It was raining. Nothing torrential; more like gentle spitting rain. This was last month, December, and accompanying the rain was the cold. It was chilly outside, moreso as Hiker Friend and I made our way up a small mountain (there’s no shortage of these geological marvels in the Pacific Northwest).
The higher we climbed, the deeper the purple shade of my hands. Ach, so what, I thought. So what if my extremities are being drained of blood? If my fingers are becoming stiff and immobile? Small price to pay for being outside, in the forest.
Forests are amazing. Losing your self (or finding your self) in nature, craning your neck to gaze up the length of 150 foot tall Fir trees, being mesmerized by sounds of gurgling water flowing through narrow creeks, smiling at the sound of harmonies sung by Robins, Finches and Stellar Jay birds, and all the while chatting with Hiker Friend. We shared thoughts and ideas, discussed the happenings in our lives, the good, the challenging, the downright mind boggling hold your head and run away screaming, and the not so trivial matter of whether feeling would eventually return to my fingers. Gloves, we both agreed, would be useful.
That’s the way it is with friends. You listen to each other, you share stories, you connect, empathize, sympathize, support, joke around and laugh. No airs, no trying to be a certain way, no costumes, no masks. You get to be your self, your whole self, and you get to be accepted for who you are. Unconditional acceptance, letting people be as they are, not trying to bend anyone in your direction … this feels good, feels right, and it’s a recipe for minimizing needless conflict, leading to more happiness.
We need friends. They keep us healthy. They enrich our social/emotional life. They give us financial advice? They …
What? Excuse me? Pardon? Huh? Did you say financial advice?
Whoa! Guess I got carried away there. Friends and money, it’s a difficult topic for most, similar to religion and politics where it’s best, for the sake of the friendship, not to go deep, or even not to go there at all, if you are not of like minds. If you do want someone to bounce ideas off of, or someone to guide you through the crowded financial arena, then it’s best to hire someone in the business.
Financial Advisors Are Not Your Friend
First off, let’s get something straight. A Financial Advisor (FA) is not your friend. A FA is, or should be, a professional money manager, someone with whom you have a business relationship, someone who provides objective advice when looking out for your best interests AND making money for you.
Why am I insisting that a FA is not your friend? Because I’ve known too many good people who pay good money for the services of a FA who doesn’t get the job done. These good people complain of poor portfolio performance, shrinking nest eggs, delayed retirement owing to investment losses … but refuse to end the relationship.
Instead, they choose to grin and bear it, to shrug, to suggest there is nothing that may be done to improve the situation (Hello? Hello? Keeping your head in the sand only serves to make the problem bigger). When, trying not to show my exasperation, I ask why they don’t end ties with FA, the most common response is, ‘well, he/she is a nice person and they are doing their best’. Agh! Really? Really?! Come on people, time to step up and take the reins.
You have entrusted someone to care for you and your money. This money represents your financial security, mortgage payments, children’s education, future retirement, financial freedom.
If you and your money are not properly cared for, not properly nurtured, then you suffer, your family suffers.
Though he/she may be sympathetic to your loss, the FA will not otherwise suffer. In fact, no matter how poorly your portfolio performs, the FA earns money from you. For performing poorly at his/her job.
Though you may rightfully extend empathy, the FA is ineffective and, as a result, is causing you harm. Your primary responsibility is to remove your self from harm’s way, to care for your self and your family.
Well said, oh wise BuddhaMoney.
Here’s the takeaway: Do not, under any circumstances, make your relationship with FA personal. Recognize the boundary dividing personal and business, and don’t cross it. And if FA is not doing the job they were hired to do, then for your sake, for your family’s well-being, end the relationship.
Should You Hire a Financial Advisor?
The most common reasons why people hire a FA include:
- No time to manage investments.
- Would rather pull your own teeth than spend time thinking about investments.
- Lack confidence in ability to choose suitable investments.
- Believe that someone else will do a better job than you.
- Not being taxed with the responsibility translates to less stress, more balance.
For those of you who tick the box next to one or more of the above worthy reasons, then a FA or a Robo-Advisor (welcome to the 21st century – keep reading, more discussion and explanation follows) may be suitable for you.
If you do choose to hire a FA, please, please, please take your time, be cautious, and do your homework before hiring someone to care for your hard earned life savings. Like any occupation, you have good and bad apples. Unfortunately, the FA occupation has ridiculously low entry hurdles as far as background, education, and credentials are concerned. So, in the FA universe, you have qualified FAs working alongside poorly qualified, and are-you-kidding-me-you-don’t-even-know-how-to-button-your pants-unqualified FAs.
My Unfortunate Detour Into the Financial Industry
For a short period of time, some years ago, I worked as a FA for one of the largest North American financial institutions. Measured in months not years, my stay was short for two reasons:
- Corporate culture and I do not fit.
- First and foremost, FAs are salespeople.
I would have walked off the path sooner had I been quicker to understand that without sales skills you do not survive in this industry. Having suffered through the training process, I can tell you that the bulk of your time is spent being trained in sales, understanding what pushes peoples emotions, and how emotions affect financial decision-making.
Now, let me be clear here: I am not denigrating those who sell products/services to earn a buck. When you think about it, in our consumer society we all sell products or services, in one form or another, to varying degrees. So, ‘selling’ in itself is not an issue. Rather, the issue is that the financial industry can be less than forthright (i.e., mislead, obfuscate and lie) about what they are selling.
For anyone who has watched the movie, The Big Short – https://www.netflixreleases.com/big-short-2015/, or read the book (I strongly recommend the book, much more informative, just as engaging as the movie) you know that the industry has a history of irresponsibly packaging and selling financial products that, for the most part, benefit only the salespeople and their financial institutions.
Take mutual fund fees as an example. A FA who makes their living on transaction fees (i.e., money earned on every purchase and sale of a security), may want to place clients in a mutual fund instead of an index fund. Why? Because they earn much more money from mutual funds.
Here’s how Mutual Funds work:
- Mutual fund company charges a management fee.
- This fee is listed as a Management Expense Ratio (MER).
- Charging a fee is to be expected. People should get paid fair value for their work. No problem there.
- However, what most people don’t know is that the MER is shared with the FA. So if the MER is 2.5%, then FA typically receives 1.25%. Basically, it’s a kickback. So the more client money invested in the Fund, the more FA earns.
To use a dollars and cents example, lets say FA has $1 million of client money invested in Mutual Fund. Based on an MER of 2.5%, this $1m generates an annual fee of $25,000, half of which is paid to the mutual fund company for managing the Fund, the other half paid to FA for placing client in the Fund.
Now, after a few years working as a FA, you’ll have about $40m of client assets under management. If you don’t reach this magic number within a certain time frame, you’re fired.
If FA is managing $40m, and that $40m is in Mutual Funds charging 2.5% MER, then FA is collecting $500,000 every year (the other half million is paid to Mutual Fund company). Wow. Just for steering their client toward the Mutual Fund and making sure they hold it, FA sits on his/her ass and collects half a million bucks every year.
Compare the Mutual Fund MER to an Index Fund, that typically has an MER of between .10% (which would equal an annual payment of $20,000) and .60% (which would equal an annual payment of $120,000), and you see why FAs are chomping at the bit to place clients in Mutual Funds. And why not, this would earn them more money.
Right. Why not? Well, how about something called ethics? How about this seemingly dated notion called duty to the client? Here’s what is outrageous about the industry: the absence of a legal obligation on the FA known as a Fiduciary Duty.
Fiduciary Duty is legal mumbo jumbo for, ‘FA has no responsibility to place their clients interests ahead of their own’. In other words, what is most important is that FA earn a living off client’s money. Client’s interests place second.
Go ahead, read that part again. Now for those of you who are not sufficiently incensed, let me be more clear: if FA chooses to ratchet up his (for better or worse, likely worse, the industry is overwhelmingly testosterone based) take home pay by placing clients in high MER mutual funds primarily to make more money for himself, that’s okay. Legally, absolutely nothing wrong with this.
I recall watching two FAs high five one another after sharing the news of how much money one of them made on a $250,000 mutual fund purchase. There was no talk about the merits of the Fund or the suitability of the Fund for the client. It was all about the money earned by FA.
Greed. When one feels hollow within, there is the effort to fill your self with stuff, including money. The effort will fail because whatever you accumulate remains outside; it does not enter within. To become full, one must seek solutions within.
Not all FAs place their own interest ahead of their clients. But too many do. Ultimately, it’s the industry that must shoulder responsibility since heavyweight corporate players are the ones who have the heft to fight against, and prevent, adoption of an across the board Fiduciary Duty.
Regardless of who should bear responsibility or what legal obligations are placed on FAs, as an investor, you would be wise to take matters into your own hands. This means informing your self, educating your self, learning how the game works. And if you have any doubts, well, that’s what BuddhaMoney Posts are here for, to guide you down the path that is best for you.
Golden Rule of Investing: Protect Your Self
Like I said, there are good and bad apples everywhere. And despite the somewhat negative portrayal of FAs (hey, I’m calling it like I know it and see it) in the preceding paragraphs, there are good FAs out there who will compassionately and honestly care for your money. That said, if you hire a FA, protect your self by starting with the following:
- Remember that you’re the boss. FA works for you. Do not be ‘sold’ on their ideas without fully understanding what they want to do with your money. A good FA will take time to explain their decisions and will not proceed with any investments if you are not comfortable.
- A good FA will place your interests ahead of his/her own. They will act as if a Fiduciary Duty does exist.
- Insist on full written disclosure of all fees on a monthly basis.
- Starting premise: only Index Funds will be held in your portfolio. If FA wants to add mutual funds, stocks, bonds, etc, have them explain to you, in exhausting detail, how and why these will benefit your portfolio.
- If fees are charged as a percentage of the portfolio, negotiate this fee. Shop around and compare fees; see what the competition is charging. Typical annual FA fee equals about 1% of total portfolio value.
- If your gut is telling you that FA is not the right person to care for your life savings, then end the relationship and move on.
Save Yourself the Hassle: Hire a Robot
Which do you choose?
HUMAN ADVISOR, replete with human frailties working within a regulatory system that facilitates unfairness.
What? A machine will manage my money?
Okay, let me back up here.
In an attempt to capture internet savvy consumers demanding lower investment fees, Robo-Advisor was created.
‘Robo-Advisor’ is a term used to describe automated, algorithm based investment advisory services.
Robo-Advisors are kind of a middle ground between do-it-yourself investors and those who use a FA. It’s a middle ground because Robo-Advisory services offer a combination of automated online (and through apps) and personal (i.e., human) online guidance. Though one size does not fit all when it comes to investing advice, beginning investors and those with somewhat uncomplicated portfolios may be best suited for the Robo-Advisor option.
As more financial institutions offer Robo-Advisory services, more people are turning away from the animal known as Human Advisors and entrusting their investment dollars to Robots.
- Efficiency. All business is conducted online.
- Lower Fees. Generally, half of what a traditional brokerage will charge, partly because the financial institution does not have to pay for a legion of FAs to sell products (the primary reason why human advisors are on the path to extinction; fewer employees, more automation, means higher corporate profit).
- Client First. Client’s financials interests always placed first.
- Fully transparent. Online access to current list of all fees.
- Convenience. For those who are comfortable cozying up with the Internet (statistics show that more than 60% of Robo-Advisor clients are of the Millennial Generation), access and manage your accounts 24/7.
How Robo-Advisor Works
First, Robo-Advisor gets to know you by asking questions related to your current savings, assets, investment goals, details of any mortgage, loans or other debt, children, education costs, charitable giving, etc.
Second, questions related to determining your investment risk tolerance and investment time horizon (i.e., when do you expect to draw money out of the account).
Once you’ve provided Robo-Advisor with all relevant information, numbers are crunched, your profile is sketched, and a portfolio comprised of Index Funds is recommended. After your money is invested, Robo-Advisor monitors your portfolio and automatically rebalances assets to target allocations.
Who Are These Robo-Advisors?
The independents got the game running. Currently, the two leaders in this space are:
A little later, financial behemoths adopted the technology:
For Canadians, there are two large blue chip institutional options:
… and several independent companies, such:
Other players who recently entered the Robo-Advisor space or intend to do so in 2017 include:
- Wells Fargo
- Bank of America
- Capital One Financial
- US Bancorp
- TD Ameritrade
Recent Robo-Advisor acquisitions of independents by large financial institutions include:
- Fidelity acquires eMoney
- BlackRock acquires FutureAdvisor
- Northwest Mutual Insurance acquires LearnVest
- Invesco acquiring Jemstep
- UBS acquires SigFig.
Robo-Advisors are the future of money management. If your future is now, when deciding whether to choose an independent or an established financial institution, keep in mind that some independents have been swallowed up by large financial institution (see above) who prefer to move into the Robo-Advisor space at potentially less cost and time than would be incurred if they built their own.
My guess is that, in the next five years, more independents will cease to exist, either because they don’t attract sufficient business to turn a profit or are acquired by deeper pocket financial institutions.