Look, this is kind of a long article about something which has been on my mind in financial services for a while. Particularly financial planning and why it’s missing its mark, why it is, for want of a better word; failing. And maybe some early clues about how to fix it.
If you are busy and have something urgent to do, then you probably ought to do that. If not; plough on.
The guy in the photo at the top of this article, Alfred Marshall, who appears through the history of political economy as a grey and white caricature of Academic oddity, really ought to be more famous than he is.
Bluff, arrogant, mind-bendingly petty in his dealings with friend and foe alike, he managed to fall out with everyone, apart from his tolerant and brilliant wife Mary Paley who became engaged to him while still his student.
While John Locke, James Steuart and Adam Smith all talked about the idea of Supply and Demand in broad principles (Locke in terms of lending, Steuart in terms of wages and Smith on everything really) it was Marshall who codified the terms, did the mathematics and produced the wonderful “x” shaped supply and demand graphs that we all familiarised ourselves with in high school.
Actually – the truth is that he probably didn’t. According to J.M. Keynes who at least for a while was a close friend of the Marshalls, it was probably his wife Mary Paley who did the complex mathematics behind the elasticity calculations that changed the world.
Apparently, she did them in the early stages of her pregnancy, while on honeymoon in Bristol with her disappointing husband.
Imagine that – your honeymoon spent doing algebra on the impact of supply and demand in a cheap and damp boarding house in Bristol.
That’s probably the second worst honeymoon in human history. The worst, of course, belongs to Eva Von Braun, whose husband was also something of an idiot.
In any case, all of this is beside the point, except for the fact that Marshall did a huge amount of very useful work in explaining how to price a product or service into a market place for optimum penetration.
The Bit Which Explains The Economics
Manufacturing companies, particularly food companies, understand this very well. They have worked out to the cent how much they should charge for their products to ensure that they reach the maximum number of customers at the best available price.
Financial services companies (mortgages aside) have not.
In part this is because food companies have to get this right; their goods are perishable which gives them an extra incentive to get rid of them before they spoil.
The amount a good or a service has penetrated its market place is a very simple way to understand its attractiveness, how well priced it is and how well consumers understand its utility.
Utility is a word used here in its economic context – first teased out by Adam Smith in his 1776 pot boiler “An Enquiry Into The Nature And Causes Of The Wealth Of Nations.” The idea is that consumers will pay for a service for which they receive a benefit – either real or perceived – and the more valuable they think the benefit is, the more they will pay.
The logic is that the more valuable a benefit is, the more people will pay for it and the greater the number of consumers from a given market will buy the product or use the service.
If you apply this formula to Financial Planning in Australia then we have failed and failed dismally. And frankly we are all slightly to blame for this failure.
For a start the penetration numbers as an industry are appalling.
Every year at CoreData we run a big survey of Mass Affluent and High Net Worth Australians looking at how many of them could benefit from having a financial planner, how many of them use the service and what the barriers to uptake are. We even tease out which brands they like the most, but we will get to that another time.
So here’s the numbers on financial planning in Australia – as far as CoreData can work them out: There are 24 million Australians and of these our modeling shows about 11 million of them either working or retired have the economic complexity which would mean that they would benefit from financial planning.
Note we didn’t quote wealth here. The amount of assets alone doesn’t qualify you to need advice, though it’s usually a decent guide. What advice is really good for is negotiating complex circumstances and assisting people in making decisions that maximise their situation – financially or otherwise.
Of those that could use the service, about 24.5% of them state they pay for financial advice on a regular basis – getting their services from a mixture of financial planners, accountants and their super fund, in that order.
There are a few other categories – lawyers, workplace, friends and family – but the numbers even in aggregate are too small to be important and the key word here is that they pay for the service, not simply that they receive the service.
I want to be clear – in the survey we differentiate between Accounting Services and Financial Planning as much as we can. We think that while the same people can often provide the same services – they are actually very different things.
Of the survey respondents, about 12% of the population have used a planner and would never do so again – citing financial loss and poor service as the drivers for this. A further 13% state they would never use a financial planner, believing they can do a better job themselves.
The remaining respondents are split; about 14% have used a planner in the past and would consider doing do again (the shocking statistic here is that most of this group say that either their planner changed or the company that they were using changed and the company simply stopped contacting them).
The rest have never used a planner because they don’t really know what the planner would do, or don’t understand how the planner would add value to their life. That’s a big scary number. About 4 million Australians who could use the services of a financial planner don’t understand how a planner would add value to their life.
Statistically speaking that’s a really big miss. That’s one and a half times the number actually using the service as a potential market place.
At face value, it’s hard to work out whether the size of this miss shows an industry that is lazy, in decline and ripe for disruption – or whether this is the greatest opportunity in the current market place – an industry that’s underserviced and ripe for penetration.
To be frank – you can make a case for either of those arguments pretty well.
You could argue that you ought to immediately launch a Robo-advice model, drop the price to effectively free and start to soak up as many of the 4 million Australians who say they would take advice as possible.
The Bit About Pricing
There is a complexity there though. There is little evidence in any of our research that price is the real barrier to people taking up advice.
In survey after survey, focus group after focus group, price as a barrier to use scores so low as to be outside the set of consideration – so something else is at work.
That ‘something else’ seems to be understanding what benefit they would get from the investment of time and money, or put another way: Economic Utility.
I’m kind of placing a bet on this: Free and or really cheap won’t work. So something else has to be done to help Australian’s understand the benefit of financial advice. And whatever it is, it isn’t more of the same.
Right now I encourage every marketing manager and every CEO to look at their plans for next year. If they look much like the plans you had last year with a few tweaked numbers – then expect nothing. Expect a year of no growth above market growth, because that’s what it looks like you are going to get when about half the available market don’t understand the benefit you provide.
Australians understand what benefit they get from superannuation, they understand the benefit they get from home and property ownership and they even understand the benefit they get from holding cash.
But advice? No.
The Bit Which Touches On Psychology
This means that unless they are experiencing it, the benefit is opaque. So Robo-advice – which appears to be free – may be missing the point entirely.
Part of the reason for this is that because unless you are in a particular set of circumstances which comes with the economic stress of retirement or a sudden injection of wealth then advice involves the emotional idea of a deferred benefit or inter temporal decision making.
Humans are predictably bad when it comes to inter temporal decision making – which can be best described as a situation when a decision and its true consequences are separated by time. A deferred benefit occurs when humans incur a loss or pain in the short term for some perceived benefit in the future.
Dieting is like that, or exercising, or saving money, or invading Russia. They all involve pain in the present and an obscure benefit in the future and sometimes it works and sometimes it doesn’t – just ask Napoleon and Hitler. About Invading Russia I mean – I’m not sure how they went on saving or dieting, though the data seems to suggest that they were both impulsive types.
Most humans are very bad at deferring pleasure. We are literally hard wired to do everything we can to bring pleasure forward, even when we know it’s bad for us; this is a neurobiological quirk that explains alcohol, fatty food, sugar, tobacco, scarier drugs like Crystal Meth or even inappropriate sexual partners.
Don’t take my word for it – Google the phrase present hedonisim or the work of Stanley Milgram. Both are worth it.
The Bit About How Change Works
The reality it seems is that about half the population can’t work out the benefit of anything at all to do with pleasure deferral, which means that there are only two real choices left if we are serious about helping people out through this.
The first is obviously compulsion. As much as you might resist the idea of a nanny state, compulsion works.
In 1978 before superannuation was compulsory only 38% of Australia’s workforce had it. The rest were at the mercy of the Aged Pension. Now of course every working Australian has it and the amount of capital stored there in just the 30 odd years it’s been running has long sailed through the $1 trillion mark.
The second way is more complex, requires a lot more work but is probably more palatable and longer lasting.
The Bit About Choice Architecture
Financial advisers need to start to take on the complex task of engaging people and helping them make good decisions.
To be honest I like this idea. I like it because it means that forever the idea of the adviser as a product salesperson disappears. They need to morph much more into someone who is a social engineer.
To be honest that’s what a good financial planner does. They gather the facts and they help people make good decisions.
In almost every situation that decision involves deferring pleasure. Not taking the trip, not buying the Porsche and in some cases not selling everything and running to cash requires someone to help you make the right choices.
We know this because at CoreData for our own edification we are constantly running research experiments.
We run them on decision making, on advice, on the differences in behaviour between groups, because if you work with us, we’d really like you to be genuinely interested in the work that you are doing and in the industry – there are enough research companies that are in it for the money.
The Bit About The Experiment With The Rich
At the peak of the GFC – when it really hit in October 2007 – we started an experiment with Australians from our database with more than $1 million invested in the share market. To do this we started upping our face-to-face focus group time with them from every six months to seeing them once a quarter.
Candidly, all but one of the focus groups was in Sydney – this can’t be said to be nationally representative – but we were doing it for our own amusement – there was no client funding.
In any case the sample very quickly split into two separate cohorts: Group 1 comprising of 14 people were those that abandoned their adviser and suggested that it was their adviser that had got them into trouble. Almost all of this group sold all their shares and invested in cash and cash-like products.
Group 2 were the 12 people that stuck with their adviser and stayed with the disciplines of investing.
It’s interesting but not statistically significant to note that Group 1 was made up mainly of people who had reached their wealth through a profession – Law, Medicine and Dentistry in the main. It’s worth noting that Group 2 was overrepresented with business owners and engineers.
We met all or some of each of these groups every quarter formally until the last quarter of 2014, when we had Christmas drinks at the Royal Sydney Yacht Squadron, a convenient and lovely place to have a beer early on a Friday afternoon and declared the experiment over because the results were now beyond dispute.
It’s worth noting that Group 2 still meets informally and at the time of writing this I had received an email from them letting me know that a particular pub in Mosman on Sydney’s North Shore was opening early to play the England v. Australia Rugby game and to provide breakfast and I would expect that at least some of the guests stayed on until lunch.
By now you are probably smart enough to know how this experiment ends.
Until the end of 2009 the cohort that had abandoned their planner and run to cash mildly outperformed those that had stuck with their adviser.
By 2011 the separation between the groups had become so significant that I could no longer mix them in focus groups. By the middle of June 2014 Group 2, those that had stayed with their adviser, reported being on average six times better off than those who were managing the money themselves.
I note here with a researcher’s caution that I never actually saw their portfolios but simply asked them to estimate the value of their portfolio every quarter.
I have not an iota of doubt that the numbers were likely embellished on both sides – but the trend is clear: Those that stick with their advisers tended to make better decisions and that those decisions tended to pay off handsomely.
When we were reviewing this research at work, one of the younger researchers, who was still at university at the peak of the GFC, suggested that: “the advisers didn’t do anything new – they just kept doing what they were always doing, buying shares, placements and issues – moving money to America when the dollar was strong.. that’s not new…”
When he said that there was silence among the older hands who know what it is like when some one’s portfolio halves overnight and we gently explained to him how hard it is to keep the discipline when you think there is a reasonable chance that you might lose everything you ever saved for.
So here’s the challenge – how do we as an industry nudge people into making decisions that we know are good for them, even if they are hard wired to bring all their benefits forward?
There are some good things happening in the industry. It’s worth looking at AIA’s Vitality program, for example, and we’ve got some experiments underway so we will be bringing you the results of those as they come to hand. But – and trust me on this – if your marketing plans look much the same as last year – don’t expect any growth and if you are a listed company, explain to the board why they shouldn’t expect any growth either and why you think it’s OK to leave about half the available market to someone else.