Yesterday I linked to an article from William Bernstein in which he explains why he no longer thinks that most people are qualified to succeed on their own in the realm of investing. He believes that most people need to hire help.
I’m not sure (yet) whether I agree or disagree. But I do want to point out that if the two options you’re considering are:
- Do it yourself, or
- Have an advisor make the decisions for you
…then option #2 is probably at least as bad as option #1. You cannot go meet with a financial advisor and assume that everything will work itself out.
Why? Because as likely as not, you’ll get somebody who doesn’t know what he’s talking about. You absolutely must educate yourself about investment principles beforehand so that you can evaluate an advisor’s competence.
Selecting an Advisor
If I’m in a new city looking for a car mechanic, my goal is generally just to find somebody who I think I can trust. With financial advisors, however, trust is not sufficient.
Yes, trust is essential. But it’s not sufficient. You can find plenty of financial advisors who really do have your best interests at heart, who really do believe in what they’re saying, but who are still going to give you poor advice. I know this because:
- I used to be one of them, and
- It was very clear at the time that my limited knowledge about investing was significantly larger than that of most of my coworkers.
My advice is to educate yourself first. Take the time to read a few books. Then develop a list of specific criteria that you will use when evaluating a potential advisor. For example, Bill Schultheis (author of The CoffeeHouse Investor) suggests the following two requirements:
- Fee only (as opposed to commission-based compensation)
- 100% passive in entire portfolio.
To those I would add a few of my own suggestions:
- Ask what the advisor sees as the primary purpose of his/her service. (If he/she says anything at all about helping you earn above-market returns, it’s time to keep looking.)
- Make a list of the fees you’re aware of. Then ask “Is this everything?” Repeat until you’ve been explicitly told that your list includes all of their fees.
- Ask a few test questions simply to try and determine the advisor’s level of competence. For example, you might want to ask about his views on market efficiency or asset location.
[Quick note: If you're looking for somebody who will help you with your entire financial picture rather than just your investment portfolio, there's a whole slew of additional considerations. For the moment, I'm speaking only to the question of finding somebody qualified to advise you on your investments.]
Great guy, or great advisor? You need to know the difference.
It’s not enough for an advisor to show the he cares about you and your goals, and it’s not enough for you to use an advisor rather than bothering to learn about investing. You must have a decent amount of background knowledge so that you can determine whether or not an advisor is demonstrating an acceptable level of professional competency.
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{ 3 comments }
I am the kind of guy who will literally never change my own oil (although I proudly changed a light fixture the other day). Its not that I am unable to learn, I just won’t. There are those that will literally never understand investing (even if it is Oblivious Investing strategies you highlight in your must read book), and for those an Advisor is 100% necessary.
Notwithstanding the above, your assesment of what to ask an advisor is great! RUN FOR THE HILLS if your trusted, great guy advisor says I am here to get you double digit returns every year. Rather a proper answer would be, along the lines of “understand your goals and risk tolerance and build an appropriate portfolio. ”
Great post
Agree – education first
1) If you are going to go with 100% passive investing, it seems ridiculous to pay a fee to an advisor to get help with selecting ‘appropriate’ passive investments.
2) Agree that you want to ask pertinent questions of advisors. But really – how tough is it to diversify with passive investing? Keep those fees for yourself. Why add to market underperformance [assume = performance minus small fees paid to managers of those passive investments] with extra fees?
3) I still believe those financial ‘pros’ are not aware of enough different investment ideas. They, like you were, are too under-educated to truly help clients.
I think it is the investing advice we give people that needs to change. When we give sensible and effective advice, it will make sense and it will stick. I share Rob Arnott’s view that the conventional investing advice of today is rooted in “myth and urban legend.”
Rob
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