INDEPENDENTS MOVE UP ON WALL ST. HOUSES: WRAPS COME UNTIED

The big brokerages’ hold on the wrap business is slipping.

Although assets continue to pour in, for the first time, wirehouses’ market share declined through 1996, and although the 1997 figures won’t be available until yearend, early indications are the trend is continuing.

Wall Street’s wirehouses are failing to increase market share as independent broker-dealers invade their turf and fee-based financial planners gain more clout.

Wrap accounts — which totaled nearly $140 billion at yearend 1996 — are a pool of mutual funds or private accounts managed for a single fee. They’ve been a primary vehicle in Wall Street’s quest to convert more revenues from commissions to fees. The other standbys are investment banking fees and management fees for brokerages’ own mutual funds. Wrap programs cost investors an average of 2.21%, of which the sponsor pockets an average of 0.96% of assets per year, says Cerulli Associates in Boston, which expects to release 1997 wrap data at yearend.

Independent broker-dealers say they’re more objective than wirehouses since they don’t have proprietary investments to push. And fee-based investment advisers offer what is essentially a wrap-type service, often at a lower cost. There’s also competition from funds of funds offered by investment firms, although these tend to attract smaller investors.

What’s more, the Street has had a hard time persuading recruits to sell wrap accounts because it’s difficult for them to eke out a living in the early years, compared to selling investments carrying commissions of 5% or more.

In mutual fund wraps, Salomon Smith Barney Holdings Inc. is the reigning champ with a 19.2% market share. It and the runners-up, SEI Corp. of Wayne, Pa., Merrill Lynch & Co., Prudential Securities Inc. and PaineWebber Inc., are seeing their collective market share slip even though their assets continue to grow, according to Cerulli Associates Inc., a Boston consulting firm.

The top 10 companies, which includes the five mentioned above, had a 76% share of the $36.2 billion mutual fund wrap market in 1996, down from a 91% share in 1994 when assets were $12.3 billion. In consultant wraps, which soared to $103.2 billion at yearend 1996 from $66.2 billion in 1994, breakdowns were not available. Such accounts, designed for wealthier folks, invest in privately managed accounts run by firms chosen by the brokerage firm. Again Smith Barney ruled at yearend 1996, with a 47% market share, says Cerulli.

Meanwhile, fee-based revenues for independent broker-dealers reached 10% of their total business, and that portion will reach 25% over the next five years, says Cerulli. The leaders among independents are: FFP Securities, Investment Management and Research, Financial Network Investment Corp. and LPL Financial Services Inc.

“Just consider what independent broker dealers are doing,” says Cerulli analyst Andrew Guillette. “They don’t have proprietary products, and have less of an emphasis on selling individual securities.”

And Perrin Long, a consultant in Darien, Conn., says Wall Street’s continued reduction of initial investment requirements, in some cases to as little as $10,000 “suggests to me they are running out of potential customers.”

To be sure, the brokerages still believe wrap accounts are the wave of the future. “Wirehouses have seen growth 60% to 70% over the past two years,” explains Mr. Guillette. “How can you argue that it’s not been a success.”

TOUGH TO FIGURE

The Street wants more fee revenue so it can even out its erratic earnings, but analysts say quantifying how fee income fits into the overall revenue picture at brokerages is extremely tough. Data in public documents are “opaque,” says Sallie Krawcheck, a brokerage analyst at Sanford C. Bernstein & Co. in New York.

Another motivation to boost fees: brokerage clients trade their accounts less, generating fewer commissions, the longer they’re with a firm, say consultants and analysts.

It’s not just the independent broker-dealers Wall Street firms are worried about. They’re also seeing retail investors flock to fee-based advisers like those that clear through discount brokerages on the premise that the adviser will pick the better investment, not the one paying the higher commission.

But persuading legions of brokers to charge fees remains a formidable task, particularly at the trainee level. “The wrap account has not been a big success,” says Jake Newman, an analyst at Standard & Poor’s in New York. “They are complicated to explain to investors. It doesn’t appear that the brokers like to sell them.”

Take wirehouse refugee Rhonda Bintliff, who spent four years as a trainee at Smith Barney before leaving in May to join Boston-based LPL Financial Services. The 36-year-old Ms. Bintliff says she was told: “If you’re not going to have the killer instincts to generate commissions, then you’re not going to last at this firm.”

At Smith Barney, trainees are required in the first six months to attain two of three goals: bring in 40 new accounts, earn $16,000 in gross revenues or attract $1.6 million in assets under management. And in the first year, trainees don’t get any share of the asset-based fees generated.

Smith Barney’s director of training, Scotty King, says Ms. Bintliff’s characterization of the firm “surprises me.”

Five years ago Smith Barney focused on selling securities, she says, but things have changed. “The emphasis is on going over with clients their needs.”

fees, commissions average out

Ms. King acknowledges that starting a fee-based business is tough, but says in the long run brokers earn similar compensation from fees and from commissions.

Maybe so. But some reps prefer old-fashioned sales charges.

Louis Ingargiola, 27, who was a rep for the former Kidder Peabody & Co., says when the firm was acquired by PaineWebber Inc., it started urging brokers to sell wrap accounts.

“At the home office, they started saying that was the wave of the future, but in my branch, fee-based was never mentioned,” he says. “Just produce the numbers.”

Mr. Ingargiola, who is now with LPL in Scranton, Pa., believes charging a fee isn’t good for the customer, particularly in a down market when brokers are still getting paid as the client loses money.

Richard Sipes, executive vice president of retail products at PaineWebber, insists the firm has never imposed sales quotas in its history, except on rookies.

He adds that wraps are the fastest-growing business in PaineWebber’s private client group. The firm oversees $21.4 billion in wrap account assets compared to $14.7 billion in 1996.

Despite the obstacles, the brokerage industry is serious about boosting its fee-based business. That’s been the “driving obsession” at Merrill Lynch & Co. for a decade, says Burton Greenwald, a consultant in Philadelphia.

“Brokers are increasingly becoming more like money managers than sellers of stock,” says David Ellison, who manages the FBR Financial Services Fund at Richmond, Va.-based Friedman Billings Ramsey.

Recruiters and consultants say Wall Street’s production requirements, particularly in today’s heady environment, are far from unreasonable. And there are signs that big firms’ retention rate for recruits, traditionally 15% to 20%, is getting better. Salomon Smith Barney Holdings Inc. says it kept 40% of brokers last year.

But much of the wirehouse sales culture remains the same.

As Mr. Long says, “If you get management to talk, and they’re honest, they’ll say they don’t want to be financial planners.”