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Fee-Based Advisory Service the Way to Go

Fee-Based Advisory Service the Way to Go

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Published by Winston Wisdom Koh

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Categories:Types, Research
Published by: Winston Wisdom Koh on Apr 01, 2012
Copyright:Attribution Non-commercial

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04/01/2012

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BByy GGEENNEEVVIIEEVVEE CCUUAAPPEERRSSOONNAALL FFIINNAANNCCEE EEDDIITTOORRTHE prospect of an advisory landscape sans commissions has generated an intense buzz in thefinancial advisory (FA) market, following the announcement by Ravi Menon, managing directorof the Monetary Authority of Singapore (MAS) that a Financial Advisory Industry Review (Fair)is about to take place.Not surprisingly, many advisers have reacted with consternation as the new rules threatentheir rice bowl. On the other hand, consumers (based on letters to The Straits Times Forumpage) appear to have generally welcomed the changes. They are appalled, for instance, tolearn of the quantum of commissions earned from the sale of insurance policies.More than 10 years ago, the Committee on Efficient Distribution of Life Insurance (Cedli)generated just as intense a reaction. Cedli sparked a number of major changes such as morerigorous training requirements for insurance advisers, and greater transparency in benefitillustrations.In those days, agents bristled and responded vociferously to the charge that they arecommission-driven. Today, based on what was publicly said by the Association of FinancialAdvisers (Singapore) this week, the association head actually admitted to being commission-driven. But many of the arguments in favour of commissions and against a fee regime actuallydo a disservice to the financial advisory industry at large, even though the state of advisorytoday leaves much to be desired.Today, only one firm (Providend) operates on a fee-only business model - which chief executiveChristopher Tan says was 10 years ahead of its time. 'Many industry players say thatSingaporeans will not pay a fee for advice. Our experience tells us this is not true; Singaporeanswill pay a fee for advice as long as they see value in our work. And we must prove that ourwork is of value to the clients. Our existence after 10 years is a testament to that.'He adds: 'We persisted because of our deep conviction that if you truly want to giveprofessional advice, you must not take commissions. We have a strong desire to see ourprofession accorded the same respect as lawyers, accountants and doctors.'Life Planning Associates (PA) CEO Benny Ong says the firm derives 80 per cent of its revenuefrom fees and 20 per cent from commissions. He does not take on new advisers who arereluctant to transition to a fee model. His clients, he says, are happy to pay a fee. Not all ofthem are high net worth individuals. 'You must sit down and find out what they really need, notwhat you want to sell,' he says.Here are some recently published arguments against a fee-only regime.
Fee-based advisory service the way to gohttp://www.businesstimes.com.sg/sub/storyprintfriendly/0,45...1 of 31/4/12 10:35 PM
 
If there are no commissions, the adviser has no incentive to actually sell a plan, so theargument goes. This assumes a scenario where the adviser actually charges a fee to do aninsurance needs analysis. It envisions that the client walks away and no sale is made.Again, the implicit assumption here is that the adviser is incentivised only by commissions -which is an indictment of the industry. An adviser who takes the time to map out a client'sneeds, survey the available products and explain all options should surely be able to convinceclients to take the next step to actually address the needs. This assumes, of course, that theproposed products are affordable and gives maximum mileage for the premiums.A fee-only model suggests that advisers are paid a salary. This is said to kill creativity andentrepreneurship. Tied agents take pride in being entrepreneurial. But this argument is afallacy. Not all agents are entrepreneurs, although the agency owner who risks capital isarguably entrepreneurial.Just as one can run a successful agency with commissions, one can also run a viable businesswith fees and salaries for advisers. The latter is admittedly more challenging. But it all boilsdown to two different models and philosophies: the salesperson versus the professional. Bothmodels incur market and operational risks. In fact, the fee-only model incurs higher risk andarguably demands more entrepreneurial drive as it takes great commitment to make it asuccess. Not all agents can become fee-only advisers.In fact, separating fees from commissions actually increases accountability. Today, clients paya commission and believe advice is free. But the commission actually compensates the adviserfor advice as well. Separating the two crystallises the fact that the client demands anddeserves advice.It is said that a fee-only regime may skew the marketplace towards term assurance or pureprotection plans. This may or may not be the outcome given Singaporeans' preference forpolicies with a savings element and return guarantees. But a preference for term assurance issurely welcome as it goes a long way towards addressing Singapore's under-insurance gap. Thedanger is that the extent of under-insurance may actually rise. Australia and the UK are maturemarkets which are accustomed to paying portfolio fees, yet the under-insurance gap isalarmingly wide. In their markets, term assurance is commoditised - that is, premiums are lowand undiffferentiated. Plans can be bought online. Insurance advisers in the UK and Australia atthe moment still receive commissions from sales of protection policies. But the commissionsmay not compensate them enough for the time taken to advise clients.The truth is that term assurance is the answer to Singapore's insurance gap, as a fairly modestpremium goes a long way in terms of protection. Here's an example from a recent benefitillustration: A roughly $2,400 annual premium for a whole life plan will buy just $110,000 indeath benefit for a 35-year-old man. Almost the same premium will buy a death benefit of$1.4 million, based on a 30-year level term plan with no cash value.Based on these plans from a particular insurer, the distribution cost is actually higher for pureprotection, debunking the notion that commissions for term plans are very low. Clearly, theplans were designed with the objective of actually encouraging sales of pure protection plans.In this case, the total distribution cost of the whole life plan is over $4,800 - about 198 percent of the annual premium. For the term plan, the total distribution cost is more than $5,300- more than 200 per cent of the annual premium.It is said that the absence of commissions may cause insurers to offer fewer par plans; this isunlikely. Instead, insurers are likely to have to reprice policies to accommodate lower
Fee-based advisory service the way to gohttp://www.businesstimes.com.sg/sub/storyprintfriendly/0,45...2 of 31/4/12 10:35 PM

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