Sirianni: A Modest Prexit (Protocol Exit) Proposal
Prexit, the Protocol for Broker Recruiting exit triggered three weeks ago by Morgan Stanley, is big news, but we must remember that the battle among big, regional and emerging independent firms existed before the pact was formulated and will persist after it is gone.
The real story is not which firm will drop out next, but the challenges surrounding the nonsolicitation clauses that firms are pressing into employment, joint-production, inherited account and promissory note agreements. At stake is a raft of enormous issues that strike at the heart of what it means to be an advisor: Are you an employee or entrepreneur? Are clients loyal to you or the firm? Do clients have any say whatsoever?
The rise of more onerous advisor employment contracts across the industry creates issues of fairness for both advisor and client. Procedures restricting brokers’ freedom to move (along with billions of dollars of client assets) should be codified by a regulatory authority charged with governing our business for the benefit of the Americans who invest in the economic future of our country, not by short-sighted reactivity by large broker-dealers.
The Protocol has enormously benefited large firms by lowering legal costs and removing logistical headaches for managers, while also encouraging the rise of independent firms that cannot fund growth with significant upfront advisor payments.
It also reduces anxieties for new advisors taking a chance on joining Registered Investment Advisor firms, independent broker-dealers or aggregators such as Hightower, Focus Financial.
I am not saying that the Protocol is a panacea for small firms—a key to unlocking the front doors of wirehouses—but it has helped foster a base level of firm-to-firm respect and transparency that ultimately benefits clients.
The larger firms, to be sure, have evolved from being the greatest beneficiaries of the Protocol that they created to the biggest losers. As AdvisorHub has noted, much smaller Protocol firms recruit away from them while hiring rarely goes the other way.
With Morgan Stanley’s decision to exit the Protocol, and the likelihood that large rivals will follow, however, big firms risk antagonizing their own employees and jeopardizing long histories of carefully cultivated cultures. As former Merrill Lynch private client group head Launny Steffens opined in the above-referenced article, “My personal attitude is you ought to build an organization where people want to stay.”
When Merrill, Smith Barney and UBS/PaineWebber formulated the Protocol more than a decade ago, they were making a practical decision. The money they were paying law firms to bring temporary restraining order requests around the country were an expensive waste of time that benefited none of the firms. It was a zero-sum game for the firms and created a mess for branch and complex managers’ core recruiting activities.
On a personal basis, I recall the headaches created by brokers’ Friday afternoon trots, not only in terms of organizing weekend client contacts but also because TROs had to wait until courts reopened on Monday so our lawyers could file briefs. Departing brokers had more than two days of unfettered solicitation opportunity before the corrosive legal FUBAR that would come on Monday morning.
The Protocol was, and is, a sound intra-industry solution. It protected firms from having internal documents stolen while accepting the reality that advisors by hook or crook will find ways to contact their (former, if you will) clients.
While non-solicit clauses will force advisors into many difficult contortions, and a lot of wink, wink, nudge, nudge nonsense, they won’t achieve their intent. Brokers bump into long-served clients at church, synagogues, school activities and, yes, the golf course. Is it realistic to think that they won’t talk to their friend for over 20 years and not mention that they changed firms? Is the customer so obtuse as to not realize that his or her trusted advisor has suddenly gone radio-silent about their business relationship?
The Protocol admits the reality. In allowing brokers to take five practical pieces of client-contact information without violating privacy laws when moving among signatory firms, it acknowledges that clients are fair game and that some may be connected more to the broker than to the firm he or she works for.
As Morgan Stanley’s rivals weigh their own Prexit decisions, I hope they go beyond the carefully calculated statistical models I know they are studying. They risk adopting the same circular logic that got them into the 300%-signing-bonus, culture-destroying trouble in the first place.
Someone with an abacus has combined projected legal costs, lost-versus-retained account potential and come up with a calculation of what will be saved by throwing a monkey wrench into brokers’ freedom to move. The executives reading the reports are also likely making a psychological mistake, trying to find an excuse as to why so many advisors have been leaving in the past few years rather than asking how management has fiddled with advisor-centric cultures.
It’s easy for them to conclude that the Protocol is to blame. I’m sure, at least, that smart consultants encourage senior management to believe the cause of their retention problems are macro, rather than personal.
To be sure, independent smaller firms bear some of the blame for the Protocol’s likely demise as an effective industry tool. As Morgan Stanley itself noted, they have gamed the pact by moving in and out of the agreement—which involves no membership costs—to meet their immediate needs.
I am clearly not a disinterested player, having been involved in the creation of independent firms Washington Wealth Management and Steward Partners, which have thrived under the protections of the Protocol. By following the recruiting rules, we limited our legal exposure and received crucial start-up fuel.
But by inviting brokers in under the Protocol’s protection and withdrawing from it when it suits their need, the broker is the one that is hurt. Though the more than 1,400 small firms that now make up the lion’s share of signatories may be thumbing their noses at the pact’s originators, they will ultimately hurt themselves if the big firms leave.
Advisors will continue to leave Protocol and non-Protocol firms alike for good and bad reasons. But they are not investment bankers, who legitimately are sitting on confidential client information that their firms need to protect. Advisors work retail, which means, for those who have forgotten, they work directly with consumers—many of whom were or have become friends.
It’s time for our regulatory agencies to take a stand against legal nonsense that ultimately hurts, inhibits, and marginalizes the client. FINRA should end non-competes for retail brokerage firms and employees, along with non-solicit clauses. Protocol, in my opinion, should be mandatory for all firms.
Under my modest proposal, the regulator should limit client contact to three solicitation contacts in the first 90 days on both sides. A three-month cooldown period in which neither party can solicit should follow (although clients who opt in can be contacted as often as they like). Finra could require firms to send clients upfront recruiting disclosures in the interests of transparency (and, yes, inherited accounts should be carved out from Protocol protection).
Regulation should be about openness and fairness, and it should not inhibit the free movement of advisors or the growth of innovative models of advising clients. When capital is allowed to travel unhindered, it will gravitate to where it is best served, even on the retail level.
Clients need to be put back at the top of the pyramid. It is unfair to involve them in a tug-of-war between an old friend and an old firm. It is even worse to impose a legal curtain between a customer and a trusted advisor. The best judge in these cases is not in the federal courts but the clients themselves.
Tony Sirianni is chief executive and publisher of AdvisorHub.