Financial advice quantified – it’s about more than just the cost.

The negative perceptions about the value of financial advice for the South African consumer are tackled head on in a new paper that was presented to the Actuarial Society annual convention last week.

Against the backdrop of a national savings crisis coupled with increasing complexity of products, the knowledge gap between consumers and the financial issues that affects them is widening. The paper introduces an Advice-Value Framework as a model with which to assess both the quality and quantity of advice given to consumers in different situations.

The paper entitled The Value of Financial Advice – It’s Not (Just) About the Cost has been co-authored by three actuaries, Colin Dutkiewicz, Steven Levin and Anusha Dukhi. Dutkiewicz is an independent financial adviser and Dukhi and Levin hold positions at a large financial services company. The paper was researched and written in their personal capacities.

The authors hope that the paper will broaden the debate from merely a focus on costs to one incorporating the cost and value of advice to allow successful industry change that improves consumers’ financial affairs.

While the focus on the fact that excessive costs can erode savings is necessary, the paper makes the case for holistically considering the cost of advice to consumers, the cost incurred by advisers in providing advice and the value generated for consumers from the advice given.

“Current debate only values the cost component of advice provision and ignores the value added by that advice. Our approach quantifies this value-added and even the value added to the community,” Dutkiewicz says.

Consumer Behaviour

Some of the key messages from the behavioural economics research presented in the paper include that consumers suffer from significant willpower problems; have a tendency to procrastinate and show preferences for instant gratification. This leads to a strong natural inclination by most consumers for immediate consumption rather than deferring consumption and saving more.

The paper also cites research which shows that professionals make better decisions for others than they do for themselves. This suggests that even investment professionals would benefit from having a qualified adviser assist them with their personal investments.

“There are observable advantages to having someone else decide investment issues, not because that someone else is smarter or more experienced, but simply because that person is someone else,” says Levin.

Remuneration of advisers

The paper provides research that indicates that financial advisers are not excessively remunerated but rather that the salaries and hourly earnings of advisers in South Africa are market related given the level of qualifications now required under the Financial Advisory and Intermediary Services Act.

Case Studies of the Value of Advice

The groundbreaking research in the paper puts financial values to some examples of common consumer action versus the value obtained with simple financial advice.

Value can be determined as the after inflation impact of a certain action in money terms for the individual. It can however also allow for the fact that people hate losing money more than they like making it.

“This concept is usefully extended to what we call Community Value Added. This is the added value to the community that the consumer belongs to when the consumer receives, and acts on quality financial advice,” says Dutkiewicz.

The paper shows how the simple advice to start saving at age 35 rather than 45 doubles an individual’s retirement income. Similarly, the cost to the consumer of the investment restrictions on pension funds results in a 22% decrease in their possible pension income, or a massive 44% when compared to a market norm ‘balanced’ investment fund.

Of particular interest at the moment is the common consumer behaviour to change long term investment strategy based on fear. The paper illustrates how an adviser can add value to the amount of 21% of a consumers total retirement savings, just by coaching them to the understanding to remain with a long term investment strategy in times of financial market upheaval.

“We believe that it is not complicated financial advice that is important, but a few simple pieces of advice, delivered to a consumer at critical decision making points that can add significant value,” says Levin.

Servicing the low-income markets in South Africa

The authors warn that the regulatory environment presents an interesting challenge to financial service provision in South Africa.

Both consumer protection and access to financial services are policy goals of government. However, the focus of efforts by government on increasing access to financial services for low-income earners has largely concentrated on cost reduction.

Imminent changes to commission regulations will reduce the amount of commission paid to financial advisers. At the same time, the FAIS legislation imposes strict requirements on the operations of financial advisers and has made it more costly for existing advisers to operate in this environment as well as for new advisers to enter the market.

“The solution to this dilemma is not necessarily a reduction in commission, but rather an industry wide review of remuneration models to ensure that there is no perverse commission driven incentivisation for inappropriate advice. Only with the quantification of the value of advice can this be done,” says Dukhi.