The investment team at Gimbal Financial, an independent advisory firm, doesn't outsource all its investment management for clients anymore. Just two years ago, the Fishers, Ind., practice began using its own in-house investment strategy.
Every month, a team of investment managers gathers earnings estimates from numerous equity analysts, and then sifts through these to find securities that have gotten two or more annual earnings estimate increases within a six-month window. About 1,800 securities get into the initial haul, and then the investment team quickly sifts 800 names out of that before ending up with a portfolio of 15 stocks.
The approach, which the firm calls the starboard strategy, focuses on growth-oriented stocks that meet predetermined levels for metrics like return on equity, balance sheet strength and growth in sales, to name a few. "There are lots of great companies out there, but only a few good stocks," according to Doug Shrieve, a financial planner with the firm. "We just want to find good stocks." As of now, the firm puts only 5% of all client assets that it manages into the investment program, but in about five years, management hopes to increase that to 30% of total client assets under management, Shrieve says.
Gimbal Financial's experience is part of a larger trend in the industry. The financial market turbulence that began in 2008 sparked an awakening in clients. They are more savvy and hands-on about investing, and expect their financial planners to be the same way.
Before the meltdown, Gimbal Financial invested clients' money primarily into mutual funds and separate accounts with variable annuities, depending on the client's situation, says Keith Tyner, a planner with the firm.
"What we discovered was if those [outside] money managers make bad decisions and the accounts drop in value, we're held accountable by our clients as if we've made those specific decisions ourselves," Tyner says. "Those money managers have never had to talk to the clients."
It seems a lot of RIA firms are starting to agree with Gimbal's approach. A huge majority, 80%, of principals at independent firms studied by Aite Group last year, said they or a team member trades the majority of client accounts, according to Aite's advisor survey released in March 2011.
True to the spirit of attentiveness to clients, they are loath to give up that role. A large share of those surveyed, 41%, said they definitely will not consider outsourcing the entire trading function, and another 24% said they probably would not do so.
"Since the recent crisis, RIAs have been able to adjust investment allocations and portfolios very quickly and stay in control of them," says Alois Pirker, director of research at Aite Group. "Rebalancing on central platforms has been too slow to react to the rapidly changing markets we have seen. Brokers have envied the ability of advisors to be hands-on."
Financial planners have an ever-expanding array of tools to help them stay directly involved in investment management. The Connors Group, for instance, launched a portfolio modeling product, called the Machine Advisor, in February. The software leverages a proprietary database of market behavior and more than 10 years of investment research to generate more than 28,000 investment portfolios created using conservative active investing strategies. The Machine Advisor portfolios use ETFs and liquid large-cap stocks, and are fixed, meaning they do not undergo active rebalancing, says Jim Lonergan, CEO of the Connors Group.
Advisors can better manage their clients' portfolio risk by using an objective and systematic method to move money into cash when the market environment warrants, Lonergan says. The portfolio models are designed to reflect investors' specific interests, says Phil Suarez, director of education for the Connors Group.
"Some advisors hold the trades a week, or for a month to three months," Suarez says. "They rebalance themselves, but not [along the lines of] typical rebalancing."
Financial advisors are beginning to realize that they could forfeit a lot of revenue for their practices if they relinquish the investment management responsibilities to an outside firm, Lonergan says. The Connors Group charges advisor clients 10 to 20 basis points of clients assets for access to the model portfolios. Although some competitors might charge between 60 and 70 basis points for actively managed portfolios with balancing, additional marketing and revenue-sharing fees could bump up management costs to 2.5% of assets.
The Machine Advisor is a new offering, but Aite Group's Pirker says more products will make their way to RIAs and financial planners, especially via large firms. Investment management functions are also at the core of the current wave of acquisitions in the financial advisory industry. LPL Financial, which recently acquired Fortigent, for example, will be able to bring certain portfolio management tools and technology to a broader base of independent advisors, Pirker says.
As more investment strategies and tools become available to financial planners, Gimbal Financial's Shrieve says he thinks independent advisory firms can reconcile active management and the drive for growth with financial planning principles. They can also achieve good investment outcomes for their clients regardless of size. The most important element of a planning firm's strategy are its convictions and the set of investment rules that it is willing to follow, according to Shrieve.
"We want to know when to buy, when to sell and what to replace an investment with," Shrieve says. Sometimes defining those rules is a difficult undertaking because investment professionals generally guard their methods closely. Ultimately, the effort is worth it, Shrieve says.
"When I go to sleep at night, I don't have to worry if a manager is doing a good or a bad job. I know I am playing by the rules and sticking to the guidelines."
Donna Mitchell is a senior editor of Financial Planning.
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