A Different Take on an Advisor’s Fees

August 19, 2014

by Dan Solin

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Advisor Perspectives welcomes guest contributions. The views presented here do not necessarily represent those of Advisor Perspectives.

The overhyped rise of robo-advisors has spurred a healthy debate on fees charged by advisors. In an insightful blog post, Michael Kitces makes the case for why robo-advisors will not be a threat to human advisors. In a similar vein, Mike Alfred, co-founder and CEO of the financial information company BrightScope, debunked much of the advisor bashing underlying the robo-advisor model. Nevertheless, some traditional advisors feel pressure to lower their fees to compete with robo-advisors, even though the services they offer are more comprehensive.

These advisors have succumbed to the basic premise used to justify robo-advisors’ existence: Cheap is good. Expensive is bad.

Do the data support this premise? There’s a significant amount of peer-reviewed research on this subject. It is eye-opening.

Looking at the research

A 2005 study concluded that consumers typically assume price and quality are correlated. This is especially true when they are unsure of what they are really getting.

Robert Cialdini illustrates this phenomenon in his book Influence: Science and Practice. Chivas Regal Scotch whiskey was struggling to penetrate a crowded market. Its managers came up with a brilliant idea that is now part of marketing lore: Don’t change the product — just increase the price so it will be far more expensive than its competitors. Sales took off. Clearly, buyers of Chivas Regal believe it is superior to its lower-cost competitors.

For me, the most compelling study was published in 2008 by professors at the California Institute of Technology and the Stanford Graduate School of Business. The authors of the study wanted to determine if changes in price affected the brains of consumers in a measurable way.

One might think consumers of food and wine should be influenced only by the taste of what they are eating or drinking. However, the authors referenced a number of studies that indicate that this is not the case. For example, participants who were told about the ingredients in a brand of beer reported better taste quality than those who weren’t.

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