B-Ds Have To Go Big Or Narrow, Cerulli Says

Grow, specialize, merge or die.

That’s the message to broker-dealers struggling with thinning profit margins, according to a new report by Cerulli Associates.

Broker-dealers competing “with the highest degree of scale or niche specialization are best positioned for competitive strength and fiscal health,” the report said.

Large broker-dealers like Merrill Lynch and Raymond James can protect margins by trimming bonuses or slashing generous recruiting packages.

Small shops don’t have those levers and are ill-equipped to take still more hits to their margins as top-earning advisors bolt for the RIA channel, the report said.

“Margins are getting squeezed across every channel,” said Kenton Shirk, director of Cerulli’s intermediary practice.

Consolidation will accelerate, if it hasn’t already with boutique broker-dealers dropping to 759 in 2016 from 1,081 in 2006, the report said.

To some extent, market growth has masked the impact of thinner margins to smaller practices, but the troughs of the market cycle will surely claim the next batch of small intermediaries in due course unless they act in the face of an uncertain future.

In some cases, small broker-dealers have joined larger independent broker-dealers in a supervisory capacity with oversight of individual brokers and advisors within a larger broker-dealer’s network, Cerulli said.

“The move allows them to lean on IBD’s scale and infrastructure, but still maintain a reasonable degree of autonomy,” Shirk said.

Squeezed From Two Directions

The economic squeeze on broker-dealers large and small comes from two directions: lower revenues and higher expenses.

Passive investment strategies, exchange-traded fund structures, lower-cost institutional share classes and less revenue sharing eat into the economic fortunes of broker-dealers.

Teams of advisors migrating to RIA platforms further remove assets from the broker-dealer, the report said.

One-quarter of IBD advisors in a practice with more than $500 million in assets considered opening an RIA in the past year, Cerulli said.

On the expense side, the spreading fiduciary ethos means broker-dealers are paying more for technology, operations and compliance.

Renegotiating revenue-sharing agreements with asset managers have in-turn caused asset managers to re-evaluate their broker-dealer partnerships, the report said.

Return on assets at broker-dealers, on average, fell from 0.87 percent in 2011 to 0.75 percent in 2016, Cerulli researchers found.

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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