The kind of financial advisor you need - A Tip from The Skilled Investor
Good or bad, financial advisors are expensive. If you need a financial advisor’s help and you carefully select a good financial advisor, the value of the personal finance and investment advice that you receive might easily repay the advisor cost. However, bad financial advisors can cost you dearly, though both high financial expenses and poor investment strategies. How can you tell the difference between a good and bad advisor?
From The Skilled Investor’s scientifically-based point of view, it is relatively easy. Look for an advisor who will encourage you to:
- to invest in very broadly diversified (own the full, global market) securities that are the among the lowest cost available
- to steer toward passively-managed low cost funds and away from owning individual securities
- to resist every temptation to chase superior past performance and always stay passively invested
- to determine your risk tolerance and keep you at or below that level through your asset allocation
- to plan your cash needs several years out and keep you fully invested through calm and stormy markets
- to save, save, save until you have built up significant asset buffers that give you the choice of easing back
- to spend to meet needs over wants and to indulge wants when you are well on track in building up the assets you require to meet your family’s long-term needs
If you can find a financial advisor like this, then you are very lucky. Knowledgeable and competent financial advisors with efficient services can help you to formulate comprehensive financial plans, keep you on track toward your financial goals, and gently steer you away from foolish financial decisions. (See these articles on Selecting an Advisor and Regulation of Advisors)
If you are proactive and careful, learn what you are going, follow the general strategies above, find your own low cost no-load funds, and avoid stupid, emotionally driven actions, you can manage your money by yourself without an advisor. Many millions of people do. Unfortunately, the record of many other do-it-yourself investors is not encouraging, because they do not research what really works and does not work. Millions of individual investors do not diversify, follow uninformed instincts, futilely chase past performance, pay high fees for active management, jump in and out of the markets, do not save anywhere near enough, and do not plan ahead. These are the people who need good advisors.
If you need an advisor, The Skilled Investor strongly suggests that you only deal with financial advisors who charge you on an hourly basis or charge you a fixed fee for doing a well-defined financial plan for you. Advisors who charge you a percentage of your assets (fee-only) or who accept sales commissions or who charge you sales loads will be extremely expensive to you over your lifetime.
Unfortunately sales commissions and load and percent of asset fees are the dominant compensation models in the industry for stock brokers and investment advisors. It is very easy to overpay for financial advisory services. You can pay too much for your financial advisor via your direct fee payments and/or through the higher investment costs that you pay, which compensate your advisor indirectly. (See these articles on Payment of Advisors)
These forms of compensation might not seem expensive, but The Skilled Investor has developed an automated personal lifetime financial modeling tool and has run the numbers. If you pay industry average investment fees, these fees can drain your assets and cause you to run out of money years and even decades faster than you would using a low cost investment strategy. Industry average investment costs are very bad for you. Higher than average investment costs are terrible.
If your advisor does not aggressively seek to drive costs out of your portfolio, then he is not doing you any favors no matter what he says. If he says higher investment costs are worth paying, that is because this is how he gets paid, how he puts his kids through college, and how his company make money. Yes, you are the revenue stream.
When you decide to pay a fair price now for financial services out of your own pocket, then you have a much better chance of holding on to your assets and growing them so that you can live off your assets in the future. Instead, if you let your broker or advisor live off your assets too, the assets you need in the future will vanish much faster.
Many financial advisory fees and other investment advisor costs are charged annually as a percentage of your portfolio assets, rather than as a percentage of your investment returns. However, your assets are already “your” assets. If you pay a percentage of your portfolio assets to an investment advisor, then reasonably you might presume that this advisory cost will be recouped through increased return on investment. Sadly, the opposite is most often true.
Furthermore, you can over-pay repeatedly on a percent of assets basis. When measured on a percent of assets rather than percent of returns basis, advisory costs may appear to be quite modest. As a result, many investors never understand the true long-term impact of excessive fees. However, when calculated on a percentage of returns basis, advisory costs simply can be huge, and you keep paying these excessive costs year after year. (See: Excessive investment costs are a huge problem for individual investors)
You can overpay very substantially for advice, because the strategy advocated by your advisor is itself excessively costly and thus more likely to be suboptimal. Through ignorance or self-interest, many advisors lead investors into excessively costly and unnecessarily risky active investments, instead of counseling them to adopt low-cost, passive, index investment strategies. (See: Passive individual investors are “free riders” who benefit from the higher costs of active traders)
Advisors receive much more compensation from the industry to put individual investors into more active investments with higher costs. Some advisors’ planning services are just superficial facades designed to sell high fee active strategy products. If you do not pay your advisor directly, then the financial services industry will pay him to put you into investments that are more profitable to your advisor and to the industry, but not necessarily to you. Many investors do this unwittingly, because they are told that active strategies are better. This is just crap advice. Most often, they will pay the bill through poorer performance and higher visible and hidden costs over their lives. (See these articles on Controlling Investment Costs)
Comment by Dot
1 June 22, o'clock |
I’m new at investing for myself. I have retirement funds in TIAA-CREF, which I left in place when I left teaching. What would you recommend as a start for a true novice?
Comment by The Skilled Investor
2 June 22, o'clock |
Dot,
I suggest that you read, read, read. Concerning The Skilled Investor, read not just the blog, but the main website. Links to blog topics can be found in the left column under “Find more articles on these topics.” Click on “Visit our main website” in the left hand column.
Also, check out the other personal finance blogs in the “Best Blogs” section to the left. I put John C. Bogle’s blog at the top for a reason. I suggest very few investing books, because there is so much rubbish out there. John Bogle’s latest book is an exception. The title is “The Little Book of Common Sense Investing.” Buy it or park yourself in a bookstore for awhile.
Concerning TIAA-CREF they have a research institute with many articles worth reading. I have had a link to this institute in the links section of my main website for a long time. Go to the main website, click “Financial Web Links” in the upper right main menu, then select “Useful Investment Sites.”
Note that investment costs are a huge issue for individual investors. Lower is much better. Recently, TIAA-CREF merged its retail mutual fund classes into other TIAA-CREF funds with higher expenses. Pay attention to the expense ratios and decide whether you want to stay. See the “Controlling Investment Costs” articles on the main website in the center column. Since these are retirement funds, you can move them elsewhere, if you decide to do so, without incurring current tax recognition.
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