Professional Financial Advice for Consumers: Implications for Credit Unions

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1 Professional Financial Advice for Consumers: Implications for Credit Unions Jinkook Lee, Ohio State University and William A. Kelly, Jr., University of Wisconsin Madison Prepared for the Center for Credit Union Research and the Filene Research Institute P.O. Box 2998 Madison, Wisconsin (608)

2 Copyright 2003 by Filene Research Institute. ISBN All rights reserved. Printed in U.S.A.

3 Filene Research Institute and Center for Credit Union Research The Filene Research Institute is a non-profit organization dedicated to scientific and thoughtful analysis about issues affecting the future of consumer finance and credit unions. It supports research efforts that will ultimately enhance the wellbeing of consumers and will assist credit unions in adapting to rapidly changing economic, legal, and social environments. Deeply imbedded in the credit union tradition is an ongoing search for better ways to understand and serve credit union members and the general public. Credit unions, like other democratic institutions, make great progress when they welcome and carefully consider high-quality research, new perspectives, and innovative, sometimes controversial, proposals. Open inquiry, the free flow of ideas, and debate are essential parts of the true democratic process. In this spirit, the Filene Research Institute grants researchers considerable latitude in their studies of highpriority consumer finance issues and encourages them to candidly communicate their findings and recommendations. The name of the institute honors Edward A. Filene, the father of the U.S. credit union movement. He was an innovative leader who relied on insightful research and analysis when encouraging credit union development. The Center for Credit Union Research is an independent academic research center located in the School of Business at the University of Wisconsin Madison. The Center conducts research and evaluates academic research proposals on subjects determined to be priority issues by the Research Council of the Filene Research Institute. The Center also supervises Filene Research Institute projects at other universities and institutions. The purpose of the Center s research is to provide independent analysis of key issues faced by the credit union movement, thus assisting credit unions and public policymakers in their long-term planning. Progress is the constant replacing of the best there is with something still better! Edward A. Filene i

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5 Acknowledgements The authors would like thank the Consumer Finance Division of SRI Consulting and the CUNA Mutual Group for their cooperation in making available data from the Macro Monitor Survey. Thanks also to Dan Wallen of CUNA Mutual for his very helpful assistance in obtaining the data for this study. iii

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7 Table of Contents Executive Summary CHAPTER 1: Introduction Purpose Household Financial Assets Consumer Understanding of Financial Instruments Data Analysis of Data CHAPTER 2: Four Consumer Segments: An Overview CHAPTER 3: Groups A and B Introduction Need for Advice Consulting a Financial Specialist Paying for Financial Advice How to Pay Interaction with Advisors Attitude toward Depository Institutions Group A Group B Group Names Conclusions CHAPTER 4: Group C Introduction Demographics Need for Advice Consulting a Financial Specialist Interaction with Advisors Paying for Financial Advice How to Pay Group Name CHAPTER 5: Group D Introduction Demographics Need for Advice Consulting a Financial Specialist Paying for Financial Advice Attitude toward Depository Institutions Interaction with Advisors Group Name v

8 CHAPTER 6: Implications for Credit Union Marketers Group D: Downscale and Local Group C: Upscale and Connected Group B: The Independents Group A: Advice Seekers A Closer Look at Group A APPENDIX Statistical Analysis About the Authors Filene Research Institute Administrative Board/ Research Council Filene Research Institute Publications vi

9 Executive Summary INTRODUCTION The research reported here seeks to determine the extent of consumers' desire for information and advice on savings and investments, and their preferences for how to obtain information and advice. To our knowledge, no publicly available research has done this. Our research is based on data from a mail survey of 3,780 nationally representative households, made available to us through the cooperation of the Consumer Finance Division of SRI Consulting and the CUNA Mutual Group. KEY FINDINGS Consumers differ greatly in their desire for information and advice on savings and investments, and on their preferences for how to obtain it. We identify four market segments in this regard: Downscale and Local Ninety-eight percent of individuals in this group regard banks, S&L's and credit unions as the best source of information and advice on savings and investments. This group is the least affluent and least educated of the four groups, does not like to spend much time on investment decisions, and is not willing to pay for advice. These households are ideal for traditional depository products (including IRA's), which are provided in a friendly, local setting. This is an ideal group for credit unions to serve in traditional ways. Upscale and Connected Only 2% of this group view banks, S&L's and credit unions as the best source of advice on savings and investments. Ninety-five percent of this group disagree with the statement that they trust fee-based advice more than commission-based advice. This is the most educated and affluent of the four groups. Traditional brokers, paid by commission, would find this group ideal as clients. The group appears to offer limited opportunities for credit unions. The Independents Over 90% of this group disagreed with the statement, It is important that a financial services representative keeps me informed where I stand financially. Eighty-eight percent are 1

10 unwilling to pay for financial advice, and 82% feel qualified to make their own investment decisions. Their level of affluence and education is about average among the four groups, but the group has somewhat fewer people in the age bracket. These are the ideal customers for traditional offerings at Charles Schwab. They want information and brokerage services at low cost with a minimum of personal interaction. They provide limited opportunity for credit unions. Advice Seekers Eight-three percent of this group indicate that they need advice on investment options. Ninety-six percent say they like to discuss their financial options before making a decision about them, and 88% say it is important that a financial services representative keeps them informed where they stand financially. Sixty-four percent say they are willing to pay for professional advice, a far higher percentage than any other group. However, 87% say they are more likely to trust the advice of a financial professional paid a fee than a commission, also by far the highest percentage of the four groups. This group is about average in affluence among the four groups. It is also the largest group by far, comprising 55% of respondents. These are average households who want and need advice and are willing to pay for it. However, they distrust commission-based advice. This group appears to offer substantial opportunities for credit unions, which can help ordinary people with well-informed, trustworthy advice in a service rather than a sales culture. Few existing institutions appear to be well suited to serving this group. Maintaining trust while giving advice on investing in securities markets can be difficult because of the risk inherent in these markets. However, to the extent credit unions can identify and establish partnerships with investment professionals, this segment of consumers offers substantial opportunities for credit unions. In addition, credit unions may wish to investigate the potential market for trust services within this group. 2

11 CHAPTER 1: Introduction PURPOSE This research addresses three questions: 1) To what extent do households feel they need information and advice about investments? 2) How would households like to obtain such advice? 3) What implications do the answers to these questions have for credit unions? These questions are important because ordinary households have substantial assets in investments outside depository institutions: stocks, bonds, mutual funds, and 401(k) plans. HOUSEHOLD FINANCIAL ASSETS Table 1.l shows the division of assets between accounts in depository institutions and accounts in non-depository institutions. The table organizes households by their percentile of total financial assets. For example, the 20th percentile is the level of total financial assets that exceed holdings by the lowest 20% of households; the 40th percentile exceeds holdings by the lowest 40% of households; and so on. Households are then grouped in percentile ranges as shown in the first column of the table. For example, the third row of numbers in Table 1.1 represents households between the 21st and 40th percentile of total financial assets. The average total financial assets for this group are $4,672, and the average holdings in different types of depository accounts are shown along the row. In the last two columns we see that average assets in depository accounts for this group are $2,464 and the average in non-depository accounts, such as stocks, bonds, mutual funds and 401(k) plans is $2,208. In the 21 st -40th percentile group, total assets in depository and non-depository accounts are similar. However, in the 41st-60th percentile group, the proportion of assets in non-depository accounts is much higher, and this difference becomes more pronounced in the higher percentile groups. Chart 1.1 shows selected values to illustrate the point graphically. It indicates that among the majority of households, financial assets in non-depository accounts are much greater than those in depository accounts. 3

12 Percentile Range of Total Financial Assets Table 1.1: Household Assets in Depository Accounts Versus Non-Depository Accounts Average Total Financial Assets Checking Savings MMDA CD's Average Total in Depository Accounts Average Total in Non- Depository Accounts 1 thru thru ,672 1, ,464 2, ,779 2,355 3, ,870 7,948 13, ,734 3,455 5,796 2,136 6,925 18,312 54, ,546 6,344 10,688 7,343 16,285 40, , ,458 12,145 21,386 26,129 26,508 86, ,290 Source: Jinkook Lee and William A. Kelly, Jr., Where are Households' Financial Assets, Filene Research Institute, Madison, WI, 2001, p. 20. Data is from the 1998 Survey of Consumer Finances, sponsored by the Federal Reserve Board. Chart 1.1: Average Balances in Depository and Non-Depository Accounts $ (Thousands) P06-P20 P21-P40 P41-P60 P61-P80 Percentile Groups Depository Accounts Non-Depository Accounts CONSUMER UNDERSTANDING OF FINANCIAL INSTRUMENTS Whereas most consumers understand accounts in depository institutions, they have less understanding of financial assets they hold in non-depository accounts, primarily in securities: stocks and bonds, and mutual funds and 401(k) plans, which consist primarily of stocks and bonds. In contrast to assets in depository accounts, marketable securities can carry substantial risk, and many consumers lack a full understanding of the risks and returns of these securities. Therefore, we would expect many consumers to rely on the advice of financial professionals in managing funds held in these types of assets. However, little information exists on the extent to which consumers feel the need for such advice, or on how they prefer to obtain it. 4

13 DATA To answer these questions we used proprietary data from the Macro Monitor survey of 3,780 nationally representative households, conducted in This survey asked questions about consumers' need for information and advice on investments and financial decisions, and how they prefer to obtain that advice. The questions are shown in Tables 1.2A and 1.2B. Table 1.2A contains questions about household preferences for obtaining information and advice, and Table 1.2B shows the questions about the extent to which households feel they need advice. The responses for all households in the sample are shown in the right hand column in these tables. Table 1.2A: Household Preferences for Obtaining Information and Advice Percent Question Responses* 1. It is important that a financial services representative keeps me informed where I stand financially. Mostly agree Somewhat agree Somewhat disagree Mostly disagree Total I like to discuss my financial options before making a decision about them. Mostly agree Somewhat agree Somewhat disagree 9.79 Mostly disagree 7.65 Total I prefer to consult a specialist when making financial decisions. Mostly agree Somewhat agree Somewhat disagree Mostly disagree Total I am more likely to trust the advice of financial professionals paid a fee than a commission. Mostly agree Somewhat agree Somewhat disagree Mostly disagree Total * Totals may not sum to 100% due to rounding. 5

14 Table 1.2A: Household Preferences for Obtaining Information and Advice (cont.) Percent Question Responses* 5. Banks, S&L s, and credit unions are the best source of advice regarding my savings and investments. Mostly agree Somewhat agree Somewhat disagree Mostly disagree Total I am willing to pay for professional financial advice. Mostly agree 8.14 Somewhat agree Somewhat disagree Mostly disagree Total * Totals may not sum to 100% due to rounding. 6

15 Table 1.2B: Extent to Which Households Feel They Need Advice Percent Question Responses* 1. I do not need advice on investment options. Mostly agree 7.68 Somewhat agree Somewhat disagree Mostly disagree Total I prefer to spend as little time on making investment decisions as possible. Mostly agree Somewhat agree Somewhat disagree Mostly disagree Total I enjoy learning about different investment opportunities. Mostly agree Somewhat agree Somewhat disagree Mostly disagree 8.29 Total I feel qualified to make my own investment decisions. Mostly agree Somewhat agree Somewhat disagree Mostly disagree 9.71 Total * Totals may not sum to 100% due to rounding. 1 Statistical details are provided in the appendix. ANALYSIS OF DATA Our analysis of the data seeks to determine the extent to which segments exist among financial consumers with regard to how they prefer to get information and advice about investments. To do so, we use a statistical technique, cluster analysis, to identify such groups based on similarities in the way in which members of each group answered the questions in the survey. 1 The analysis identifies four groups of consumers, each of which has quite different preferences for how they want to get financial information and advice on investments. We provide an overview of these clusters in the following chapter. 7

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17 CHAPTER 2 Four Consumer Segments: An Overview Tables 2.1A and 2.1B show the responses for the four segments of consumers identified by cluster analysis. We initially label these four groups by the letters A, B, C, and D. To illustrate the differences between Groups A and B, consider the following examples. Item 1 in Table 2.1-A asks consumers how much they agree with the statement, It is important that a financial service representative keeps me informed where I stand financially. Eight-eight percent of Group A agrees with this statement, compared to only 9% of Group B. Item 6 in the table is: I am willing to pay for professional financial advice. Almost two out of three consumers in Group A agree, compared to only one in eight of Group B. Table 2.1-B, item 1 shows that 17% of Group A says they do not need advice on investment options, whereas just over half of Group B feels this way. These responses show a sharp contrast between the two groups, with members of Group A feeling they need financial advice and being willing to pay for it, whereas members of Group B are almost exactly the opposite. The two groups show only minor demographic differences, although Group B has somewhat fewer members in the age group (Table 2.2). Therefore, the primary difference between the two groups lies in attitudes and preferences. Group C also has distinctive attitudes and preferences. This group is similar to Group A in needing and wanting help, but they differ in other respects. For example, item 4 in Table 2.1-A shows the extent to which consumers agree with the statement: I am more likely to trust the advice of financial professionals who are paid a fee rather than a commission. Not a single person in Group C mostly agreed with this statement, and only one in twenty somewhat agreed. However, among members of Group A, 87% agreed with the statement. Demographically, Group C is the most affluent, with higher income than any of the three groups, whereas both Groups A and B are about average (Table 2.2). Group C is also notable for being the least likely to agree with the statement: Banks, S&L's and credit unions are the best source of advice regarding my savings and investments, with only 2% of consumers in this group agreeing with the statement (Table 2.1-A). 9

18 Group D in contrast is the least affluent of the four groups (Table 2.2). However, it has the greatest confidence in banks, S&L's and credit unions as sources of advice, with 98% agreeing that these institutions are the best source of advice regarding savings and investments. In both affluence and attitudes toward advice from depository institutions, Group D is strikingly different from Group C. However, Group D is also the least willing to pay for professional financial advice, with less than one in ten being willing to do so. The following chapters evaluate these four groups of consumers in more detail, and develop the implications for credit unions of the characteristics, attitudes and preferences of these different segments of financial consumers. 10

19 Table 2.1-A: Consumer Preferences for Seeking Information and Advice from Financial Professionals Group # Question/Response A B C D All 1 It is important that a financial service representative keeps me informed where I stand financially. Mostly agree Somewhat agree Somewhat disagree Mostly disagree I like to discuss my financial options before making a decision about them. Mostly agree Somewhat agree Somewhat disagree Mostly disagree I prefer to consult a specialist when making financial decisions. Mostly agree Somewhat agree Somewhat disagree Mostly disagree I am more likely to trust the advice of financial professionals paid a fee than a commission. Mostly agree Somewhat agree Somewhat disagree Mostly disagree Bank s S&L s, and credit unions are the best source of advice regarding my savings and investments. Mostly agree Somewhat agree Somewhat disagree Most disagree I am willing to pay for professional financial advice. Most agree Somewhat agree Somewhat disagree Mostly disagree

20 Table 2.1-B: Consumers Ability and Willingness to Seeking Information and Advice from Financial Professionals Group # Question/Response A B C D All 1 I do not need advice on investment options. Mostly agree Somewhat agree Somewhat disagree Mostly disagree Total I prefer to spend as little time on making investment decisions as possible. Mostly agree Somewhat agree Somewhat disagree Mostly disagree Total I enjoy learning about different investment opportunities. Mostly agree Somewhat agree Somewhat disagree Mostly disagree Total I feel qualified to make my own investment decisions. Mostly agree Somewhat agree Somewhat disagree Mostly disagree Total

21 Table 2.2: Demographic Characteristics Group A Group B Group C Group D All Age Totals 100% 100% 100% 100% 100% Mean Median Education < High school 16.31% H.S. graduate 32.36% Some college 25.19% Bachelor s % Totals 100% 100% 100% 100% 100% Gender* Male 66.12% Female 33.88% Totals 100% 100% 100% 100% 100% Marital Status Never married 21.9% Divorced/separated 14.76% Widowed Married Totals 100% 100% 100% 100% 100% Income < $20K 30.11% $20K-$40K 26.66% $40K-$60K 22.14% $60K-$100K 13.76% $100K % Totals 100% 100% 100% 100% 100% Mean $45,342 $45,607 $54,168 $32,067 44,742 Median $35,000 $32,000 $45,000 $27,000 35,000 Percent of Sample % *The sample of households is nationally representative of households generally. Gender shown is the gender of the person in the household who is responsible for household finance. It appears that this is more often the male than the female in households with couples. 13

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23 CHAPTER 3: Groups A and B INTRODUCTION Groups A and B exhibit quite similar demographic characteristics (Table 2.2), except that Group A has more people in the age group. However, the ways in which people in the two groups prefer to obtain information and advice differs substantially. In fact, the two groups are close to being opposites. The following discussion is based on the data in Tables 2.1A and 2.1B. NEED FOR ADVICE When presented with the statement: I do not need advice on investment options, of the four groups, Group A is least likely to agree and Group B is most likely to agree. Group B is five times as likely to mostly agree as Group A, and more than twice as likely to somewhat disagree (Chart 3.1). Group A is least likely to agree that they feel qualified to make their own investment decisions and Group B is most likely to agree. In fact, Group B is about four times as likely as Group A to mostly agree. Group A is less willing than Group B to spend time on making investment decisions. Group A does not appear to enjoy learning about investments any less than Group B. In fact, members of Group A enjoy it somewhat more. However, they apparently don't feel this is the most effective way to spend their time. Chart 3.1: Perceived Need for Advice on Investment Options Percent A B 0 Mostly Agree Somewhat Agree 15

24 CONSULTING A FINANCIAL SPECIALIST Not surprisingly, Group A and B differ greatly in the extent to which they prefer to consult a specialist when making financial decisions. Group A prefers to consult a specialist, with over threequarters exhibiting this preference. Group B least prefers to do this, with only one in five of Group B preferring to consult a specialist when making financial decisions. Chart 3.2: Preference for Consulting Specialist in Making Financial Decisions I prefer to consult a specialist when making financial decisions. Percent Agree A C D B PAYING FOR FINANCIAL ADVICE The preferences of Groups A and B differ in another important way. Among the four groups, Group A is most willing to pay for professional financial advice, whereas Group B ranks about the same as Group D in being least willing to pay. Specifically, Group A is about five times as likely as Group B to say they are willing to pay for advice. Almost two thirds of Group A is willing to pay, compared to about one in eight people in Group B. Chart 3.3: Willingness to Pay for Advice I am willing to pay for professional financial advice. Percent Agree A C B D Group 16

25 HOW TO PAY These two groups also differ notably in how they prefer to pay for professional advice. Among the four groups, Group A is by far the most likely to trust the advice of financial professionals paid a fee rather than a commission. Group A is more than three times as likely as Group B to mostly agree with this (Chart 3.4), and 87% percent of Group A agrees with this mostly or somewhat. Chart 3.4: Preferences for Fees vs. Commissions I am more likely to trust the advice of financial professionals paid a fee than a commission. % Mostly Agree A B D C Group INTERACTION WITH ADVISORS Groups A and B also differ regarding the type of interaction they want with financial professionals. For example, people in Group A are most likely to want to discuss their financial options before making a decision about them, while those in Group B are least likely to want this kind of discussion. Ninety-six percent of Group A prefers to do this, as do the great majority of Groups C and D, whereas only about one in three of Group B prefers to do so. Groups A and B differ even more dramatically in their response to the statement: It is important that a financial services representative keeps me informed where I stand financially. People in Group A are nearly ten times as likely as those in Group B to agree with this, about 90% versus 9%, respectively. Therefore, Group A wants substantial interaction with advisors whereas Group B prefers to operate much more independently. 17

26 ATTITUDE TOWARD DEPOSITORY INSTITUTIONS Finally, Groups A and B differ in their attitude toward depository institutions as sources of advice regarding savings and investments. Less than half of Group A agrees that Banks, S&L's, and credit unions are the best source of advice regarding [their] savings and investments. However, a miniscule 4% of Group B agrees with this statement. GROUP A The analysis above indicates that Groups A and B, while demographically quite similar, differ dramatically in their attitudes and preferences about obtaining information and advice regarding investments. Group A views itself as not qualified to make its own financial decisions. It needs advice, and is willing to pay for it, but trusts advice based on fees rather than commissions. This group also wants considerable interaction with its financial advisors, but only about two in five regard depository institutions as the best source of advice about their savings and investments. GROUP B Group B differs from Group A in almost every respect in its preferences, and differs dramatically in some areas. People in this group are much more likely to feel qualified to make their own decisions, and many do not feel the need for advice. However, some do want advice. On the other hand, they are unwilling to pay for it and they want little interaction with financial advisors. Almost no one in this group regards depository institutions as the best source of advice on savings and investments. GROUP NAMES Based on the analysis above, we name Groups A and B descriptively as The Advice Seekers and The Independents, respectively. 18

27 CONCLUSIONS Table 3.1 summarizes the results above. It shows that we can identify at least two distinct groups with regard to preferences for obtaining information and advice on investments. Marketing implications will be developed in Chapter 6. However, we can say at this point that these two groups differ sufficiently that using a single approach to marketing probably would fail to effectively address the needs of one or possibly both of the groups. Table 3.1: Preference Summary: Group A and Group B Preferences for Obtaining Information and Advice Group A: Group B: About Savings and Investments Advice Seekers Independents Demographics Average Average Need for advice High Low Wants to consult a financial specialist Yes No Willing to pay for financial advice Yes No Trusts advice based on fees more than commission Yes Somewhat Preferred interaction with advisors High Low Perceived quality of advice from depository institutions Fair Very Low 19

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29 CHAPTER 4: Group C INTRODUCTION Like Group A, people in Group C need and want advice. However, they differ from Group A in a number of ways, both demographically and in their preferences for obtaining information and advice. The discussion below is based on data from Tables 2.1A, 2.1B, and 2.2. DEMOGRAPHICS Group C is somewhat younger, better educated and has higher income than Group A, whereas Group A is similar to households in general. More specifically, Group C has a smaller percentage of people aged 65 and above (13% versus 23% for Group A) and a higher percentage of people (39% versus 31% for Group A) (Chart 4.1). Overall, Group C is about four years younger on average than Group A. Group C has more college graduates and fewer people with less than a high school education than Group A, and income in Group C is about $10,000 a year higher at both the median and the mean than for Group A (Chart 4.2). About 26% of Groups A and C have income in the $20,000 $40,000 range. However, Group C has more households in each income category above this range and fewer in the range below $20,000. Chart 4.1: Age Distribution Group C vs. Group A Percent Age Age 65+ A C Chart 4.2: Income Levels Group C vs. Group A $ (Thousands) A C 10 0 Mean Income Median Income 21

30 NEED FOR ADVICE Members of Group C are a little more confident in their ability to make their own investment decisions than members of Group A. About 63% feel qualified to make these decisions, versus 55% for Group A. Similarly, people in Group C are a little more likely to say that they do not need investment advice (21% versus 17% for Group A). However, most people in both groups say they do need investment advice, 83% for Group A and 79% for Group C. These are both much higher levels than for Groups B or D. Groups A and C exhibit similar preferences with regard to the time they prefer to spend on making investment decisions and the degree to which they enjoy learning about new investment opportunities. CONSULTING A FINANCIAL SPECIALIST A majority of Group C (56%) prefers to consult a specialist when making a financial decision, although this is substantially smaller than the 77% for Group A. This is consistent with the relative need for advice that both express. Both Groups A and C have much higher preferences for consulting a financial specialist than either Group B or D. INTERACTION WITH ADVISORS Most people in both Groups A and C prefer significant interaction with financial advisors. For Groups A and C, 88% and 67%, respectively say: It is important that a financial service representative keep me informed where I stand financially. In addition, 96% of Group A and 88% of Group B say: I like to discuss my financial options before making a decision about them. Both Group A and C have much higher preferences for interaction with financial advisors than either Group B or D. PAYING FOR FINANCIAL ADVICE Group C is less willing to pay for professional financial advice (42%) than Group A (64%). However, 42% is a substantial portion of Group C and is a far higher proportion than we see in either Group B or D. The lower level of willingness relative to Group A seems consistent with the somewhat lower interest Group C exhibits in getting advice compared to Group A. 22

31 HOW TO PAY Group C differs dramatically from Group A in how it prefers to pay. People in Group C almost unanimously trust advice from an advisor paid on commission as much as they trust advice for which they pay a fee. A miniscule 5% appears to view commission-based advice as suspect, compared to a whopping 87% of Group A (Chart 4.3). The two groups are virtual opposites in their attitude toward advice received from someone compensated by commission versus someone to whom they pay a fee. Therefore, from a marketing perspective the method of compensation of the financial advisor needs to be quite different to adapt to the widely differing preferences of these two groups. Chart 4.3: Preference to Pay Fees vs. Commissions Group C vs. Group A I am more likely to trust the advice of financial professionals paid a fee than a commission. Percent Mostly Agree 53 5 Somewhat Agree A C GROUP NAME Based on the analysis above, we can name Group C descriptively as Upscale and Connected. 23

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33 CHAPTER 5: Group D INTRODUCTION Group D is distinct from the other three groups, and stands alone both demographically and with regard to preferences for obtaining information and advice on savings and investments. The discussion below is based on Tables 2.1A, 2.1B, and 2.2. DEMOGRAPHICS The age and gender of Group D are similar to those of the other three groups. However, with regard to education and income it differs substantially from the other groups. Only about one-third of people in Group D have post high school education, compared to about half or more for the other three groups. One in ten have completed college, compared to about one in four for Groups A and B and about one in three for Group C. Of people in Group D, 39% have income less than $20,000, compared to about 30% for Groups A and B, and 17% for Group C. One in ten people in Group D have incomes over $60,000, compared to one in five for all households. Average income for Group D is about $32,000, less than three quarters of the average for all households. Overall, Group D has substantially less income and education than the other three groups. NEED FOR ADVICE Among households in Group D, 35% feel they do not need advice on investment options. Although less than the 52% for The Independents, this percentage for Group D is much higher than for Groups A and C, at 17% and 21%, respectively. Similarly, the percentage of Group D that feels qualified to make its own investment decisions is higher than for all households. However, of the four groups, Group D is most likely to agree with the statement: I prefer to spend as little time on making investment decisions as possible, and is less likely than any of the other groups to say it enjoys learning about new investment opportunities. These responses, taken along with income and education levels, suggest that this group may have simpler financial affairs and feels confident in managing them without spending a great deal of time on this issue. 25

34 CONSULTING A FINANCIAL SPECIALIST About three in ten members of Group D prefer to consult a specialist when making financial decisions. This is more than the one in five of Group B, The Independents, but far below the 77% and 56% of Groups A and C, respectively, who are the most likely to consult financial specialists. Also, of those in Group D agreeing with the statement: I prefer to consult a specialist when making financial decisions, only 7% mostly agree, with 24% saying they somewhat agree, which indicates that even among the three in ten who agree, the extent of agreement is rather modest. This group has limited interest in consulting financial specialists. PAYING FOR FINANCIAL ADVICE Group D is least likely of the groups to indicate they are willing to pay for financial advice, even less than The Independents of Group B (Chart 5.1). Only 1% of Group D mostly agree with the statement, I am willing to pay for professional financial advice, and only 8% somewhat agree. Chart 5.1: Willingness to Pay for Advice I am willing to pay for professional financial advice. Percent Agree A C B D Group ATTITUDE TOWARD DEPOSITORY INSTITUTIONS Group D stands out dramatically as the most likely of the four groups to view banks, S&L's and credit unions as the best source of advice for their savings and investments. A whopping 98% agree with this view, whereas the next highest, Group A, has 39% agreement and only 4% and 2% of Groups B and C, respectively, 26

35 agree with this point of view. Therefore, Group D, the group that has virtually no interest in paying for financial advice, is the group that is virtually unanimous in viewing depository institutions as the best source of advice (Chart 5.2). Chart 5.2: Depository Institutions as Best Source for Financial Advice Banks, S&L's, and credit unions are the best source of advice regarding my savings and investments. Percent Agree D A B C Group INTERACTION WITH ADVISORS Seventy-five percent of households in Group D like to discuss their financial options before making a decision about them. While not as high as the percentages for Groups A and C, this is more than double the percentage for The Independents of Group B (Chart 5.3). Similarly, most households in Group D (54%) agree that It is important that a financial service representative keep me informed where I stand financially. Again, this is not as high as the percentages for Groups A and C, but is six times as high as for Group B, The Independents (Chart 5.4). Overall, the majority of households in Group D would like interaction with financial advisors. However, in their case, the financial advisor will almost always be someone at a depository institution who does not charge for the service, and probably is dealing with traditional depository institution products 27

36 Chart 5.3: Preference to Discuss Financial Options Percent Agree I like to discuss my financial options before making a decision about them A C D B Group 35 Chart 5.4: Importance of Being Kept Informed It is important that a financial services representative keep me informed where I stand financially. Percent Agree A C D B Group GROUP NAME Based on the analysis above we can name Group D more descriptively as Downscale and Local. 28

37 CHAPTER 6: Implications for Credit Union Marketers INTRODUCTION In this chapter, we develop the implications for credit union marketers of the findings for each of the four groups. Based on the results, we find it most instructive to develop the implications in the following order: Group D, Group C, Group B, and Group A. GROUP D: DOWNSCALE AND LOCAL Among this downscale group, credit unions have a strong comparative advantage. This group has less education and income than households overall. Therefore, their investments of choice often will be the simpler and more traditional products of depository institutions. They want to discuss their options and they want to be informed about the status of their investments, but they do not want to pay for advice. Therefore, traditional products at credit unions, such as certificates and IRA's, are well suited to this group. These products are easy to understand, don't take a lot of time to deal with, and members can discuss them as needed with staff at the credit union without paying either a commission or a fee. People in Group D almost unanimously view a depository institution as the best place for them to get financial advice about their savings and investments. However, this is not a group that banks and S&L's are likely to target. A downscale group such as Group D will likely feel most comfortable with a local institution that they regard as personal and familiar. This group can be a solid source of savings and IRA products for the credit union within its traditional mode of operation. Therefore, credit union marketers should focus on enhancing the relationship with this group, as a distinct segment with its own needs and preferences. GROUP C: UPSCALE AND CONNECTED This group differs from Group D in a number of ways. However, in one key respect, Group C is the precise opposite of Group D. As we saw in Chart 5.2, whereas a whopping 98% of Group D agreed that banks, S&L's, and credit unions were the best source of advice regarding savings and investments, a miniscule 2% of Group C agreed with this. Groups C and D could not differ more in this regard. 29

38 Group C has the demographic profile and preferences that fall into the classic group served by traditional brokerage houses. This is the most affluent of the four groups. People in this group want financial advice and interaction with advisors. They are somewhat ambivalent about paying for advice, but they have no qualms about trusting the advice of a commission based advisor relative to an advisor to whom they pay a fee. As we saw in Chart 4.3, not a single person in Group C mostly agreed that she would be more likely to trust advice based on a fee compared to advice based on commission, and only 5% even somewhat agreed. Therefore, the traditional commission based brokerage and financial planning services are ideally suited to this group. Of the four groups, credit unions would have the greatest difficulty penetrating Group C with financial planning and investment services. Group C's existing image of depository institutions as being a good source of advice regarding savings and investments is extremely low. Not a single member of Group C mostly agreed that banks, credit unions, and S&L's were the best source of investment advice and only 2% even agreed somewhat. Group C offers limited opportunity for credit unions to serve as financial planners and investment advisors. GROUP B: THE INDEPENDENTS Group B, The Independents, comprise a very distinctive segment of the market for investment services. This group appears to be the original target for the iconoclastic investment firm, Charles Schwab. Its traditional clients are less affluent than Group C, the primary group suited to traditional brokerage houses. People in Group B want information and inexpensive brokerage services to use for carrying out their own decisions. They want little personal interaction and are not willing to pay for investment advice. Schwab continues to be well positioned to dominate this niche, and opportunities for credit unions to compete in this arena appear limited. GROUP A: ADVICE SEEKERS Group A appears likely to offer the most promising opportunity for credit unions to provide investment services. This is a large 30

39 group, 55% of the total sample, and it is not well suited to traditional brokerage services because 87% of this group say they are more likely to trust the advice of financial professionals paid a fee than a commission. However, of all the groups, they most want interaction with a financial advisor, so the traditional Schwab model and its traditional niche does not suit this group well either. Both the traditional brokerage houses and Schwab have modified their approach to adjust to the needs of people like those in Group A. For example, instead of compensating broker-advisors with a commission, many brokerage houses have moved toward an annual fee based on a percentage of assets managed. Schwab has taken a similar approach recently and focused on people like those in Group A in a similar way. Schwab also has taken advantage of recent scandals to position themselves as being more trustworthy because they have fewer conflicts of interest than brokerage houses that also do investment banking. This shift in compensation method may work to attract people like those in Group A, and create opportunities for credit unions to serve Group A. A CLOSER LOOK AT GROUP A Characteristics of Group A At first glance, it would seem that Group A could provide substantial opportunities for credit unions providing investment services. This is the largest group, and people in it are inclined to distrust a sales culture when getting investment advice. However, they clearly recognize that they need advice and are willing to pay for it. Further, the demographics of this group are typical of households overall, which is a niche that credit unions have long served. Likely Success of Initiatives by Traditional Brokerages and Schwab Will moves toward basing investment advisory fees on a percentage of assets managed, rather than on a commission based on trades, satisfy the needs of Group A? On the surface, the answer appears to be yes. Group A clearly agrees that it would trust advice based on a fee over advice based on a commission. This change also moves in the right direction in the sense that the 31

40 fee would decrease if performance was poor because the fee is based on the amount of assets under management. However, basing fees on a percentage of assets managed may have some significant limitations in serving Group A. For example, with fees based on a percentage of assets managed, the biggest rewards will go to those employees at investment and brokerage firms who gather in the most assets. This is similar to a commission based sales approach and appears likely to produce a similar culture. Other Alternatives There are a number of models for how clients pay for professional services in other arenas. For example, clients can pay attorneys by the hour for specific tasks, or pay for the task itself, such as drawing up a will. In situations with substantial uncertainty, clients pay their attorneys based on outcomes, such as a contingency fee set as a percentage of the amount the attorney gains for the client in a lawsuit. Financial planners commonly charge a fee for a specific task such as evaluating or creating a financial plan. However, this situation presents substantial uncertainty, and generally planners to do not offer a fee based on outcomes, such as a contingency fee set as a percentage of the clients gains with an investment plan. Yet, even to do this would be problematic. With a contingency fee based on the outcome of a suit, a clear ending point exists, at which either a settlement or a trail verdict is reached. In contrast, any time period set to evaluate the performance of a financial plan would be arbitrary. Clients likely would be reluctant to agree up front to stick with a plan for the lengthy period of time necessary for ups and downs in the stock market to average out say 5-10 years. If the plan produced worse returns than the market as a whole in the first year or two, the client almost certainly would want to have the option to discontinue the plan without having to pay a penalty for perceived questionable advice. Yet investment professionals would be reluctant to base their compensation on short term performance in an arena with as much volatility as the stock market. If a practical, performance-based fee arrangement acceptable to both advisor and client could be developed, it probably would exist already. It appears more likely that the nature of the stock 32

41 market makes such an arrangement infeasible. As a result, compensation arrangements and company cultures must seek to accommodate a reality in which the connection between investment performance and advisors' compensation is tenuous at best. A company culture that can accommodate this reality is unlikely to align with credit union culture, where members expect reliability, trust, and certainty of outcomes. Implications In these circumstances, the best approach for credit unions appears to be to serve the membership by choosing an investment firm as a partner with the ability to retain the trust and confidence of clients in good markets and bad. However, positioning the credit union's role as central to financial planning and investments may be inconsistent with the culture required to handle its traditional functions effectively. Trust Services Offering trust services may fit a credit union culture, in which trust, reliability, and certainty, are embedded. This raises the question of what the market for trust services promises, a subject beyond the scope of this paper. However, a important implication of this research is that credit unions would benefit from a better understanding of the market for trust services, particularly for Group A, the Advice Seekers. 33

42 APPENDIX This appendix provides details of the statistical analysis used in this research. Table A-1: Factor Analysis of Consumer Preference for Seeking Information/Advice from Financial Professionals: Rotated Factor Patterns Using VARIMAX Final Factor 1 Factor 2 Factor 3 Communality N3_6 It is important that a financial services representative keeps me informed where I stand financially N3_7. I like to discuss my financial options before making a decision about them N3_1. I prefer to consult a specialist when making financial decisions N3_13.I would be willing to pay for professional financial advice N3_3. I am more likely to trust the advice of a financial professional who is paid a fee than one who is paid a commission N3_8. Banks, S&L's, and credit unions are the best source of advice regarding my savings and investments Variance explained Table A-2: Factor Analysis of Consumer Preference for Seeking Information/Advice from Financial Professionals: Rotated Factor Patterns Using VARIMAX (Standardized) Scoring Coefficients Estimated by Regression Factor 1 Factor 2 Factor 3 N3_6 It is important that a financial services representative keeps me informed where I stand financially N3_7. I like to discuss my financial options before making a decision about them N3_1. I prefer to consult a specialist when making financial decisions N3_13.I would be willing to pay for professional financial advice N3_3.I am more likely to trust the advice of a financial professional who is paid a fee than one who is paid a commission N3_8. Banks, S&L's, and credit unions are the best source of advice regarding my savings and investments Squared multiple correlations of the variables with each factor

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