Rick Ferri's Next Act

[This article appears in our September 2020 issue of ETF Report.]

Rick Ferri was in the brokerage business for 10 years through the late 1990s before he started a low-fee advisory firm that had some $1.5 billion in assets under management by the time he sold it almost 20 years later. Now, he’s back at it, offering advice for the do-it-yourself investor in yet another firm he’s started, Ferri Investment Solutions. Through it all, Ferri has stayed true to his commitment to his fiduciary duty, and to the value he sees in low cost index investing and simplicity as the way to meet that call. 

You recently started a new business after selling your advisory firm. What are you up to these days?
I started a low-fee advisory company, and did that for almost 20 years, until I sold that company to my business partner two years ago. After that, I decided I still wanted to help people, but mostly do-it-yourself investors. It’s hard for them to get unbiased advice.

I work with them for an hourly fee. I also have what’s called a “portfolio second opinion,” which is a $750 fee to do a complete portfolio analysis, almost like a mini financial plan for a client. That’s pretty much 95% of what I do. There are also people who come back to me a year or so later for a checkup, and I charge by the hour for that. And I also consult to advisors.

From a practice management perspective, you’ve started, managed and sold an advisory business. You’ve experienced firsthand the entire life cycle of a business. What lessons have you learned about the advisory industry in that process?
At some point, you have to decide whether you’re going to get big or not, or are you just going to keep it a practice, as opposed to becoming an enterprise. With the first company, which I started in 1999, the money management business, I decided to go down the road of enterprise. And we ended up managing $1.5 billion and had 20 people working there. It was an operation, but if you build equity when you do that, you have something that you could sell for quite a bit of money.

From a financial standpoint, that works out except for the fact that the founding person—me—ends up not advising anymore. You end up becoming something other than what you originally started out as. You’re not talking with clients anymore. You’re not setting investment policy anymore. You’re making decisions about the company and compliance—things that aren’t as fun as talking to clients. So, you give up that. What you gain is equity. You can build equity in a company that can eventually be sold.

Now I’m back to advising. But I’m not trying to build an enterprise. I’m just trying to help individual investors and I get paid for what I do. I know at the end of this whole thing, my company isn’t worth anything because there’s no longevity if the company is just an hourly practice.

What I’ve learned is, you’ve got to decide, as an advisor, what is it you want? Do you want to make a lot of money as an advisor by building a practice into an enterprise business, and then sell it eventually? Or do you want to spend your time talking with clients? It’s really hard to do both.

You recently made an interesting argument about the “average investor.” You said there’s no such person as an average investor, and that’s why rules of thumb in investment management don’t work. Why is that?
Everyone out there in this business talks about the “average investor.” If you look at the data, the average investor who’s retired at age 65 may have $160,000 in a 401(k) that they rolled into an IRA. A lot of the things that we talk about, the rules of thumb—like your age [should be your percentage in bonds] and so forth—all might work for that “average investor.” But when are we in this advisory business working with the “average investor”? 

We’re working with individuals who each have unique situations and unique challenges. Sometimes they have family situations. They have different 401(k)s, 401(b)s, 457 plans, different options. They may have inherited money. They may have very little knowledge about investing, or they may know a lot. Everybody you talk with has something unique. This mythical “average investor” we all talk about doesn’t actually exist.

This is where the profession of advising comes in. I’m talking with you about your situation, your family, your concerns, your beliefs about market risk, your parents, your health, your insurance—it’s all about you. You can’t even come close to advising somebody on what they should do with their portfolio unless you know all of the back story about that person.

Only then can you see if they’re aligning their portfolio with what they’re trying to do. Everybody is different, and that’s why these concepts of a model portfolio that a lot of advisors use amount to trying to [make the same thing] fit every client.

It’s just not reality. It’s not how the world works. It’s not how people work. The way people respond to that is, “I’m just getting some sort of a commoditized product here.” The advisory industry has to get away from using model portfolios. And it has to go toward customization, based on exactly what the client needs. This is the next phase of advising.

I can get a model by going to a robo advisor for 15 basis points, or 25 basis points. But is that really what I need? The answer is, “It’s OK. It’s adequate.” But it’s not what a fiduciary would do. A fiduciary would get to know that client and build them their own model, based on their unique situation.

The advisor firm of the future, as I see it, doesn’t have a couple of models. If they have 100 clients, they have 100 models. If they have 500 clients, they have 500 models. And you know what? The software can handle it now. So why not do it that way? That’s the way advisors can stay relevant in this robo world.

Many have said that 2020 has been a great year for those looking to capture alpha. You’ve argued “simplicity is alpha.” Tell us more.
Simplicity means you understand what you have—this is what I have for stocks, for bonds, in cash. It’s very simple, with a few good funds in each of those asset classes, or maybe just four or five ETFs in aggregate. You understand it. Your spouse understands it. Your children can understand it. And therefore, there’s a high probability you’re going to stick with it for the very long term. That’s where the alpha is created. It’s created from a behavioral standpoint.

Simplicity creates a behavioral alpha because people are able to stick with a plan they understand. Plus, when you keep it simple, usually fees are low, and usually you can control the taxes a lot easier. It’s all part of a “simplicity alpha,” as I call it.

What about fees in the advisory business? What’s your take?
Charging 1% AUM these days is going to be really rough for people. With interest rates below 1%, five-year, 10-year Treasuries well below 1%, charging that isn’t going to be good business. A lot of alternative models are starting to get a lot of attention, like flat fees; low advisor fees like 0.25%; advisor fees plus financial planning fees separated—a lot of different models.

I’m doing hourly, and I think that’s fair to the client. But if you’re charging 1% these days and the clients aren’t even making 1% on their fixed income, I don’t know how you can sleep at night as an advisor. To me, that’s not being a fiduciary.

Is there anything else advisors could do better, or, should stop doing entirely?
Advisors get all wrapped up in fearing that clients are going to leave them if they don’t do something. This leads to portfolios that have many different securities added that don’t need to be there; complex portfolios that don’t need to be complex.

You hear this a lot: “If I don’t have a lot of stuff in the portfolio, and I don’t do something on a regular basis, the client doesn’t think they need me anymore.” That’s just not true.

If you’re spending time with the clients, and you get to know their situation, and you’re putting together a custom portfolio of a few good funds tailored to that client’s needs, you don’t have to fear the client is going to leave you.

You don’t need to load up the portfolio with a lot of exotic stuff that makes it expensive, complicated and less tax efficient. Just stick to basics. Be a fiduciary and the clients will stay with you.