Study: B-Ds to double in size, but profitability's a challenge

Broker-dealers are expected to keep getting bigger, but turning that growth into profitability will remain a challenge, according to a new study.
JUN 02, 2008
By  Bloomberg
Broker-dealers are expected to keep getting bigger, but turning that growth into profitability will remain a challenge, according to a new study. Broker-dealers are projected to double in size over the next five years, with revenue increasing by 21% per year on average, according to the study, "The Broker-Dealer of the Future," which was conducted by Pershing LLC. But the difficulties on the road to profitability are numerous, according to the study, which Jersey City, N.J.-based Pershing completed in cooperation with InvestmentNews and Cast Management Consultants Inc. of Los Angeles. "Broker-dealers need to increase operating efficiency, retool their product and technology offerings, tackle the talent shortage and find ways to deliver additional value to investment professionals," the study stated. And the report also confirmed the difficulties of navigating the division between the business and regulatory models of registered representatives and investment advisers, one industry executive said.

DOWNSIDE OF FEE BIZ

"The independent registered investment adviser issue is a challenge for all of us," said Roger Ochs, president of H.D. Vest Financial Services of Irving, Texas. "I don't think our industry has our arms around how we're going to serve that group of advisers." Advisory fees are the leading source of revenue for broker-dealers, the study noted, and in five years, fees may exceed 50% of a broker-dealer's revenue. However, there's a potential downside to that trend. "With the growth in fee-based business comes a perceived competitive threat," the report concluded. "It is a fact that some of the most successful investment professionals in the country have left their broker-dealer licenses behind and now practice as independent fee-only advisers." There are now more than 5,000 firms that are "dually registered," meaning they are registered with both the Financial Industry Regulatory Authority Inc. of New York and Washington as a broker and the Securities and Exchange Commission as an adviser, the report said. And that's a challenge for the industry, the report said. "Dually registered firms — those affiliated with a broker-dealer and also operating as an independent RIA — pose several critical issues for broker-dealers: Will they be embraced or merely tolerated, and are they merely in transition or looking to stay in the dually registered model as a long-term strategy?" Early this year, Pershing released preliminary findings of the study, detailing how registered reps and advisers worry about being able to offer a greater mix of products to their baby boomer clients. (InvestmentNews, Jan. 28) Reps also fret about receiving better support services from their broker-dealers to meet those clients' needs when the first wave of boomers hits the official retirement age in 2011.

AUDITS SEEN AS CRUCIAL

The study, which will be released this week at Pershing's annual meeting for its clients in Hollywood, Fla., proves that broker-dealers should audit themselves, said James T. Crowley, managing director of Pershing. "Are they prepared to support advisers in the future? What are their gaps?" Mr. Crowley asked. The study was divided into two parts, with one based on 715 responses from reps and advisers, and the other based on answers from 76 broker-dealer executives. One significant conclusion of the study was the need for broker-dealers to change strategies for recruiting, which has become more ex-pensive and time-consuming in recent years. "Alternative recruiting strategies must be adopted," the study said. "Broker-dealers could consider supplementing their recruiting efforts by targeting second-career individuals with relevant backgrounds in areas such as tax, accounting and legal." And some firms lack an identity in a crowded marketplace. "Half of the firms surveyed do not focus on a specialized market," the study noted. "Creating a niche strategy may present an opportunity for broker-dealers to differentiate themselves." Some of the study's observations are common wisdom in the brokerage industry, Mr. Crowley noted. But implementing those conclusions is extremely difficult because of the day-to-day pressures of the business, he said. "Everyone has their head down because the business has become so complicated," Mr. Crowley said, citing the demands of recruiting and keeping up with regulators. "Common wisdom is one thing, but execution is another," he said. "A lot of evidence would suggest that there a quite a few firms that are not zeroing in on the ideal business model for themselves." E-mail Bruce Kelly at [email protected].

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