Friday, October 5, 2012

The Magic Words of Money Management: Part 2 – “Customized Solutions”


The Magic Words of Money Management: Part II – “Customized Solutions”

“Customized” or “exclusive” are two favorites in investment marketing materials.  You only need to flip through any financial publication, watch television for an hour or so, or click on one of those banner ideas cluttering your computer screen to see these words, along with pictures of graduating college students, golfing seniors, or adventurous sailors.  Money management isn’t only going to solve your problem or let you achieve your goal; it’s going to come up with a “customized solution.”  I’m sure you’ve heard the pitch, “We offer customized solutions to meet your financial needs,” or “We build customized portfolios (“individually tailored” is another industry favorite) to achieve your investment objectives.” Sign me up!

Standard Schmooze (1999)


True customization is actually an anathema to the money management business.  How can we build economies of scale in our business if we’re customizing or tailoring portfolios to each client’s unique needs?    In fact, money management’s goal is to do the same thing for the next client who walks in the door, because the marginal cost of managing the next dollar is small if you don’t have to do anything but open up a new account.    For the average retail investor this claim is simply impossible to fulfill; a $10,000 IRA is going to be squeezed into a pre-packaged solution generated by a computer for thousands of clients.  The solution may be called “customized”, but it is just one of many models stamped out on the floor of an investment factory.  Even large investors seldom receive a customized offering, as money managers can’t maintain their profit margins if they’re tailoring a portfolio to the client. 

Even those managers who actually try to build unique portfolios or construct a distinct asset allocation for each client are not doing a terribly good job.  Most money managers don’t know your entire financial situation (they only see a sliver, like your IRA or taxable accounts); they haven’t studied your tax situation, familiarized themselves with your estate plan (if you don’t have a plan, you should at least have a will), or gotten to know you well enough to understand your tolerance for risk.  For example, their recommendation that you should invest 60% in stocks in your taxable account doesn’t consider whether you have a defined benefit plan or a 401(K) at work.  

It’s not until you have something like a million dollars of investible assets that a bank, trust company, or money manager might earn a high enough fee to enable them to create a customized or exclusive plan.  Sadly, most of them don’t do all the work that is necessary.  I’ve read hundreds of these plans for wealthy investors (they are lengthy because it is easy to generate a lot of charts and tables), and very few are truly customized.  In fact, more often than not they are skillfully designed to point the clients in the direction of the firm’s most lucrative products.  There are some firms that do great work, but they don’t advertise in airline magazines, and they aren’t household names, so they are hard to find.  Unfortunately for most of us, they won’t take us on as clients because we’re not wealthy enough.

So we’ll be forced to go to Fidelity, Vanguard, Schwab, and the rest of the recognized brands.  We’ll get “cookie cutter” solutions to our investment needs, and that’s the best we can hope for, despite the grand claims of customization and exclusivity.  Here’s the key lesson: “customized” or “exclusive” products or services are often an opportunity to tack on an extra fee.  Fees eat up returns.  So ignore the customized products and exclusive solutions and stick to plain vanilla products.  

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