The Commoditization of Portfolio Returns: What’s a Financial Advisor To Do?

We have an operating theory here at DataPoints that goes like this: portfolio returns are being commoditized for the vast majority of retail investors–either by robo-style services or index strategies, or both–and that this large swath of the population will be willing to pay less for the (likely illusory) promise of market-beating portfolio returns from their would-be financial advisors. This development will in turn put pressure on the financial services industry in general and financial advisors in particular to provide (and prove) value over and above achieving commoditized market returns. This market shift may prove fatal for the slow-moving that refuse to accept a new reality until it’s too late, but provides a unique opportunity for service providers that move quickly to establish their brand in the new value space. The winners in this market shift will be those that capitalize on the opportunity that has been hiding in plain sight for quite some time: enhanced value through behavioral coaching.

Truth is, this market shift is simply turning a spotlight on a piece of low-hanging fruit in the wealth-building quest: working with clients to improve behaviors that accelerate wealth accumulation. Maybe this area has been neglected for so long because while it is simple, it’s not easy to work with clients to change less-than-productive behaviors. But financial advisors are beginning to see that they now have a market incentive to prove their value in this area; indeed you could make the argument that it will be necessary to survive.

Sound outlandish? Maybe. But a recent white paper from Vanguard appears to agree with the theory. Vanguard has been publishing its “Advisor’s Alpha” study for a number of years now, and that research documents an asserted annual 150 basis point value associated with behavioral change from working with a financial advisor. (Calculated as an additional incremental 1.5% return on client portfolio assets.) As you may have seen us discuss before, we have data indicating that the advisor’s alpha is much greater than that: potentially as much as an additional 143% in savings every year as a result of behavioral change.

The recent Vanguard white paper digs deeper into the relationship between advisor value, fees, and client development and retention. The key theme of the piece is that in order to attract and retain clients in this new market, advisors will have to focus on relationship management, and specifically on high-value services with a level of immunity to automation. This bucket of high-value, automation-resistant services includes behavioral coaching services. This chart from the paper graphically depicts the layers of services and their value/automation potential:

The punchline of the paper nicely captures the bubbling “eureka!” moment that financial advisors ignore at their own risk:

“The paradox of skill and zero-sum game illustrate how difficult it is to successfully deliver excess returns, meaning that a value proposition based on investment outperformance has a reasonably high probability of resulting in disappointed clients. By applying their knowledge and experience to relationship-oriented efforts, such as behavioral coaching, advisors improve the probability of satisfying clients.”

  • Vanguard white paper at p. 10-11.

The Vanguard logic is: by focusing on these relationship-management type functions, advisors improve client results and enhance client trust and perception of value, which in turn drives stronger client relationships as well as referrals–which further benefits the advisor through increased business. Seems like a win/win.

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