Broker Check
The High Cost of “Free” Advice

The High Cost of “Free” Advice

| October 17, 2016

Major reforms are underway in the financial industry that are intended to benefit consumers, but there is still a significant lack of transparency when it comes to potential conflicts of interest. Many reforms are aimed at non-fiduciary brokers who are paid sales commissions by the financial companies whose products they sell. The sale of nearly identical products can provide brokers with very different commissions, and brokers are not required to disclose the amounts and terms of these commissions. Brokers are also offered exotic, international, vacations based on the number of products they sell for particular financial companies and none of this is required to be disclosed to consumers either.

Free “Guidance” from Brokerage or Mutual Fund Company

One financial firm offers their clients with over $250k “complimentary guidance consultations from a Premium Services Account Executive, who’ll take the time to understand your needs and help you make financial decisions you can feel confident about.” That sounds kind of like free financial advice, but then when you look at the fine print it says, “Although consultations are one on one, guidance provided… is not individualized, and is not intended to serve as the primary or sole basis for your investment or tax-planning decisions.”

Morningstar published a study titled “NTF Platforms Can Mean Higher Costs”where they revealed one source of hidden compensation for financial firms. NTF stands for “No Transaction Fee” and refers to a group of funds that the financial firm in question offers to clients and advisors for the convenience of one-stop shopping. They offer access to thousands of funds from one platform without no transaction fees and a single statement with consolidated tax forms. What is not disclosed to clients is how much they are paying for these NTF funds, paid directly by the underlying funds themselves. Funds pay this fee for “shelf space” on the platform and there is no uniform way for participating funds to disclose how much they pay for this distribution. In the third quarter of 2014, Schwab collected $216 million through its NTF platform OneSource. This came from an average fee of 0.32%, or 32 basis points, on an average asset base of $268 billion.

The Yacktman (YACKX – 0.72% expense ratio) and Yacktman Focused (YAFFX – 1.22% expense ratio) funds provide a potentially revealing case study. The two funds are managed by the same team using the same philosophy and lots of holdings overlap. YAFFX is essentially a more concentrated version of YACKX, so it is easy to wonder why it’s expense ratio is 0.50% higher. One difference is that YAFFX is on the Schwab OneSource NTF, as well as Fidelity’s NTF platform, while YACKX is not.

Free Financial “Plans” from Life Insurance Agents and Annuity Salespeople

Please don’t get me wrong – there are some excellent financial advisors at insurance companies and I did everything in my power to be one of these when I was learning the craft. I started my career at one of the most well-respected life insurance companies where I became a fully licensed and “trained” life insurance agent literally in a matter of WEEKS, and while I have a Masters in Electrical Engineering and a Certificate in Financial Planning, no college degree is required to sell annuities and insurance. Much of the training was focused on what for me were uncomfortably aggressive life insurance and annuity sales techniques. The financial planning software that we used was customized to emphasize the use of life insurance, disability insurance, long-term care insurance and annuities – the same proprietary products that the company created for us to sell.

The 10% or so of agents who survive the first five years face a fundamental conflict of interest – the fact that their compensation comes from insurance and annuity sales commissions. One of the very best life insurance sales agents created his own training and made the analogy that in order to be very successful we needed to sell life insurance the same way that Arm & Hammer sold baking soda – to create novel new reasons to buy it. There was a sales script for every conceivable class of life insurance clients, including children and single college students.

The Right Question to Ask

“How are you paid for your services?” Some products are ONLY sold on a commission basis such as life, disability, and long-term care insurance which are critical elements to many financial plans. So hearing the word “commission” in the answer should not by itself be cause for alarm. Many financial advisors charge an investment management fee that is directly related to the account balance of the funds that advisor manages. We are moving toward charging quarterly fees that are tied only to the services we provide, not the specific size of the accounts.

This month we are offering an investment expense audit to help you better understand all the hidden fees you are being assessed which can be very meaningful whether you are working with someone or doing it yourself. Please give us a call at 303.900.4018 or email to schedule an initial consultation where we can review the efficiency of your current strategies, including hidden expenses. All fund information above is from Morningstar.