-stakes to attract firms to join," said Wernz, who helped design a large firm's relationship to the Schwab and Fidelity referral networks as the former chief marketing officer and interim chief growth officer with Plymouth, Minnesota-based Wealth Enhancement. Most of "the fastest-growing organic firms" remain in one or both of the programs because they deliver client retention at rates of 97% or better, Wernz said. Schwab and Fidelity choose their referral partners carefully.
"It's not a right or wrong, it's either a fit or not a fit," Wernz said. "For firms who can both service effectively and want to grow rapidly, it's been a wonderful partnership. … Many firms have highly developed and efficient systems for delivering great advice to clients, and they can still make that fee work."
