Editor’s Note: This is Part 2 of a three-part series that examines the wirehouses’ increasing reliance on client loans to help boost their profitability.

While wirehouses are stepping up efforts to ramp up client lending, several skeptics — including former regulators — find their tactics worrisome.

Merrill Lynch, Morgan Stanley, UBS and Wells Fargo want clients to take out more loans — including margin and customized loans — and in recent months have expressed a willingness to widen what’s acceptable as collateral, as reported.

“It’s kind of like giving a power tool to a six-year-old. They can do a lot of damage,” lawyer Bradley Bennett says about the wirehouses’ client lending practices. Bennett served as Finra chief of enforcement from 2011 to 2017.

Loans collateralized with stock shares, or margin loans, worry Bennett the most. “They are the most dangerous” and must be “closely supervised,” he says.

The rules have changed since historians blamed margin loans for the 1929 stock market crash. The Federal Reserve Board’s Regulation T sets a limit on how much an investor can borrow: 50% of the price of the security purchased.

“It’s kind of like giving a power tool to a six-year-old. They can do a lot of damage.”
Bradley Bennett
Lawyer and former Finra chief of enforcement

Still, the idea of investors borrowing to buy stock troubles Bennett and several others.

If the stock price drops, the investors will have fewer assets to repay the loan to extricate themselves from the position. “It’s very risky and has great potential to exacerbate losses. You have to have very strong hurdles,” Bennett says.

Shirl Penney, CEO of Dynasty Financial Partners, a network of independent RIAs trying to attract more wirehouse breakaways, warns of the potential conflicts of interest.

“You have to be careful, if you’re changing advisor behavior by changing their compensation … incentivizing them to sell more credit,” Penney says.

Problems arise “if those advisors aren’t educated on the liability management side — and most of the training in the wirehouses is done around the asset side of the balance sheet, not the credit side,” Penney notes.


But when trying to attract breakaways, Dynasty and Sanctuary Wealth, also an RIA network, entice them by saying they could take the client loans with them when they jump ship.

“The reality is now, it’s very rare that we would find the lending scenario that we haven’t been able to match,” Penney told FA-IQ previously.

Extra payouts in team grids

At Merrill Lynch, the collateral categories for customized loans “run the spectrum,” and extend beyond clients’ securities, or margin loans, and include commercial real estate, a senior executive at the wirehouse told reporters in January. The possible additional collateral for ultra-high-net-worth clients include art, yachts or aircrafts, the executive said.

“This expansion of our customer loan capabilities and the ability to lend against a much broader range of collateral ... there’s no comparison in terms of where we were 10 years ago. [Growth for those loans] will be sustainable for years to come.”
Senior executive
Merrill Lynch

“When we think about great examples of where Merrill Lynch Wealth Management today can operate as part of Bank of America, this expansion of our customer loan capabilities and the ability to lend against a much broader range of collateral, this is an area where the platform we offer today … there’s no comparison in terms of where we were 10 years ago,” the wirehouse executive said.

Growth for those loans “will be sustainable for years to come,” the executive predicted.

Merrill Lynch Wealth Management’s customized client loan balances increased 17% year-over-year in 2019, according to figures provided by a spokesperson. For BofA Private Bank — where loans have been available to clients for longer than at Merrill Lynch — customized loan balances rose 7% year-over-year in 2019 among UHNW clients, the spokesperson says.

Under Merrill Lynch’s 2020 pay formulas, an FA’s primary compensation is based on a productivity grid that largely depends on the income produced for the firm and parent bank. That individual productivity grid is product neutral.

There’s also a 2020 team grid that can boost an individual FA’s compensation. The FA receives an additional payout level based on the team’s highest producer.

The FA may become eligible for the team grid boost by voluntarily pursuing incentive goals, which include, as one option, having a pre-set minimum number of clients take out loans. But, at the same time, they must meet other metrics to receive the team grid boost — including adding to their professional accreditations and increasing their clients’ engagement with other BofA services.

Merrill Lynch and BofA executives have said previously that clients welcome a “holistic” relationship and benefit from improved pricing by using more of their services and products.

“This concept of team grid and rewarding teams for delivering comprehensive financial advice is grounded in what we hear clients want from us,” a spokeswoman for the wirehouse tells FA-IQ in response to this story. “An advisor and team’s growth goals are completely product agnostic and have been designed to encourage advisors to meet more of their clients’ needs.”

Tomorrow, Part 3 of the series: Client Loan Pressures at Merrill Made This FA Jump Ship

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