The ability for financial advisors to offer true holistic wealth management has become increasingly important as clients look for advice on not just how to invest their assets, but on how to grow, protect, enjoy and distribute their wealth.
You can’t provide true holistic wealth management without providing clients with an alternative to asset liquidation when they want to make a large purchase. In fact, 25% of ultra-high net worth individuals underestimate their spending and need to liquidate investments to cover their expenses.
Let’s look at a $524,000 loan with 6% interest and a 7 year term. Assuming a 7% annual growth rate on their investments, liquidation could cost them more than $217,000. Financing offers wealth growth, protection and immediate gratification AND it helps protect your AUM to the tune of more than 840K!
But not all financing tools are equally effective.
Many advisors rely on the use of security-backed lines of credit (SBLOCs) to provide their clients with a financing option to help meet this demand. In fact, according to a report from Echelon Partners, the use of security-backed lending among RIA’s has increased from 10% in 2010 to 20% in 2020.
The problem is that many advisors are relying on SBLOCs as their only financing option. And while having one tool is better than none, there are a lot of reasons why SBLOCs may not always be the best option.
Over the next couple of months I’ll explore this subject with a series of blogs that address:
1. Why security-backed loans could negatively impact your AUM
2. Why SBLOCs are not a one-size fits all solution for your clients
3. Do the potential risks of SBLOC’s outweigh the rewards for your clients?
Let’s get started!
Why security-backed loans could negatively impact your AUM
Security-backed loans can provide several benefits to financial advisors and their clients including access to cash while avoiding capital gains taxes and lower interest rates. But they can also negatively impact an advisor’s AUM in certain situations.
For example, in conditions with high market volatility the underlying assets of the security-backed loans could experience significant losses requiring a maintenance call. Borrowers would have to quickly liquidate their assets to cover the call. This would not only negatively impact your AUM but might require clients to either take a loss on some of their investments or create a tax event.
Some SBLOCs require that dividend payments on the pledged assets be made toward the loan balance. Depending on the size of the loan and the amount of assets pledged this could significantly decrease the growth potential of your client’s portfolio.
If interest rates rise, it could cause a spike in the broker-call, prime or LIBOR rates that apply to an SBLOC. If this happens, the cost of the SBLOC may increase significantly. Also, for accounts that have money market funds or bank sweeps, depending on your firm’s SBLOC policy, the debit in your account from the interest charge may be paid from redemptions, effectively reducing cash or money fund balances. Interest payments may be rolled into the balance, which, over time, can erode the value of the account (particularly if the SBLOC is sizeable).
Because of these risks, security-backed loans should only be used as one tool in an advisors toolkit when seeking to provide holistic wealth management services to their clients. We suggest offering a variety of financing options, including traditional mortgages, auto loans and commercial loans in order to mitigate risk and increase returns while providing clients with the best options available for their situation.
New Wealth Tech offerings, including UPTIQ’s Financial Intelligence Platform, enables advisors to expand their offerings and protect their AUM (and revenue) through connections with a number of financial institutions and loan products. Since the average high-net-worth individual spends $500,000+ a year on unplanned purchases it’s critical for advisors to quickly find the right options for their clients unique needs.
To learn more about UPTIQ’s Financial Intelligence Platform and how you can protect your AUM, visit us at UPTIQ.AI.
