The Past, Present, and Future of Financial Planning
The science of financial planning is relatively new. While pinpointing the career’s starting point is difficult, I’d put it somewhere in the neighborhood of 1969 with Loren Dunton and the Institute of Consumer Financial Education. Dunton had a vision of educating the public on financial planning techniques. His initiatives led to the creation of the College for Financial Planning. The College distributes the Certified Financial Planner designation to students who complete a series of modules. The Certified Financial Planner designation is now a standard of excellence in the industry. Dunton focused the late part of his career on educating financial professionals on how to teach financial planning.
This is a difficult profession to standardize as many of the factors which affect financial planning are variable and involve risks associated with the open market system. The classic example is investing- an aspect of financial planning which has as many theories as it has products. The tax aspect is variable as well since the IRS alters the tax code all the time. Nonetheless, Dunton went on to standardize the process into five segments: Insurance, Investments, Taxes, Retirement, and Estate Planning. With a background in these five areas, an advisor should have the ability to not just place a client into an investment product, but help advise them on the various aspects of the planning process as well.
The affect of raising the bar for industry professionals is allowing the clients to benefit from that improved education. Since simply brokering products (earnings commissions) is quickly becoming an obsolete method, planners now have to rely on fee-based asset management to earn a living. The theory here is that while the advisor is receiving a perpetual fee for managing a client’s assets, they will be more involved in the client's broader financial picture. The topic of advisor compensation has been quite popular recently in financial planning publications. I am an advocate of the fee-based business model as I believe it is beneficial to most clients.
Another affect of improved investor education is a shift of focus away from high-commission items and into low-cost investment products. The discount brokerage rage of the 90s got this pattern started and now people are finding it increasingly easy to manage their money without paying exorbitant fees.
Looking forward, I think the industry is reaching what I like to call phase three. Phase one was the advent of mutual funds and insurance products. Phase two, which we are still in, is the switch from commission-based products to fee-based products with the integration of improved financial services. Phase three will be the inclusion of more complex issues, such as economic factors and personal objectives, into the equation. I stumbled into an article in the June edition of the Journal of Financial Planning which elaborates on this concept in an interesting way. The article, written by William Jahnke, is titled Advancing the Science of Investing in Financial Planning. Jahnke discusses the affect of technology on how we spend and invest our money. He says
“the demands on the financial planner to manage risk in the context of the client’s comprehensive balance sheet and dynamically directed investment management solutions will become the standard of practice in the profession.”
He’s right, and goes on to explain that computer software will be an essential part of this evolution. I’ve used a variety of financial planning software, but I always return to the same few worksheets which I’m used to. They allow me to use the technology for crunching numbers but still utilize my personal style- which the clients are paying money for- to communicate my points. However, if well trained, I’d be open to learning new software which can improve the accuracy of the financial planning process beyond what a clever mind can think up. This is the beneficial end to technology.
Exactly how computer software can include economic factors is still a mystery to me. The idea of adding completely variable factors such as an interest-rate environment or political turmoil to a planning illustration seems a little bit difficult. It may improve the accuracy of the illustration, but presumably by adding in more complicated assumptions. I think it’s worth a try because the current system of using an assumed rate of return isn’t exactly fair to the client. At the same time it’s still the most accurate way an advisor can try to explain a product. An example of this would be an advisor using an 11% average rate of return to show what the future performance of the Dow Jones or a related fund might be. The chart will always look pretty when your assumptions are long-term historical. Maybe software will produce more than one illustration using different sets of assumptions. This could be useful in showing how an asset performs in different environments rather than just the optimal one. Insurance product illustrations already do this by showing a positive market return, negative market return, and a low fixed-rate of return. Naturally, this multiple set of assumptions works well with insurance product because it exemplifies the usefulness of guarantees. This might not work as well with mutual funds or other product where a risk-free rate of return may be available.
Anyway, the Jahnke article goes on to discuss certain factors such as trying to value human capital at different ages- basically quantifying extremely valuable assets which are difficult to include in assumptions. This is similar to the argument people make about the assumptions inherent in GDP data and how they ignore the changes in globalization and industrial structure. An example of this is treating money spent on education as consumer spending rather than investment spending. In my eyes, buying a college education is an investment in one’s future just as buying a printer is an investment in one’s business.
What we can take away from all this is that the science of financial planning isn’t perfect, but it is moving in the right direction. We’ve evolved in a way that allows the financial planning process to truly benefit clients and add value to the goal-planning process. But, in an increasingly changing world, we must be sure our assumptions are accurate and at least consider the almost impossible. Otherwise, all our work will be for nothing. Perhaps the future of financial planning is for the advisor to be a CFA, CPA, lawyer and economist. That would certainly allow for more information to be integrated into every decision. C'mon now, we’re only human, and we’re all going to win the lottery anyway, right?
Russell Bailyn
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Wealth Manager
Premier Financial Advisors
14 E. 60th Street, #402
New York, NY 10022
P: 212-752-4343 *31
F: 212-752-7673
rbailyn@premieradvisors.net
Securities and certain investment advisory services offered through: First Allied Securities, Inc., a registered Broker/Dealer. Member: FINRA/SIPC. Premier Financial Advisors, Inc. is a Registered Investment Advisor. First Allied Securities & Premier Financial Advisors are not affiliated entities.
