Determining a Financial Advisor's Value to You

What is the biggest challenge facing investors today? Interest rates? Politics? High valuations in the stock market? Though perplexing, I’m going to suggest that none of these presents a bigger challenge than this: Who is the best advisor to help accomplish your financial goals?

On Wall Street and Main Street there are brokerages, insurance companies, banks, mutual funds managers, accountants and independent advisory firms. All of them employ charming people who would love to help. Confusingly, there is not a lot of uniformity in the products or services they offer. Even worse, the fee schemes range from reasonable to outrageous.

For an individual, the fee structures they encounter can seem almost random, dictated by who they ask to help and the provider channel. There is a retail/wholesale structure that operates in layers of sales commissions, transaction fees and product expenses. The exact same product can be offered with several different pricing schemes. Often, smaller purchases impose higher costs, while larger buyers enjoy substantial discounts.

Good News for Investors

There is some good news, though. A recent study by the Russell Investments organization entitled "The Value of a Fiduciary Advisor Reaches 4% in 2017" affirmed the ongoing value of a quality advisor. This study (the fifth in an annual series) pegged the value of a fiduciary advisor at 4% each year. The research methodology determined five areas where advisors added value:

  • Selecting investments (0.33%)
  • Financial planning (0.75%)
  • Tax planning (0.8%)
  • Portfolio rebalancing (0.2%)
  • Helping clients avoid behavioral mistakes (2%)

These are all important for investors. Some advisors are probably better suited for some of these areas, but this research included an important distinction: fiduciary advisors operate under a specific set of rules different from many other industry providers. More on that in a minute.

Financial Advisor Value Is More Than Good Investment Choices

Truthfully, many clients and advisors wrongly focus on good investment choices as the sole measure of value. Yet in many cases, softer skills are more important. Identifying special needs or making smart tax choices can bring way more to the bottom line than choosing a solid stock or mutual fund. In the same vein, a good mutual fund isn’t much help if the very next market dip scares you out of the stock market! (For related reading, see: What Do Financial Advisors Do?)

In quantifying the value at 4% each year, the study offers powerful insight. Many investors worry that professional advisory costs won’t result in better outcomes. This research puts an actual number on the value arrived at through better outcomes and lower risks. Four percent is a substantial annual reward for hiring quality help.

Two notable fiduciary rules prohibit sales commissions and require ongoing attention. Among providers, you are most likely to encounter a fiduciary advisor in the trust department of a bank or in a registered investment advisory (RIA) firm. These groups tend to be discretionary investment managers, and financial planners likely belong to the National Association for Personal Financial Advisors (NAPFA). Often, fiduciary advisors charge fees for specific services or an annual percentage of portfolio assets (often around 1%).

Non-Fiduciary Advisors

Non-fiduciary advisors can add value in all those same areas. But it helps to consider how commissions or other practices might impact client value. For instance, portfolio rebalancing or behavioral coaching depend on ongoing client contact. But a sales-oriented broker or insurance agent may not monitor the portfolio or stay in touch during turbulent times. Obviously, a 3.5% up-front sales commission would offset much of the 4% annual value, but there’s also no assurance they’ll provide continuing service in all key areas. 

In similar fashion, custom financial and tax planning advice requires considerable information. To do it right requires deep client knowledge, expertise, and considerable time. But the necessary time may not be productive for a commissioned advisor. Spending hours studying old tax returns or trade confirmations doesn’t put food on their table. Nothing against the advisor, but structure and practice can create serious barriers to client value. (For related reading, see: Blurred Lines: Whom Can You Trust for Financial Advice?)

Fees Take Away From Advisor Value

Other costs play a big role, too. Some advisors offer proprietary investments or mutual funds. Sometimes those products impose rigid and costly fees. If the annual expense ratio on a mutual fund or unit trust is high, that works against any other value the advisor might bring. If those products impose sales commissions, too, it’s going to be very hard to overcome that barrier.

In fact, any investment or financial costs will work against other values the advisor might bring.

One last observation. Although a lot of advisors are charming, not all of them are especially talented. That’s true just like every other profession. It is worth a special mention here, though, simply because less talented advisors will struggle against some overwhelming barriers and their clients will bear the costs of failure.

The main benefit of this research is it offers one benchmark to help identify quality advisors. It identifies five broad factors bringing long-term value to an advisor relationship. It helps solve the biggest investment challenge today: Who is the best advisor to help accomplish my financial goals?

(For more from this author, see: For a Little Extra Green, Hire a Financial Advisor.)