Another great question from a reader.
Let’s be honest, it’s what we’re all thinking.
It’s one of THE most important questions when it comes to financial advice.
So is hiring an adviser worth it?
My answer might surprise you.
A friend of mine is a top banker and considers himself a sophisticated investor.
He often asks me if I believe hiring an adviser would enable him to earn more (net of all fees) than if he avoided any advice and invested on his own.
The answer is, of course, it depends.
But on what exactly?
To my mind, there are 7 key factors.
1. The type of adviser
I often explain not all ‘advisers’ are created equal.
Many are transactional salespeople selling commission-laden products.
Some vend investments, structured products in banks, discretionary investments from well-heeled ‘names’ and other expensive investments or trade ideas that ultimately don’t work.
It’s probably not unfair to say that much of the traditional money management business has been an abject failure pretty much across the board.
(Even for the mega-rich).
Poor investor behaviour makes dreadful performance even worse.
People buy and sell too often, at the wrong times and into the wrong instruments.
We chase returns via managers, sectors and trades that have been ‘hot’…
Only to be disappointed when mean reversion inevitably sets in.
Our inflated expectations make matters even worse because investors expect outperformance as a matter of course and investment managers tell everyone to expect it, implicitly and explicitly.
After all, that’s what makes the sale…
Erroneous priorities include a failure to manage personal needs, goals and risk tolerances as well as ‘plans’ that change with every market movement.
It shouldn’t surprise anyone that clients with huge appetites and tolerance for risk when markets are rallying frequently want to get out at the first sign of trouble.
Much of what tries to pass as financial advice is actually glorified (or even not-so glorified) stock-picking.
Chasing the needle in the haystack.
In my experience, many ‘advisers’ (salespeople) and their clients wrongly think their primary function is to pick good investment vehicles.
This isn’t to say these people aren’t nice human beings.
While they’re almost all charismatic, likely kind to dogs, have impeccable personal hygiene and lovely children…
They’re not necessarily looking out for YOUR best interests.
You may think they are providing unbiased financial advice, but they are actually brokers making oversized commissions by selling insurance or investment products.
However, a viable alternative does exist.
A rare few are fiduciaries who are highly qualified and charge fees.
This tiny subset is legally required to put your interests ahead of their own.
Why does all this matter?
Because expats typically inhabit shark-infested waters and choosing the wrong type of ‘adviser’ can certainly do far more damage than good.
2. The type and level of fees
We’re used to paying more for better products.
But, with investing, the less you pay, the more you get to keep for yourself.
An unconflicted, fee-based adviser should focus on this.
And show you the substantial savings and value-added benefits it brings.
That is a counter-intuitive message, and people find it very difficult to fully understand.
Put another way…
Chances are, right now, you are probably paying MORE than you THINK. It’s highly likely you could pay far less AND get better returns, products and services than you currently are.
This is where the value comes from.
Assuming you agree that fee-based advice (fiduciary) is better than hidden commissions (salesperson), it should be easier to quantify how much an adviser is charging for their services…
But internationally, it isn’t.
One ‘fee-based’ adviser here in Dubai charges a 1% advice fee but sells their own expensive investment solution inside yet another product…
Private banks often charge 0.5% for advice but excessively load up on hidden charges…
A multitude of different charging models, fees, kick-backs and incentives exist.
It’s not just the advice fee but the total annual charge which represents the real hurdle any adviser’s services will have to overcome to make your engagement worthwhile.
For this reason, it’s often life-critical that anyone considering hiring an adviser should FULLY understand how they’re charging for services and translate all of the fees into dollars and cents.
If an adviser is charging a percentage of assets annually, a recurring subscription fee, or a per engagement or hourly fee, it’s easier to come up with an annual dollar outlay for the advice.
But it’s the bottom part of the ‘priceberg’ and total annual cost that matters.
If the adviser is charging any other way, such as by putting you in commission-based products, your total outlay may be even more opaque.
There’s no single right way to pay for financial advice but weighing up the cost of any advice as well as the total cost of the solutions you get is a good start.
This chart below shows the high advice charges of high-street names but fails to illustrate the total annual costs involved which is often MUCH higher:
Always, keep the total all-in costs involved with investment and financial advice below a maximum of 2% p.a.
A sensible breakdown for this may broadly comprise anything up to:
- 0.5% for investment advice and management
- 0.5% for advanced financial planning
- 0.5% for underlying fund costs
- 0.5% for custody, dealing and administration fees
The problem here is that people generally don’t understand how much they pay (in total) for investment and aren’t used to getting any tangible advice.
For example, a typical mutual fund may have an annual management charge of 1.5% but cost over 2%.
With product charges, advice and administrations costs; things add up and eat away at your returns, like termites.
3. The breadth of advice on offer
This is a huge swing factor.
‘Real’ financial advisers tend to fall into one of three buckets:
- Those whose primary focus is managing a client's investment portfolio
- Those who focus primarily on financial planning
- Those who emphasise both areas (comprehensive planners)
While the wrong ‘type’ of adviser can be detrimental to your financial health, the right ones can be worth their weight in gold.
According to Vanguard, whose mutual funds manage $5.5 trillion and who made its name catering to DIY investors, investment advisers (of the right type) can increase their clients' investment returns by 3 percentage points or more.
They even quantified it:
- Lowering expense ratios: 45 basis points (0.45%) back in your pocket
- Rebalancing portfolios: 35 basis points (0.35%) of increased performance
- Asset allocation: 75 basis points (0.75%) of increased performance
- Withdrawing the right investments in retirement: 70 basis points (0.70%) in savings
- Behavioural coaching: 150 basis points (1.50%) for serving as your practical psychologist
The grand total: 3.75% of added value
Put another way, if your account rises 7%, and the services of an investment adviser increase that to 10%, your adviser is increasing your returns by 43%+!
However, Vanguard’s Adviser Alpha Study was limited to investment results.
Other studies showed the right type of adviser could also demonstrate their value through the use of smart ‘Beta’ or evidence-based investment philosophies.
In their research paper, “Alpha, Beta, and Now...Gamma,” Morningstar’s David Blanchett and Paul Kaplan attempted to quantify how much value advisers can add with services other than asset allocation and security selection.
Planning opportunities such as tax mitigation, wealth/asset structuring, life planning through cashflow analysis and behavioural finance provide a greater opportunity to maximise value.
Advice on credit such as Lombard loans, mortgages, employee benefits, insurance and state planning offer even more.
Their research demonstrated that a retirement plan encompassing these “gamma” factors was able to generate an income level at least 20% higher than a retirement plan which didn’t.
On the other hand, the level of fees may be higher to begin with if the adviser is offering advanced financial planning.
This is why it’s so important to understand exactly how and what you’re paying.
Of course, the specific benefit derived from any financial plan will vary from individual to individual.
4. The adviser’s skill level
An adviser offering a broader range of services like those above, will have more opportunities to add value than one with a narrower focus.
It’s pretty intuitive.
Trouble is, many advisers say they offer a broad range of financial planning services.
But it’s hard to know which ones are truly skilled in a variety of areas…
And which ones are merely paying lip service to the idea of being holistic and comprehensive?
Larger firms may seem to offer an advantage with their broad range of experts, including tax specialists, investment experts, estate planners, etc.
But if you’re attracted to the idea of a smaller firm or a solo practitioner rather than a ‘big shop’, the chartered or certified financial planner credential is a signal that the adviser has studied, completed and been tested on a broad range of financial planning issues.
That concludes part 1 of this series.
Part 2 will be published in a few days.
So, if you haven’t done so already, subscribe to our blog to receive it straight to your inbox.
I hope you found this insightful.
If you have any questions you’d like us to look into, feel free to leave a comment.