The changing face of financial planning

This article has been written by Glenn Freeman, a senior editor at Morningstar. It initially appeared on Morningstar's Australian website from where it has been taken.
By Morningstar |  10-05-17 | 

"We're watching the transition, as technology begins to come into the world of the knowledge industry," says Michael Kitces, partner and director of financial planning research, Pinnacle Advisory Group.

This process has begun within the legal and medical professions, where digital solutions are becoming standard tools used in the discovery process and medical diagnoses, respectively. "And it's happening in financial advice, as technology and so-called robo-advisers are coming into the industry," Kitces told attendees at the Morningstar Investment Conference in Chicago last month.

He compares the dynamics of the traditional relationship between clients and their financial planner with those of the future. Currently, the statement of advice is a central part of the service clients in Australia receive from their planner--referred to by Kitces more broadly as the financial plan. As cloud technology becomes increasingly pervasive, these and other documents will instead be stored in the digital environment rather than as physical sheets of paper.

"About 10 years ago we started making the transition to digital statements ... but all we really did was turn the paper into a digital picture of the piece of paper, and make it available using technology ... we didn't do anything to reframe it in a way that was more relevant," Kitces says.

"Now we're making this real transition, where I can pull out my smartphone and see a real-time readout of my investments exactly where they stand today ... we've got that far with investments, but we are going to see that with the entire financial plan."

This decentralisation of the financial plan, when combined with specialised financial planning software, will also change the frequency and modes of interaction between clients and their advisers.

In the traditional client/financial planner model, physical meetings or phone calls were the only way specific information about the client's individual circumstances at any given time could be conveyed.

For example, when a significant share-market event leads to a widespread sell-off, "clients know they're in trouble--and what do you do [as a client] when you know you're in trouble and you're going to get told to cut your spending when you come in for a meeting? You don't come in for a meeting."

"Unfortunately, the client psychology is, 'I don't really want to tell you the information when you're going to give me bad news'. And the whole system breaks down. The technology fixes that."

The communication evolution

Clients will also communicate with their financial planners in many more ways than they do currently, with this evolution having begun years ago with mobile voice calls and email, and expanding further through digital channels, mobile internet, and social media.

"We've been adopting video meetings in our practice, and we've found the average time of a meeting has dropped by more than half ... the incentives change when you change the structure of the meeting, and suddenly it's in everyone's interests to be more efficient," Kitces says.

When these hour-long meetings are reduced by half and turned into video meetings, clients can receive around twice the amount of attention from their financial planner.

As more automated financial advice tools come to market, such as those in asset allocation, investors can manage more of their portfolio activity without the input of a financial planner.

Kitces identifies three key areas where planners traditionally bring value to their clients: by helping them achieve beta, alpha and gamma. In this context, beta refers to investment returns in relation to the movement of a financial market or index. Alpha is the outperformance of an investment relative to its expected performance, or benchmark. Gamma measures returns from price changes in stock options and derivatives trading.

"Historically, our primary value proposition was beta ... I gave you the ability to participate in markets that you didn't otherwise participate in," Kitces says.

"Once technology showed up, it brought the trading cost down so far ... [that] beta is available to everyone about as close to free as you can get [through index investing tools such as ETFs]. It's important, but you don't need it from planners."

In terms of alpha, he says planners add this through security selection, dynamic asset allocation, and fund manager search and selection. "But the challenge now is that, as that space gets more crowded, the opportunity for alpha continues to shrink ... the more efficient the markets get, the less opportunity there is to put alpha on the table."

"This leads you toward the gamma," he says, highlighting financial planners' delivery of portfolio-related value-adds, niche financial planning, and portfolio rebalancing strategies.

"It'll become increasingly about how we impact consumers' behaviour ... but in broad-based financial planning and in increasingly niche financial planning."

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