One thing I’ve heard a lot about recently is the changing perspective people have on financial advisors, as a whole. 2008 was a tough year for most of us, but for those people that had more risk exposure than they could afford last year, it was devastating. Imagine losing 50% of your portfolio only a couple of years before you were planning to retire! I feel for these people; and for those that couldn’t afford the loss, I’m angry right alongside them.
I’m angry because I believe one of the primary goals of a financial advisor is to translate someone’s circumstances and objectives into a plan that takes one’s ability to sustain losses into account! Asset allocation is a hugely important decision (this is the decision to allocate X% to equities, bonds, real estate, etc) and it was poorly handled in many cases.
I do not encourage anyone to take a short-term perspective on investing. However, some clients have short-term goals! We’ve added clients that have previously experienced what I describe above, and it’s frustrating that accounts were allowed to be allocated so inappropriately.
I must preface this paragraph by explaining my high regard for many advisors who truly do work for their clients. However, I think the reason that so many individuals and families lost their shirts when they didn’t have shirts to lose is a product of an industry that gives advisors incentives that do not align with those of clients, and an industry that requires very little education to become a part of. I find it quite scary, and it is the impetus for this letter. I believe that the public needs to better understand what advisors do, what they can do, why they should do it, how to test them, etc. Therefore, I will attempt to give some guidelines and/or questions for selecting an advisor.
I will lead this section by explaining that when you ask an advisor one of these questions, he/she should be able to articulate the answer in detail, and with confidence. If you sense an uncertainty, probe. Advisors are NOT a necessary evil; but you do need to play detective to spot the good ones.
- If you do not trust this person, do not hire him or her.
- Regardless of how nice this person is, or how little you want to “stir the pot” when things are going seemingly well, DO YOUR DUE DILIGENCE. Friendliness, unfortunately, does NOT equal a good advisor.
- Ask the advisor how he is paid! Ask in depth, here! Is this how he/she is compensated IN EVERY INSTANCE? You’re asking for a bad manager if you do not both ask AND receive a satisfactory response.
- Is your advisor a “fiduciary” to you? A fiduciary relationship means that the advisor has the highest legal standard of care in English law. If they are not, their responsibility for the appropriateness of your investments is limited. (this + a compensation system that does not align incentives is the reason your due diligence is so important!)
- What kind of experience has the advisor had, with what types of clients?
- What kind of performance has the AVERAGE account had? Why?
- Does this advisor pick mutual funds or individual stocks? If he/she is using 3rd party managers (including mutual funds or ETFs), what method does this individual use for selecting a manager?
- Ask the advisor what he/she thinks his/her job is for you. Is that what you’re looking for?
- Do you want someone to help you understand your investments when you have a question? If so, you might come prepared with a few test questions.
- Do you want someone to help you coordinate your tax and estate planning alongside your investments?
- Do you want someone that will communicate with you regularly?
I can think of many more questions to ask, and I may kick myself later because I forgot to include something vital, but the bottom line is this: You need to get a sense from your advisor that he/she has a genuine desire to help you figure out what makes sene, and will go the extra mile to understand the details of your situation. You need to know that this person is competent; and if they are not paid in a transparent manner, you simply need to know how to measure their compensation when they’ve given you advice. Since a commission-based advisor will be compensated differently for different investments, knowing what compensation is can be helpful in your decision making. Again, if your advisor is not a fiduciary, you really must be the one in charge, and it will pay dividends to ask questions.
Lastly, please do feel free to send me questions about a meeting with an advisor. I would be thrilled to help good advisors gain clients and poor ones lose them. You can do this confidentially through our website. Just click “Submit a Question”. You won’t be solicited and will get honest feedback. Just think of it as an insider on your side.