Asset-Based Fee Models Gain As Commissions Decline: Report

Asset-based fee models are winning at the expense of commission-based structures as advisors shift toward more profitable arrangements, a new report found.

The traditional assets under management (AUM) model is growing strong even as new fee-based arrangements crop up each month, the report by Cerulli Associates found.

The report found that by 2019:

• 66 percent of advisors will derive their income from asset-based fees, up from 58 percent in 2017.
• 23 percent of advisors plan to derive income from commissions, down from 33 percent in 2017.
• 5 percent of advisors will rely on a fee for a financial plan, compared to 4 percent.
• 4 percent will rely on annual or retainer fees, up from 3 percent.
• 1 percent will rely on hourly fees, unchanged from 2017.

Asset-based fees are derived as a percentage of assets managed by the advisor so advisors who charge 1 percent on $1 million in assets earn $10,000.

Critics say asset-based models don’t properly reflect the amount of work done by or the value delivered by the advisor.

For example, an advisor who charges 1 percent on assets of $10 million and earns $100,000 isn’t doing 10 times the work of the advisor who charges 1 percent on assets of $1 million and earns only $10,000, critics claim.

Behavioral Finance At Work

Advisors are experimenting with other fee models beyond asset-based fees as advisors seek to attract younger investors who have few assets and for which an AUM model isn’t ideal.

Alternatives include hourly fees, retainer fees, or fees built around a “menu” of services that investors can pick and choose.

Each fee model has its advantages and drawbacks, but other models appear to be gaining little traction with advisors in the short term, Cerulli researchers found.

Asset-based fee models, meanwhile, continue to forge ahead and that has partly to do with behavioral finance and the fact that asset-based fees resonate more forcefully with investors if not necessarily with all advisors.

“For some reason, mentally, people have a much easier time with a 1 percent yearly fee than they do with paying an adviser by the hour,” said Monica L. Dwyer, a financial advisor with Harvest Advisors in West Chester, Ohio.

“I have had clients tell me how expensive their lawyers are and that they charge them in six-minute increments,” Dwyer said in an email. “They avoid their lawyer because they worry about the expense.”

Asking a client to cut a $5,000 check is far more difficult for a client to process mentally than taking 1 percent annually out of a $500,000 investment portfolio, said William Nathan Greene of Shoemaker Financial in Nashville, Tenn.

“Clients have a much easier time processing this (AUM), and for that reason, we are many years away from the devolution of the AUM model,” he said.

AUM provides a natural path to increasing income in which the advisor gains as assets also grow – a correlation that is difficult to replicate elsewhere, Greene explained.

Commission Models On The Defensive

The biggest change over the next 18 months appears to be the retreat of commission-based models, the Cerulli report found.

Only 23 percent of advisors plan to derive income from commissions by 2019, down from 33 percent in 2017.

Commission-based models have suffered in the face of new regulation, and the popularity of low-cost, commission-free investing and more fee-based product options for advisors.

No one expects commission-based models to disappear since commissionable products can sometimes be less expensive than fee-based cousins.

But the commissions-versus-fee battle has “largely been put to rest,” the Cerulli researchers wrote, and much of the debate seems to have moved on to what kind of fee – AUM, hourly, retainer or menu fees – advisors should charge.

InsuranceNewsNet Senior Writer Cyril Tuohy has covered the financial services industry for more than 15 years. Cyril may be reached at cyril.tuohy@innfeedback.com.

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