Out-of-Pocket vs. Out-of-Investment in Financial Advisory Fees: Evidence from the Lab

63 Pages Posted: 30 Oct 2017 Last revised: 27 Mar 2019

See all articles by Yevgeny Mugerman

Yevgeny Mugerman

Bar Ilan University

Orly Sade

Hebrew University of Jerusalem - Department of Finance

Eyal Winter

Hebrew University of Jerusalem - Department of Economics

Date Written: March 21, 2019

Abstract

The implications of the method of payment to financial advisors on the behavior of individuals and their willingness to pay (WTP) are of interest to economists and regulators around the globe. This paper uses an experimental economics technique to compare two common alternative payment structures. The first “out-of-pocket” payment structure (payment from a checking account) and the second is “out-of-investment” (payment from an investment portfolio account). We document that for the same financial advice, the subjects in the “out-of-pocket” treatment – an upfront payment – were willing to pay on average 25 per cent less than the subjects in the “out-of-investment” treatment – a payment following the realization framed in terms of gains. We employ an additional “out-of-pocket” deferred payment structure and decompose this effect to pocket vs. account component and actual payment after the advice realization component. We find that the “realization” component appears as the key element – across “out-of-pocket” payment structures, the subjects were willing to pay significantly less in the payment upfront treatment than their counterparts were in payment following the realization treatment. The pocket vs. account frame has insignificant effect. These results hold after controlling for a vector of personal, demographic, and behavioral characteristics, as well as for performance on a math test.

Keywords: experimental public choice; payment structure; advisor remuneration; willingness to pay; prospect theory; realization effect

JEL Classification: G40, G28

Suggested Citation

Mugerman, Yevgeny and Sade, Orly and Winter, Eyal, Out-of-Pocket vs. Out-of-Investment in Financial Advisory Fees: Evidence from the Lab (March 21, 2019). Available at SSRN: https://ssrn.com/abstract=3061020 or http://dx.doi.org/10.2139/ssrn.3061020

Yevgeny Mugerman (Contact Author)

Bar Ilan University ( email )

Ramat Gan
5290002
Israel

Orly Sade

Hebrew University of Jerusalem - Department of Finance ( email )

Mount Scopus
Jerusalem, 91905
Israel
972 2 588 3227 (Phone)

Eyal Winter

Hebrew University of Jerusalem - Department of Economics ( email )

Mount Scopus
Jerusalem, 91905
Israel

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