One of our Industry Focus: Financials listeners recently asked why wealth management firms like BlackRock (NYSE: BK) have been such lousy performers recently. In this clip, contributor Matt Frankel, CFP, gives a rundown of three reasons why these companies' profits -- both current and future -- have come under pressure in recent years.

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This video was recorded on April 22, 2019.

Jason Moser: Matt, let's jump into an email that we got a little while back from a listener, Chip Hockenberry wrote to us. He says, "I'm curious to hear your thoughts on the wealth management sector. 2018 was a very down year for the industry. There's been a lot of movement into passive funds in recent years, which may be catching up to these predominantly active managers. But BlackRock is a leader in the passive space and was still down significantly. Another interesting piece has been the acquisitive nature of all of these firms that don't seem to be paying dues in the stock price." Matt, we talked a little bit about this on Slack before the show. What do you make of this for Chip?

Matt Frankel: For the wealth management stocks, there's three points you need to know when it comes to why they performed so poorly last year, and just general business dynamics going forward. First, these businesses primarily make money off management fees. If their assets under management decline, whether by people pulling money out, or by just overall market declines, as we saw last year, it's going to cause profits to suffer. In BlackRock's case, for example, assets under management wound up declining 5% during the fourth quarter just because of poor market performance. As a result, revenues declined by 9%. That would cause BlackRock to take a big hit, even though you're talking the passive game.

That's No. 2. A lot of investors, the trend is moving from active investments to passive investments. A lot of firms offer both types of investments. Even if assets under management remain equal, a lot more is going to passive investments, which usually carries much lower management fees. That could be a big revenue hit as well.

And then third, there's a big trend in the industry toward lower fees in general. People don't want to pay more than 1% for an actively managed mutual fund. People think that index funds should cost next to nothing. As each of these firms are competing with each other, both in the active game and passive game, you're seeing a lot of pricing pressure. Fidelity is offering pretty much free index funds. You get a great Vanguard or Schwab fund that charges 0.03% or 0.04% of assets under management, which is almost nothing. There's a lot of pricing pressure in the industry right now, which is not only actually being reflected in the numbers right now but is causing investors to be worried about the earning power of these companies going forward. So when you're looking at these stocks, I would say those three things are what you want to look at.

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