Unfortunately, anyone who can squeeze out a score of 70% on a relatively easy multiple-choice exam can be a financial advisor. Many practicing advisors have no formal education in finance or portfolio management. You should avoid these “professionals” in the same way you would avoid a “doctor” who never studied medicine.
You should also be cautious investing through individuals for whom investing is a secondary vocation. Such include bankers, insurance agents, planners and even some lawyers and accountants. Many of these individuals sell products with sales fees.
Below are some pointers to help you discern what type of help you need, and where best to get it.
Do you need an advisor for stocks?
Research and logic point to the ineffectiveness of active equity portfolio management in terms of stock picking and market timing. If you agree and have no concern other than long-term returns, the money you allocate to stocks might best be invested in index funds. You do not need an advisor to accomplish this. You may want assistance completing forms and executing your purchases; the good discount brokers and no-load fund families have staff on hand who will help you free of charge.
If you believe active management can improve your situation, perhaps for reasons of tax efficiency, capital preservation, discipline through volatile periods, or other goals well-served by hands-on attention, then hiring a registered investment advisor could make sense.
Do you need an advisor for bonds?
If you invest in bond funds, you do not need an advisor. As with stock index funds, any questions you might have about paperwork or finding a low-cost investment grade fund can be fielded by counselors at a discount broker or no-load fund family.
There are advantages to investing in individual bonds and CDs instead of bond funds. You can easily build a quality portfolio. But if you do not want the fuss of screening for credit and maturity, and you do not mind the sacrifice of income that will be absorbed by fees, you might prefer the services of an RIA.
What to look for in an advisor
Only consider fiduciaries
Ask RIAs you contact if they are fiduciaries. A fiduciary must act in your interest. Efforts must be made to ascertain your risk profile. The portfolio built must meet standards of suitability. If anything goes wrong with regard to conduct, inappropriate holdings or excessive fees, as long as the advisor professes fiduciary status you should have recourse.
A quick indicator that an advisor is not fiduciary is the presence of products that pay commissions. For instance if an advisor offers or recommends annuities, loaded mutual funds, wrap accounts, or third party portfolio management arrangements, go elsewhere.
Only work with portfolio managers
It is not prudent to pay twice for the same service. If you pay fees to an RIA to manage your money, you should not also pay mutual fund management companies or outside consultants to manage your money.
To judge whether or not an RIA is a portfolio manager, request a sample of holdings. If you see managed mutual funds, or hedge funds, or groupings of stocks with category names indicating outside management, drop this RIA from consideration.
The best RIAs invest in individual stocks and bonds. Some decent RIAs use index exchange traded funds and no-load index mutual funds.
Seek pertinent qualifications
To assess the intellectual qualifications of an RIA, ignore easily obtained credentials like the C.F.P. (Certified Financial Planner) or C.R.P.C. (Chartered Retirement Planning Counselor). The ability to temporarily recall seven of ten terms on a one-time test is not a skillset on which you should trust your assets. Your RIA should have studied finance at a high level. An M.B.A. (Master of Business Administration) with a concentration in finance is preferable. C.F.A. (Chartered Financial Analyst) certification is also a worthy designation.
Minimize fees
Drop from consideration any RIA who executes trades through a high cost institution. Fees for simply having an account, trading costs above $10, and the presence of B-share and C-share mutual funds are all signs of institutions, and RIAs, you should avoid. Only work with RIAs who situate your money at established, SIPC insured discount brokerages such as Schwab, TD Ameritrade and Vanguard.
Regarding fees to the RIA, similar to actively managed mutual funds, irrelevant past performance is often presented as an excuse to overcharge. The fee charged by RIAs who build portfolios of stocks and bonds need not be higher than 1% of assets. The fee charged by RIAs who use exchange traded funds and no-load index mutual funds should be far less, 0.5% of assets at most. If all other attributes are about the same, minimizing fees will work strongly to your benefit.
Compare
Most RIAs are excellent at describing what they do. It is easy to be convinced you have found the right firm at your first meeting. Investigate several RIAs before deciding.
Demand experience
In the markets, there is no substitute for experience. Be certain the RIA you hire to watch over your wealth has successfully managed portfolios through bull and bear markets, economic growth and recession, calm times and crises. Ask for detailed performance histories and sample portfolios. Even if all other attributes line up nicely, in the end results are what matter. Remember, you can always opt for index funds.
Consider robots
If you agree index funds and cost minimization are best, but you want help determining an appropriate asset allocation and seek confidence your money is properly put to work, a robo-advisor might be a good option. On a robo-advisor’s website, you provide information in the same manner you would sitting with a human advisor. The robo software takes your information, determines a risk appropriate portfolio, and invests your money in that portfolio.
Robo-advisors are not necessarily free or completely benign. They usually charge a fee. Some do not utilize low cost index funds. A few robo-advisors are merely mechanisms to bring assets into a particular firm where salespeople can then push commissionable products.
Thus, if you decide robo-advisors are right for you, shop around. Make sure your chosen platform uses only low-cost index funds, whether ETFs or no-load mutual funds. Minimize your fees; you can easily find platforms in which the combined fund and robo-advisor fees total less than 0.5%.
Some discount brokers such as Schwab have added robo-advisors to their lineup. Betterment and Wealthfront are independent robo-advisors also worthy of consideration.