Advisor Fee - Explained
What is an Advisor Fee?
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Table of ContentsWhat is an Advisor Fee?How Does an Advisor Fee Work?Asset-Based FeesCommission-Based FeesAcademics Research on Advisor Fee
What is an Advisor Fee?
An advisor fee refers to an amount of money that investors or clients pay investment companies for the services the rendered. The variety of services offered by investment companies include professional advisory services, investment and asset management services. When these services are offered, a fee is charged known as advisor fee. Financial advisors, fund managers, and broker-dealers can also charge advisor fees from clients.
How Does an Advisor Fee Work?
There are different services that attract advisor fee, this fee is not limited to investment companies or portfolio managers. More extensively, professionals charge advisor fees for professional and advisory services they render. When charged by an investment company, an advisor fee compensates a service provider for helping investors or clients make profitable investment decisions. Investors that hire a broker-dealer or fund manager to execute a transaction are required to pay an advisor fee. There are two types of advisor fee, they are;
- Asset-Based advisor fee
- Commission-based advisor fee.
An Asset-based advisor fee is charged by investment companies or fund advisors based on the amount of asset held by an investor. For financial advisors who owe their clients a fiduciary duty to manage their assets, they charge a fee using the total value of the asset being managed. These advisors go over and above trying to ensure that the investment decisions align with the objectives of the clients and profit maximized. They charge the highest asset-based advisor fee which might be up to 1.25% of the assets.
Advisors who do not charge asset-based fee charge commission-based fees. Broker-dealers or financial advisors that charge this fee have the fiduciary responsibility to ensure that the investment they manage on behalf of clients does not fall short of the required standards and meet the investment needs of the client. A commission-based fee is a charge based on the entire service rendered by the broker-dealer or advisor, while such fee can be a flat fee, others give a particular amount charged as commission to clients and investors. Sales Loads Another form of compensation for advisors is sales loads, clients and investors incur sales loads during a consultation or interaction process with a financial advisor or broker-dealer. Sales loads are often used in mutual funds and are contained in the funds prospectus. Sales loads are different from management fees, these fees can be front-end, back-end or level-load fees. Different categories of shares class attract different sales loads. For instance, A-shares have front-end loads, B-shares back-end loads and C-shares level-load fees.
Academics Research on Advisor Fee
- Empirical tests of a principal-agent model of the investor-investment advisor relationship, Golec, J. H. (1992). Empirical tests of a principal-agent model of the invest. This paper develops a specialized principal-agent model of the investor-investment advisor relationship and embeds the standard advisory compensation schedule in the model. Advisors are endowed with information-gathering abilities and investors are endowed with funds. Information-gathering services are traded indirectly through the investor's receipt of portfolio returns net of advisory fees. Model results show that the parameters of the compensation schedule are both a function of the idiosyncracies of an advisor's information services and the degree of risk sharing between the advisor and investor. Several predictions of the model are supported using data on mutual fund advisors. Unsupported predictions may be due to self-selection of advisors by risk tolerance.
- An analysis of advisor choice, fees, and effort in mergers and acquisitions, Hunter, W. C., & Jagtiani, J. (2003). An analysis of advisor choice, fees, and effort in mergers and acquisitions. Review of Financial Economics, 12(1), 65-81. This paper investigates the choice of financial advisors in mergers and acquisitions, the fees that the targets and the acquiring firms pay to these advisors, and the speed with which advisors complete transactions. Our sample includes 5337 merger deals announced during the period January 1995 to June 2000, that involved publicly traded targets and acquirers. We find that toptier advisors are more likely to complete deals and to complete them in less time than lower tier advisors. However, the synergistic gains realized by the acquirers declined when top advisors were used. We also find that contingent fees play a significant role in expediting the deal completion. Surprisingly, we find that deals that are initiated by the advisors do not seem to take less time to complete. Our results suggest that the payment of larger advisory fees do not play an important role in determining the likelihood of completing the deal, but they are associated with greater acquisition gains realized by the acquirer. In addition, these synergistic gains are also associated with the switching by acquirers of their financial advisors within the same tier.
- Financial determinants of systematic risk in real estate investment trusts, Patel, R. C., & Olsen, R. A. (1984). Financial determinants of systematic risk in real estate investment trusts. Journal of Business Research, 12(4), 481-491. Financial theory and empirical evidence suggest that a firm's systematic, or market related, risk is related to its financial conditions. This study empirically investigates the financial determinants of systematic risk for Real Estate Investment Trusts (REITs). The study is an examination of sample of 32 REITs for the period 19761978. The results indicate that systematic risk varies directly with financial leverage, business risk, and advisor fee. The explanatory power of the relationship between systematic risk and financial variables exceeds that of previous studies wherein firms were pooled across industry groups. The higher explanatory power observed even with limited data suggests that better estimates of coefficients of financial determinants of systematic risk may be obtained through analysis conducted on an industry by industry basis. Furthermore, such industry-specific analysis provides useful results to practicing financial managers in their financial policy considerations. With the knowledge of how the financial decisions affect the firm's systematic risk, a manager may be able to manipulate those variables so as to reduce the systematic risk for his or her firm and thus increase the market value of the firm's securities.
- REIT and REOC systematic risk sensitivity, Delcoure, N., & Dickens, R. (2004). REIT and REOC systematic risk sensitivity. Journal of Real Estate Research, 26(3), 237-254.
- The Shariah compliance challenge in Islamic bond markets, Azmat, S., Skully, M., & Brown, K. (2014). The Shariah compliance challenge in Islamic bond markets. Pacific-Basin Finance Journal, 28, 47-57. This paper considers the interaction between Shariah advisors, regulators, Shariah conscious ethical investors and an Islamic bond issuing firm. The model shows that due to higher Islamic instrument cost, the Islamic bond industry's existence is contingent upon a Shariah conscious ethical investor base that can absorb the lower Shariah premium. The results also suggest that competition amongst Shariah advisors along with issuer fatwa shopping results in non-compliant (or less than fully compliant) Islamic financial instruments. This study contributes to Islamic finance theory by suggesting that apart from market incentives and stronger regulations, the Shariah compliance challenge is dependent on Shariah conscious ethical investors.