Many of my readers know that I am an advocate for clearly communicated, transparent fees. I’ve tried to enlighten my readers from time to time on some of the Hidden Fees in Investing. I recently came across an e-column from a newsletter I get that I simply have to share. It willÂ definitelyÂ clarify some of the many conflicts of interest in Broker Dealer compensation.
The financial advisory profession has recently created two pretty good videos that illustrate the conflicts of the agency/brokerage/wirehouse advice model. Â One, produced by Hightower Securities (which actively recruits brokerage teams) compares brokers to butchers and fiduciaries to dieticians; the one sells you a choice cut of meat, the latter sells advice on a healthy diet. Â Don’t ever ask the butcher if you really need a juicy pork chop in your diet. Â (You can find the video here:Â http://www.youtube.com/watch?
The other video was produced by Greenspring, which is a fee-compensated advisory firm I probably should be familiar with, but am not. Â The video explains certain conflicts built into the brokerage compensation model, and why they provide incentives for a broker to make recommendations that may not be in the customer’s best interests. Â You can find the video at http://greenspringwealth.com/
You also see the quota system on sales: Morgan Stanley brokers who have been with the firm for nine or more years have to produce at least $300,000 in sales or they’re put on probation. Â A company spokesperson says that the firm’s previous $250,000 quota was lower than the industry average, so the firm decided to come inline with everybody else.
As the Greenspring video makes clear, the system is most conflict-ridden when an advisor is close to reaching a higher payout level–when, say, the Merrill Lynch advisor has made $280,000 in commissionable transactions or brought in asset management dollars that generate this level of total compensation (gross dealer concessions) as of mid-December. Â At that production level, he stands to make 35% of the total, which comes to $98,000, while the firm takes the rest for overhead, expenses and those amazing executive bonus pools. Â But if that broker can get another sale, or bring in more assets to generate $20,000 more in gross production/sales, it would bring him up to the $300,000 threshold. Â At that level, he’ll earn 38% on the total amount for the year, plus a potential long-term productivity bonus of 2.5%. Â That $20,000 sale could mean an increase in yearly compensation of $23,500. Â Do you think that broker isn’t calling his customers in the latter half of December looking for something–anything–they might be willing to buy?
You can see a more straightforward conflict of interest in the Walls Fargo Advisors payout grid, where brokers, agents and financial advisors are paid additional bonus percentages if they can sell certain noninvestment products–which are coyly not named directly, but appear to be related to gathering assets the firm will manage (Net Asset Flow Award = 2.5% in additional payout) or getting customers to take out loans (Lending and Banking Award = .5%-1.5% depending on production). Â The customer may not need to refinance a home mortgage through Wells Fargo, but if it means an additional payout that raises the broker’s entire compensation structure, hey, why not give it a pitch?