Do Your Friends A Favor: Show Them There's a Better Way!

Help your friends understand the difference between a broker and an independent advisor.

On March 14, the New York Times published an Opinion-Editorial by Greg Smith, a Goldman Sachs Executive Director. In the piece, Smith explained that he was resigning from the one of the world's largest and most important investment banks due to the conflict between the best interests of the clients and the culture of Goldman Sachs.

While your friend's individual broker may be an honest and ethical person, most investors do not realize or understand the conflict of interest that a broker faces. (Brokers include representatives of the major brokerage firms as well as anyone whose business card or letterhead says "Investments offered thru XYZ Securities.")

Bob Veres is a journalist who has decades of experience covering the personal financial planning industry. He is an independent journalist and well-respected authority on the industry.

Veres recently published the following article for independent advisors on the conflicts that brokers face, particularly in compensation plans, which I share with you verbatim per his suggestion.

My only request is that you consider forwarding it to a friend who you know uses a broker and would be better served by an independent, fee-only firm like ours that acts in a fiduciary capacity in the best interest of you, our valued client.

The Difference Between a Broker and an Independent Advisor By Bob Veres

The financial advisory profession has recently created two pretty good videos that illustrate the conflicts of the agency/brokerage/wirehouse advice model. One, produced by Hightower Securities (which actively recruits brokerage teams) compares brokers to butchers and fiduciaries to dieticians; the one sells you a choice cut of meat, the latter sells advice on a healthy diet. Don't ever ask the butcher if you really need a juicy pork chop in your diet. (You can find the video here)

The other video was produced by Greenspring, which is a fee-compensated advisory firm I probably should be familiar with, but am not. The video explains certain conflicts built into the brokerage compensation model, and why they provide incentives for a broker to make recommendations that may not be in the customer's best interests. You can find the video here, and tables showing various brokerage compensation structures (fascinating reading in their own right) can be found here. Be sure to scroll to the bottom, where the magazine provides the actual payout grids, plus interesting tidbits like the fact that Merrill brokers won't get paid for advising any accounts under $250,000 in size unless at least 80% of their accounts are that large or larger, at which point they can be compensated for servicing customers who bring in those measly $100,000 accounts.

You also see the quota system on sales: Morgan Stanley brokers who have been with the firm for nine or more years have to produce at least $300,000 in sales or they're put on probation. A company spokesperson says that the firm's previous $250,000 quota was lower than the industry average, so the firm decided to come inline with everybody else.

As the Greenspring video makes clear, the system is most conflict-ridden when an advisor is close to reaching a higher payout level―when, say, the Merrill Lynch advisor has made $280,000 in commissionable transactions or brought in asset management dollars that generate this level of total compensation (gross dealer concessions) as of mid-December. At that production level, he stands to make 35% of the total, which comes to $98,000, while the firm takes the rest for overhead, expenses and those amazing executive bonus pools. But if that broker can get another sale, or bring in more assets to generate $20,000 more in gross production/sales, it would bring him up to the $300,000 threshold. At that level, he'll earn 38% on the total amount for the year, plus a potential long-term productivity bonus of 2.5%. That $20,000 sale could mean an increase in yearly compensation of $23,500. Do you think that broker isn't calling his customers in the latter half of December looking for something―anything―they might be willing to buy?

You can see a more straightforward conflict of interest in the Walls Fargo Advisors payout grid, where brokers, agents and financial advisors are paid additional bonus percentages if they can sell certain noninvestment products―which are coyly not named directly, but appear to be related to gathering assets the firm will manage (Net Asset Flow Award = 2.5% in additional payout) or getting customers to take out loans (Lending and Banking Award = .5%-1.5% depending on production). The customer may not need to refinance a home mortgage through Wells Fargo, but if it means an additional payout that raises the broker's entire compensation structure, hey, why not give it a pitch?

About Bruce J. Berno, CFP®

Bruce J. Berno, CFP® is the founder of Berno Financial Management, Inc. a fee-only comprehensive personal financial planning and investment advisory firm headquartered in Cincinnati, Ohio. Since 1993, Berno Financial Management has been helping individuals and families achieve financial peace of mind. For more information about Berno Financial Management, visit