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Wealth Management Providers Must Get Client Segmentation Right

Robert J. Ellis

Celent, LLC

24 January 2007

Wealth management is an integral line of business within the financial services industry, made up of a unique combination of specific clients, products, and providers. More so than for financial services firms that serve the larger mass audience, where the focus is on productivity and throughput, wealth management adopts a strong client-centric approach that encourages and enables greater customization and individual focus. Wealth management is not simply a matter of defining a customer demographic; instead, it is a matter of understanding and managing the intersection of specific client segments, products, and distribution channels. It is at this point of intersection where the opportunity for success or failure presents itself to each wealth management firm. This open-ended definition of wealth management is necessary to explain and understand how a variety of financial services firms compete for each client-product-delivery channel intersection, even though the firm may choose to define itself in traditional terms: private bankers, asset managers, investment managers, brokers, or life insurance agents. Failure to define the end user of the product and distribution channel will result in cognitive dissonance for the client and the firm. Imagine a distribution channel that primarily serves the general population with a variety of standardized solutions through storefront locations telling a retiring entrepreneur with a net worth of $100 million that it has products for her financial situation. Does it happen? Yes. Can it even result in the occasional sale? Yes. But that dissonance between the provider, its products, and the client is eventually doomed, and it is the foolish wealth management company that endeavors to build a business on such a shaky premise. Such disconnects are the cause of many lawsuits between providers and clients. A client segmentation scheme must, above all else, be actionable. In other words, one must have the ability to place a client within the segmentation scheme, and, at the same time, differentiate the products, services, and distribution channels appropriate to the needs of that segment. According to the January 2007 Financial Planner magazine, 78 per cent of high-revenue wealth management firms employ a client segmentation scheme to manage their sales and service functions. Some firms simplify to three client segment levels based solely on assets (mass affluent, high net worth, and ultra-high net worth) without considering all the ramifications of the classification scheme. The study noted that the higher the revenue, the less likely the firm was to employ assets under management as the sole metric of segmentation. The selection of asset ranges should be based on the clients’ defined propensity to employ specific products and delivery channels in their financial strategy. The relevant asset figure is total net worth, not total assets. A “total assets” metric fails to take into account leverage and the existing and potential borrowing capacity against total assets. The use of net worth is key in North America, where investors are experienced in using equity in homes, other real estate, and art to fund other investments. The other relevant metric in North America is the household, not simply the individual. Assets are frequently jointly held, with or without the right of survivorship, and assets often do not fully transfer until the spouse is deceased. More and more, both partners may engage in evaluation of providers, and some financial products now have familial implications, such as 529 plans, second-to-die insurance and annuity products, health savings accounts, and long-term care insurance. The amount of net worth is only the starting point to segmenting clients. There are important differences, for example, between a 25-year-old successful dress designer in New York City who is the recipient of income and future corpus from a $3 million trust fund, and a 72-year old retiree in Hemet, California living off his $3 million IRA. Therefore, to properly classify a client within a segmentation scheme, the following factors also need to be considered: - Sources of wealth. For example, top executives of publicly traded corporations have different needs (e.g., option collars) from private business owners (e.g., buy/sell agreements funded with insurance). - Age and phase of life. Products and delivery channels will depend on whether the client is in the accumulation phase or the distribution phase of his or her investing life. While the distribution phase can be synonymous with retirement, it may also represent, for example, utilization of a special needs trust’s assets. - Advice dependency. Clients can be advice-dependent, relying on their financial advisor for every decision, or totally self-directed, making investment choices and purchases with little or no input. Clients can also fall anywhere in the middle of this continuum. - Risk tolerance. Like advice dependency, there is a risk continuum among clients that is reflected in both the products and advisors that they select. - Tax situation. Taxes, independent of age or phase of life, can play small or large parts in a client’s investment decision-making. A client’s individual tax situation creates ramifications in selection of both a financial advisor and specific products. The final segmentation scheme will differ based on each firm’s target markets. For each specific segment, there needs to be a business strategy with assigned products and advisors that are familiar with the needs of the segment. Furthermore, the marketing must utilize the segment specifics to attract prospects and reassure existing clients. Once the segments to be served are identified and described by an organization, specific issues, problems and needs must be ascribed to those segments. Only then should a firm begin to attach products and delivery channels to serve the segmented clients. This opinion is extracted from the recent Celent report Wealth Management in North America: Clients, Products, and Providers. For further information, please contact info@celent.com.