Commissions Matter

Before I start on this tonight, let me say that I never begrudge any salesman a fair commission. When I was a bond manager, I made a point of never letting my brokers “cross bonds” to me, i.e., at no commission. I would raise my purchase price a little to compensate them. Had my client known that I did that, he might have objected, but it was in his best interests that I did it. As a result of that and other things that I did, my brokers were very loyal to me, and worked to give my client excellent executions whether buying or selling. They were also more frank with me about bonds they thought I should sell. Fairness begets fairness under most conditions, and suspicion and tightness also have their way of breeding as well. Consider that in all of your dealings.

?Photo Credit: GotCredit

My main reason for writing tonight is to remind investors to think about how the parties you transact with are compensated.

If they are compensated on transactions, expect to see a lot of buying and selling.

If they are compensated on asset-based fees, expect them to try to get business, and then retain it.

If they are compensated on profits, they will try to get profits. Be wary of how much control they might have over the accounting, they will be incented to be liberal if they have any control. They will also be incented toward volatility, because volatile assets offer the best possibility of a big score, even if the probability is moderate at best.

The greater the potential compensation, the greater the tendency to act along the incentives offered. As a result, if a life insurance salesman has a product offering a high commission, and one offering a low commission, he may act in the following way:

Figure out if you are price-sensitive or not.

Figure out if you are willing to accept a product that has a long surrender charge. Long surrender charges lock in business, and allow for high commissions to be paid.

Also analyze how much complexity you are willing to accept — more complex permanent policies and especially ancillary riders are far more profitable because even external actuaries would have a tough time analyzing them.

If you are price-sensitive, bring out the low commission policy that is more competitive.

If you are price-insensitive, bring out the high commission policy that is less competitive.