Sales Contests

Sales contests at brokerage firms are inherently conflicted and, whether or not the organizers mean well, they inexorably lead to bad outcomes for investors.

Having been both a participant and an organizer of sales contests a decade ago in my previous career as a broker, I can promise you this. There’s no way around it, no matter what you do.

If you’re offering prizes for advisors to push one type of product – either in lieu of another or on its own – you’re going to get more sales of that product. This is whether or not these sales are in the clients’ best interests or not. They’re going to happen. Lines will get blurred and ad hoc rationales will be concocted to justify the activity.

And it doesn’t even have to be cash prizes – simply telling a group of advisors that “the home office” wants to see more of something and will look more favorably upon the reps who deliver it will often get the job done.

I’ve previously written a great deal about the bull market in SBL’s – securities backed loans – wherein high net worth investors are encouraged to borrow money against their portfolios of stocks and bonds for various purposes. You can read it at Fortune here in case you missed it.

They’re an old line of business with a legitimate purpose but, as we’re talking about Wall Street, the legitimate purpose eventually gave way to a free-for-all once the firms realized they had something incredibly lucrative on their hands.

SBL’s have been promoted big time at the large brokerage firms, with all kinds of hiring and marketing to assist in the effort. The reasons are obvious:

1. A portfolio with a loan against it becomes sticky money – the holy grail in wealth management. It’s harder to move an account away from an advisor if the bank he or she is with has a claim on the assets. It’s annoying to find replacement financing.
2. SBL’s mean there are two revenue streams from the same pool of assets – the broker’s client pays him once for the asset management and then pays again for the line of credit, on the same money. It’s alchemy!
3. With ultra-low rates, these non-underwritten, non-margin loans are cheap to make and easy to guard – in the event a client couldn’t pay the vig, the brokerage can just liquidate bonds and stock, which are already sitting in-house.
4. “Make your money work harder for you” is a mantra by which you could essentially sell anything to anyone. Everybody wants to feel like they’re maximizing their opportunities and lifestyle. “Buy that second home / boat / over-the-top daughter’s wedding.”

When I originally wrote my piece on the topic at Fortune, my editor received a not very thrilled email from a representative of one of the firms mentioned. His point-by-point rebuttal of what I’d written was fair, and he made some reasonable points.

I’m still right though.

Encouraging clients to take on debt against their retirement assets is not smart. Fiduciary advisors can and do make these kinds of loans for their clients just like brokers do, but the difference is that they don’t get paid on the loans. They cannot get paid on the loans. No one in the business without a vested interest like a lending fee would be out there suggesting this to clients for their retirement assets.

The brokerage firms, on the other hand, send people into branch offices with “opportunity lists” on a regular basis to drum more of this stuff up. “Let’s take a look at your client roster and see what opportunities we’re leaving on the table…”

And yes, I know that IRAs can’t have SBL’s against them, but I contend that ALL assets of a household are de facto retirement assets, not just the ones in tax-deferred accounts. A household’s brokerage accounts are also likely to be needed for retirement. In practice, it’s not “separate money.”

SBL’s can be useful in some situations, but should their use be growing at 30% a year?

The New York Post has been unraveling a story about sales contests taking place at a major firm whose stated goal was to increase the usage of SBL’s by their retail customers. It’s quite an claim, but they’ve got one named source confirming it.

I send you there now:

Morgan Stanley’s sales contest carried through multiple locations: sources (New York Post)