The FOMO Element of Discretionary Consulting

As more and more investment consultants crowd into the discretionary consulting space, perhaps spurred by a fear of missing out (FOMO) mentality, some within the industry say the potential cost of not following the herd could be a problem.

(September 25, 2012) — Investment consultants are increasingly pursuing the discretionary consulting space, which they say is a “natural evolution” of the business.

In March, Rocaton announced that it would begin offering the service, as it had approved its first discretionary consulting client, allowing the consulting firm to oversee total portfolios for their clients. According to the firm’s founder Robin Pellish, its decision to pursue the outsourced CIO or discretionary consulting business stemmed largely from its hiring of John Nawrocki — who joined in 2011 from Rogerscasey (now Segal Rogerscasey) where he led the outsourcing arm. Nawrocki currently oversees Rocaton’s discretionary consulting business.

But as more and more consulting firms jump on the discretionary consulting bandwagon, what is the opportunity cost for not getting into the space? Are consulting firms propelled to offer such services by a fear of missing out (FOMO)?

“The opportunity cost for not taking on those responsibilities is that you’re not going to be able to work with the clients that you have in the past,” Rocaton’s Nawrocki told aiCIO, noting that investment consultants are increasingly interested in outsourcing, as a result of the constraints asset owners are facing in terms of resources. “There’s more and more complexity on the plate for asset owners in dealing with alternatives along with derivatives and the consequential counterparty risk involved,” he said.

To put it differently, according to many consultants offering the discretionary consulting service, which they generally deem as hugely more profitable than the litigious world of traditional investment consulting, the opportunity cost is not only lost profit, but also potential loss of clients who will look elsewhere for their needs. “There are more and more asset owners going into this route, so the number of new business opportunities for non-discretionary services will become less,” Nawrocki added.

As asset owners face the challenges of higher complexity throughout their investment portfolio, leaning on a consultant for the outsourced CIO role is simply a lever they can use to alleviate challenges, Nawrocki said.

Yet there are still consultants left in the industry that are holding out, remaining “independent,” as they say. In April, aiCIO interviewed Lisa Needle of Albourne Partners, an alternatives-focused investment-consulting firm and one of the few truly independent investment consultants left. “Albourne will never be discretionary,” Needle stated at the time. “We solely provide advice. In our mind, providing both discretionary and non-discretionary advice to clients represents a conflict of interest.” In the long-run, reputation is more valuable, the firm said. The firm is adamant about offering a fixed fee model, while refusing to take discretion for the advice they offer on investing in a hedge fund manager. In other words, the firm feels strongly that there is a Chinese wall between discretionary and non-discretionary advice on managers.

Other consultants that have avoided the discretionary consulting arena include Boston-based New England Retirement Consultants (NERC), a specialized retirement consulting firm not to be confused with NEPC, and Portland-based RV Kuhns & Associates. Two years ago, NERC chose to dip its toes into the outsourced CIO role by not offering the services to their client themselves, but instead by conducting requests for proposals for discretionary services. In other worlds, they act as a gatekeeper for evaluating and choosing outsourcers. “So if an organization wants to go from the traditional consulting model to the outsourcing model, we come in and find out what their needs are and match them up to candidate firms, such as investment management companies and other consultants, for discretionary services,” New England Retirement Consultants’ Jay Gepfert told aiCIO.

According to Gepfert, who was previously with Russell Investment’s outsourced CIO business for seven years, a FOMO mindset may be a factor pushing consultants to offer an expanded array of services. “But there is still a relatively small percentage that outsource — just around 10%. In the last two years there has been a gold rush of consultants getting into the space because either 1) they have a client lost to an outsourcer or 2) they think this is a model going forward,” he asserted, highlighting that the upfront cost of providing the service is “not cheap.” “For us, we have a lot of other revenue areas that differentiate ourselves from the market. We’re not a Mercer. We’re a small boutique.” He added: “I tell clients that frankly there’s an overcapacity of outsourcers compared to the firms that want to outsource. It went from 10 outsources five years ago to around 60 today.”

So, is the FOMO justified? Perhaps, for some consultants–namely boutique or specialist firms–missing out on the discretionary consulting bandwagon is in their best interest.