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| First Person: Industry View |
The Costs of Counsel
Scott Welch
11/01/2005
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Scott Welch is a managing director of Lydian Wealth Management, a wealth
advisory firm with six offices around the country. He manages the investment
Research and Strategic Planning groups and is the firm’s concentrated stock
specialist. He writes frequently on a variety of wealth managment-related
topics.
You recently decided to retain the services of a high-quality wealth management
firm. This firm will offer advice and consultation on many aspects of your
overall wealth plan: your investment portfolio, your cash flow and lifestyle
planning, your estate planning, your wealth transfer and philanthropic
endeavors, even private travel. You anticipate that this firm will offer you
objective advice and assist you in being a good steward of your family’s
wealth.
You engaged in a rigorous due diligence process, interviewed several
firms, thoroughly checked references and believe you finally found the firm that
is the best fit for your family’s unique financial situation.
Now comes the
hard part: How do you determine how much to pay your new wealth management
partner?
There are many ways to structure a compensation schedule for
wealth management services, but the two most widely used are a fee based on a
percentage of the assets under management (%-AUM) and a negotiated flat retainer
fee.
The key to all successful business
partnerships is that both parties
believe that fair value is being exchanged. |
Which is better? It depends. There are pros and cons to both
approaches. The %-AUM method is (rightly or wrongly) somewhat of the industry
standard, at least up to certain asset sizes. If, for example, you allocated $10
million to a %-AUM-based wealth manager, your annual fee would be some
agreed-upon percentage (e.g., 1 percent) of this amount. Note that this fee
structure is a function of your investable assets and not of your net worth, nor
does it factor in the overall scope of services provided by the wealth manager.
It is a clean and very easy to understand methodology, but it is subject to
certain considerations.
When an advisor is strictly managing investments,
the %-AUM approach is appropriate because there is a direct link between the fee
and the service being provided. Specifically, you have given that asset manager
money to invest, and the AUM—and thus the manager’s fee—rises and falls in
accordance with how well the manager performs. It becomes more problematic when
the wealth manager is advising on multiple aspects of your wealth plan.
When
a family is comparing two wealth managers, it may find wide discrepancies in the
pricing. For example, an investor with $10 million to invest might see quoted
fees ranging from approximately 0.65 percent to approximately 1.5 percent,
expressed as a %-AUM. This is usually because there is a fundamental difference
in the service offering proposed by each firm. While those differences may be
clear to the firms that compete in this business every day, they may be lost on
the family, which typically generated its wealth in other arenas.
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