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Independent Broker Dealers

by Bruce Kelly and featured in Investment News
January, 2007:

New York – After a banner year for recruiting advisers in 2005, many independent-contractor broker-dealers saw the growth in snagging new registered representatives stall last year.

Recruiting was flat or down in 2006, compared with its momentum a year earlier, according to brokerage executives, recruiters and consultants, who nonetheless are optimistic about this year.

But it may be an uphill battle.

Across the brokerage industry, the movement of experienced financial advisers between firms dropped 14% to 15% last year, compared with the level in 2005, according to John G. Peluso Jr., chief executive of Wachovia Securities Financial Network LLC, which is the independent-contractor-representative business of Wachovia Securities LLC of Richmond, Va.

That said, 19% of the registered reps who were recruited last year to join Wachovia Securities, the umbrella group for its various broker-dealers, joined its independent broker-dealer.

“We’re swimming against the tide,” Mr. Peluso said.

One factor that slowed recruiting last year was a problem with block transfers of clients’ mutual funds and variable annuity contracts, sources said. Indeed, the process of transferring accounts takes more time and is more expensive.

Last year also saw a strong stock market, with the Standard & Poor’s 500 stock index rising 13.6%. But strong markets can sometimes make advisers complacent, observers noted.

“Advisers can be averse to making a change in a good market,” said Jim Cannon, chief executive of AIG Financial Advisors Inc. of Phoenix.
One key sweetener for some firms could be a greater prevalence of upfront bonuses and financing this year, observers said.

Recruiting, however, picked up at many independent broker-dealers in the second half of 2006, and the increase is palpable early this year, executives and recruiters said.

Even so, firms should brace for a potentially very difficult year, one observer said.

“We’ve got more competition in the independent marketplace than we ever have,” said Larry Papike, president of Cross-Search, a recruiting firm in Jamul, Calif.

“People are throwing around more money than ever before. Recruiting is going to be tougher as we go along,” Mr. Papike said.

“For the normal, run-of-the-mill broker-dealer, I think ’07 is going to be a down year.”

Not everyone is as pessimistic.

“This year, I expect a big uptick in recruiting, because I expect a lot of broker-dealer acquisitions,” said Jonathan Henschen, president of Henschen & Associates, a recruiting firm in Marine on St. Croix, Minn.
Such deals commonly cause brokers and advisers to question their affiliation to broker-dealers, he noted.

“The problem is finding firms who want to sell out,” Mr. Henschen said. He added, however, that one catalyst is the pressure of the potential liability in owning a broker-dealer. Last year, many broker-dealers moved to expand their network of recruiters, following the national model established by Linsco/Private Ledger Corp. of Boston and San Diego, which does business as LPL Financial Services. Some firms are continuing to bulk up on recruiters away from the home office.
Raymond James Financial Services Inc. of St. Petersburg, Fla., so far has hired four recruiters away from its base — a change in strategy for the firm (InvestmentNews, Jan. 22). Investors Capital Corp. of Lynnfield, Mass., this month said that two of its four new recruiters will be located in Florida, with the other two in the home office.

Advisers have felt the squeeze, one executive noted.

“Successful broker-dealers going forward are going to be opportunistic in helping reps find new market niches,” said M. Shawn Dreffein, chief executive of National Planning Corp. in Santa Monica, Calif., and president and chief executive of National Planning Holdings Inc. “Broker-dealers are going to have to find ways for their reps to supplement what they have lost in the past.”

Recruiting and acquiring advisers is the lifeblood of many firms.

“The movement of advisers is becoming more and more difficult, especially for large reps,” said John Rooney, managing principal in San Diego with Commonwealth Financial Network of Waltham, Mass. Brokers are loath to make “lateral” moves, he said, noting that the new broker-dealer has to represent a significant upgrade in areas such as service or technology.

Commonwealth did just as well in 2006 as it did a year earlier in its efforts to recruit advisers with more than $40 million in fees and commissions, Mr. Rooney said.

Also, in a first for the firm, its 1,102 affiliated registered reps generated more in fees than in commissions overall.

Last year, recruiting at Linsco was flat, compared with the amount in 2005, which was a record year for the industry’s largest broker-dealer, as measured by gross revenue.

After a slow start to recruiting in 2006, “leads exploded” and were up by 16% by the end of the year, according to Bill Dwyer, managing director of national sales at Linsco.

Two initiatives helped the second-half surge, he said.

First, Linsco raised its payout in the form of a production bonus to its biggest advisers. Second was the release of an independent study showing that Linsco advisers saw more revenue per client, an overall greater amount of revenue in recurring fees and nearly twice as much income when compared with that of an average adviser (InvestmentNews, Jan 23, 2006).

Cambridge Investment Research Inc. of Fairfield, Iowa, fell short of its recruiting goal last year and brought in $30 million in advisers’ fees and commissions, basically matching its levels of 2005, said chief executive Eric Schwartz.
“The momentum is carrying over” into 2007 from a strong second half last year, he said.

On top of recruiting, broker-dealers face a number of challenges. Chief among them is distinguishing themselves from the pack of broker-dealers and keeping hold of leading reps who decide to give up their NASD registration and become registered investment advisers who charge clients fees and do no business on commission.

Broker-dealers are trying to figure out how to position themselves to fee-only RIAs, said Philip Palaveev, senior consultant with Moss Adams LLP in Seattle.
“Firms have lost too many advisers to this,” he said.

Because a diminishing proportion of many broker-dealers’ business is from commissions, fee-based advisers are less dependent on broker-dealers and more dependent on custodians, Mr. Palaveev said.

“So how do broker-dealers retain these advisers?” he asked.

The regulatory environment has improved, executives said, with a greater measure of rationality coming from industry regulators such as NASD of Washington.

The Financial Services Institute Inc. of Atlanta, a leading industry group for independent-contractor broker-dealers, is pushing a number of new initiatives, said Dale Brown, chief executive and executive director.

Look for the FSI to focus on the Securities and Exchange Commission’s view of independent broker-dealers, he said.

Along with other issues, the FSI also will push for a broader use of electronic signatures on insurance and investment products, Mr. Brown said.

And key for the FSI this year is for its broker-dealer and adviser members to get “due process” when dealing with regulators, he said.