Dennis Hammer is a writer and finance nerd with six years of investing experience. He writes about personal finance for Wealthsimple. Dennis also manages his own investment portfolio and has funded several businesses in the past. Dennis holds a Bachelor's degree from the University of Connecticut.
Does money, investing, and financing confuse you? If so, you aren’t alone. In fact, many people find these topics downright mystifying. There’s an entire industry professionals devoted to helping you navigate these difficult topics. In this article, we’re going to explain the financial services sector and how it can help you grow your wealth and prepare for retirement.
Financial services in Canada
Financial services are companies in the business of managing money, providing financial advice, and helping people acquire financial products. The financial services sector is made up of companies of all sizes—from massive conglomerates to local mom-and-pop outfits. They provide a broad range of services involving banking, insurance, investing, and taxing.
You’ve probably used a financial services provider yourself. Accountants and insurance agents, for example, are basic forms of financial services providers. Your bank and PayPal account also provide financial services.
Financial advisors are another big category of financial services. An advisor offers advice on how to get the most value of your money. He or she will counsel you to open accounts, purchase securities, move funds, and buy financial products.
Financial products, however, are not services. Your mortgage is a product. The stocks and bonds you purchase through your investment portfolio are products, as are real estate, insurance policies, and loans, even though you may use a financial service to acquire them. Your RRSP and RESP are products, but a financial services provider may help you obtain them.
Function of financial services
What’s the purpose of the financial services industry in Canada? It provides necessary services for consumers and businesses throughout the entire financial industry, from local retail banks that hold deposits to the big five investment banks that provide liquidity. Here are the main services this industry provides.
Financial services can help consumers, investors, and businesses raise money for financial activities. For instance, an advisor could help you choose the right loan for your needs. Large companies use highly specialized financial advisors to help them through the IPO process.
Getting money from point A to point B is more complex than you may think, especially in the increasingly complex digital area. We need financial service providers to move money around safely.
Is that investment a risky bet? Should you buy insurance? Are you ready for retirement? Financial advisors reduce your risk by pointing you (and businesses) toward financial practices and products that make sense for your needs.
The financial services sector plays a key role in helping the economy grow by mobilizing a lot of money that would ordinarily be sitting around. The money you put in your high interest savings account, for example, doesn’t just sit there. The financial institution invests that money to pay your interest rate. Without that service, a big part of the economy (here in Canada and globally) would be stagnant.
The financial services sector is full of companies who provide very specific services to other companies. Venture capital financing, factoring, merchant banking, stock leading, and credit rating are just a few examples. Often, financial institutions will outsource specific services depending on their needs.
Types of financial services
The financial services industry engages in a broad range of activities to manage money and advise clients. As the economy evolves, old services change and new services are born every year. Let’s go over the main types of financial services.
Fintech (financial technology) refers to software technology solutions that automate the delivery of financial services. Consumers and businesses use it to improve and manage their day-to-day financial needs. At one point, fintech referred to back-end systems used by big financial institutions, but now it’s used to describe consumer friendly services. It also includes the use and development of cryptocurrencies.
Wealthsimple is an example of fintech. Its platform lets you invest in a portfolio of low-fee funds that are designed to meet your financial goals. It will automatically diversify your portfolio to minimize risk and maximize your return.
Banking is the backbone of the financial services industry. Most financial service companies are attached to banks in some way. Many financial service providers are customers of banks.
Commercial banks keep customer deposits safe, facilitate credit and transactions, and make basic loans. The financial services sector provides services to managing risk, insuring products, making investments, and other financial activities. These providers earn revenue through commissions, fees, and the spread on interest rates between loans and deposits. Investment banks provide services to high-net-worth customers by underwriting deals, managing wealth, offering tax advice, guiding mergers and acquisitions, and securing access to capital.
Insurance is another big part of the financial services sector. Insurance brokers help their customers purchase insurance products that protect against property damage or loss, death or injury, and liability from negligence or harm. Underwriters evaluate risk for financial institutions. Reinsurers provide insurance to insurance agencies to help protect them from bad bets.
Tax and accounting
Accounting for money and paying taxes is complex, so it’s no surprise that there is a robust industry devoted to helping with these problems. Accountants prepare and analyze reports, ensure documents align with regulations and accounting best practices, identify discrepancies, and help consumers and businesses understand their financial positions.
Tax professionals help consumers and businesses minimize their tax liability and prepare documents. Online tax filing software helps you complete your yearly reports without hiring a person.
Mutual funds are financial products and services tied closely together. A mutual fund is a pool of money from lots of investors. The pool purchases a diversified portfolio of securities. Investors buy shares of the pool. The fund has a professional manager who researches, chooses, and buys those securities in hopes of maximizing everyone’s return.
Financial advisory is a bit of a catch-all that refers to professionals who use their knowledge and expertise to create personalized financial plans. An advisor will look at your total financial situation and make recommendations that meet your needs and goals. This advisor can help you make and stick to a budget, allocate funds across accounts, and make trades on your behalf.
Wealth management is an advisory service specifically for wealthy clients who have complex financial needs. The advisor combines a number of financial disciplines and various products to create a unique strategy for his clients. He might use estate planning, accounting, tax preparation, investment management, and others.
Unlike typical finance advisors, wealth managers usually have a longer relationship with their clients and total awareness to their clients’ financial position. This single manager coordinates all of the client’s needed financial services under a single strategy.
How to choose a financial services provider
Like we said, the financial services sector provides a lot of different services, so you’re bound to need one at some point in your life. How do you find a financial services provider? Follow these steps.
Step 1: Determine your needs
The kind of financial advisor you choose depends on your unique situation. A fresh-out-of-college working professional has different needs than an almost-retired person. It’s important to pick the right provider for your needs so you get the best advice and don’t pay for services you don’t need.
Do you want to buy securities? Take out a loan? Get help with your taxes? Save for retirement? Insure something? Make a budget? Once you decide what you need help with, you can look for a financial services provider who specializes in that area.
Step 2: Consider the cost
All financial services cost something. Sometimes the costs are clear, such as an hourly retainer. Other times the cost is wrapped into a product. For instance, an insurance agent may advise you on insurance products and then take a commission from the insurer for the product you choose, but ultimately that cost is part of the product’s price.
Human advisors typically charge a percentage of the amount they manage—usually around 1%/year. If you have $300,000 invested, the manager would charge $3,000/year. Some charge flat or hourly fees.
Robo-advisors charge an annual fee based on the amount they manage, but it’s typically far less than human advisors. At Wealthsimple, for example, we charge as low as 0.40% of your account balance. That’s only $1,200 on a $300,000 balance.
Step 3: Understand the value of the service
Once you know what you need to buy and how much it costs, you’ll need to decide if there’s value in the service. For instance, a robo-advisor that boasts 8% returns with 0.5% fees is more valuable than a human advisor that promises 9% returns with a 2% fee.
In many cases, however, return isn’t the only value you can get from a financial service provider. A provider may provide you with education or access to a service you can’t get on your own. Stripe, PayPal, and Square, for example, are financial services that help small businesses accept payments from credit card companies, which is an integration you couldn’t get on your own without enormous expense.
Step 4: Check qualifications and obligations
Before you take steps with a financial services provider, your final step is to check its qualifications. Does it have the right licensing? Does it have good reviews from unbiased people?
You also need to check for conflicts of interest by making sure the financial services provider has a fiduciary obligation. A fiduciary obligation is a legal requirement in Canada (and other places) that your provider act honestly in your best interest. A financial service provider has a fiduciary obligation if you are in a position of vulnerability (and you are if you’re seeking their help or service) and they have the ability to exercise discretion.
For example, an advisor or provider with a fiduciary obligation couldn’t steer you towards an investment or product that wasn’t in your best interest because it benefited them. You don’t want an investment manager who gets kickbacks for convincing his clients to buy certain funds. He might have you buy those funds because he benefits, even though there are better ways to spend your money.
The bottom line
Financial service providers play a critical role in the economy. They manage money, provide advice, and help people and businesses acquire financial products. If you aren’t sure about the best way to handle your money, don’t be afraid to solicit the help of a financial services provider.