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Vanguard doesn't get a free pass on this one

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After Vanguard CEO Tim Buckley gave his startling keynote address at the Inside ETF’s conference in January (sole diamond sponsor: Vanguard), I received at least 30 email messages from advisors. Buckley’s words were certainly alarming: He said that Vanguard plans to attack financial planning and investment advice fees the way the company once launched its very effective broadsides against the fee structure of the mutual fund industry. Vanguard would drive advisor fees down to the bare bones lowest cost, and take no prisoners doing so.

Advisors were asking what this war on their livelihood meant for the future of their firms.

To me, the answer is not complicated, but it does require you to follow a chain of logic. For years, I’ve preached the virtues of professionalism in the advisory space, which means a variety of things: expertise, an ethical framework, putting the clients’ interest first, a body of knowledge, and certifications that actually mean that the person with those letters behind your name on the business card has actually mastered a lot of complicated material relevant to excellent planning advice.

One of the most encouraging trends in this march toward professionalism is the growing disconnection between independent advisors and product manufacturers — that is, mutual fund and insurance companies. We are rapidly moving away from the captive insurance field force. Mutual funds, by and large, no longer pay commissions to the advisors who recommend them. Brokers are leaving the captive world for the greener pastures of independence — no longer relying on the squawk box to tell them what to sell.

I’ve been a longtime advocate of fees over commissions generally. I have always believed that if you are only paid by the client for your advice, then you’ve given yourself the freedom to objectively select the investment and insurance solutions that a client’s financial situation requires. That doesn’t mean you’re necessarily competent, or that your advice is first-rate. But it does mean that you have no incentive to push this inferior product over that other superior one.

Through this lens, I look at Vanguard, whose Personal Advisor Services now has more than $100 billion under management, offering investment advice for 30 basis points via representatives manning the phone lines. To me, this is a very familiar sight. Since the beginning of my career in the 1980s, insurance agents, annuity salespeople and purveyors of load funds have pretended that their agenda-conflicted advice — often including financial planning analysis — was totally free of charge. All you had to do was buy their products — and of course, then (they would tell you) the product companies were really paying for these advisory services, not you, the customer.

Vanguard is doing them one better. It’s charging a very low fee, which makes the advice its representatives provide over the phone a bit more credible. And then, when it comes time to make investment recommendations, the Vanguard representative steers the customers to — can you guess? — Vanguard funds.

Nobody would be alarmed if Vanguard were giving financial advice away for free, the way the product peddlers have been doing. Advisors — and their more savvy clients — would know instantly that the profits were actually coming from the (very predictable) product recommendations. But the fact that Vanguard is charging a fee, and then comparing that low fee with the “exorbitant” 80 basis points or so that more objective financial planners charge for a much more comprehensive, personal service, causes alarm bells to ring like the terrible gong of doom throughout the profession.

It’s the same old sleight of hand, focusing your attention to costs on the loss leader rather than the real source of profits.

I hope I’m not misunderstood here; Vanguard is a fine company, and we all owe it a debt of gratitude for its role in pushing fund fees lower. I remember a time when Don Phillips at Morningstar was pointing out that fund companies with $100 million were charging a relatively high expense ratio, and then, when their funds went up over eight figures in customer assets, somehow those economies of scale were not finding their way into lower costs to the end consumer.

One could argue that Vanguard’s pricing revolution has also driven some really good active managers out of the business. And one might imagine that the rise of ETFs — initially resisted by Vanguard — would have caused those expense ratios to decline anyway. But by and large, I believe Vanguard has exerted a positive influence on the investment landscape.

This, too, makes the low-cost investment advice competition from Vanguard seem scary; the company that is embracing manifest conflicts of interest in its advice recommendations has generally been viewed as a consumer-friendly organization by your clients and the press generally. But at the end of the day, I think we should not be afraid to call a spade a spade. The Vanguard reps who are charging 30 basis points for investment advice are salaried product salespeople who are offering advice as a loss leader to steer customer assets to the company’s products.

Moreover, I suspect that one could see a big difference between a Vanguard financial plan — and the experience level of the planner behind it — and the plan and planner offering advice at an independent advisory firm. The sales agents who gave away planning were always a bit perfunctory in their analysis and advice —they had to get quickly to the point, after all — and however earnest the planner on the Vanguard phone lines might be, chances are the customer is talking to a young person just starting out and getting a fairly straightforward retirement analysis alongside Vanguard-centric portfolio recommendations.

If I were looking for advice on making a large, planned-giving donation that would pay my heirs an income for life or looking for how to restructure my small business to take full advantage of the Section 199A deduction, I probably wouldn’t call up Vanguard Personal Advisor Services to do it. That “exorbitant” 80 basis points pays for a lot more than a scaled down retirement analysis delivered over the phone and the predictable recommendation of in-house funds.

But the question remains: how do you compete with a company that is determined to drive the profession’s fee structure down below profitable levels? I think the answer is the same as the profession’s (so far successful) response to the robo competition. You point out the value of objective advice, and of personal service, and you fight margin compression by embracing technology and automating everything that you possibly can. You move toward working with a well-defined niche where you know your clients on a deeper level even that the personal financial planner up the street.

And you tell clients and prospects the honest truth: There’s a place for sales in the financial services world, and that you can often get pretty decent advice from a sales agent. Just make sure that you understand the conflicts involved in a sales relationship. And don’t be surprised when you see the recommendations you receive after the “planning” work.

That Vanguard representative may fervently believe that her company’s products are the best out there, but I guarantee you that their degree of fervor is no greater than the life insurance salespeople I’ve interacted with over the years, or the indexed annuity salespeople who sometimes joust with me on Twitter over my “holier than thou” prediction that fees are the future.

Conflicts are conflicts, no matter who embraces them, and I’m sorry, Vanguard, much as I respect you, you don’t get a free pass on this.

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