It's no surprise that your pals might want you to manage a couple of bucks for them. If you're talking about your investing strategies—and showing signs of success—you've now become the go-to guy (or girl). These days, money talks and people who understand financial planning are getting a lot of respect, as young people realize there's more to investing than they once thought.
So if you talk the talk, people who know you might view you as a very valuable commodity—a free money manager. All too often, the person asking you to invest his or her money is the person who knows a little something about investing, just enough to get into trouble. So why not take advantage of your financial knowledge? After all, if you're nailing double-digit returns this year, why couldn't you repeat the performance year after year, right?
- When starting a financial advisory business, it can be difficult to get your first set of clients.
- It may be tempting to start managing money from your friends and family, but beware the negative side effects that can emerge from doing so.
- If you lose your friend's money or if they even have to take legal action against you it can result in more than just a ruined friendship.
- Instead, refer friends to other professionals in your network and educate them on personal finances.
The Problems with Investing for Close Others
You may think that investing for someone else is just a way of helping out, but the thing is when you start investing for other people, particularly your friends, you enter a world of complications that you might not have foreseen when you started out.
That friend of yours, the one who thinks that your 35% returns this year are going to happen next year as well, might be in for a nasty surprise when your picks make next to nothing. When you invest for friends, you have to deal with unrealistic expectations that can really put a damper on a relationship.
If your friends want you to invest for them, they likely don't understand all of the risks involved with investing, including not quite meeting the investment goals that they may have been projecting.
Not meeting a friend's investing expectations could jeopardize your friendship, but falling short of your friend's projected returns could be a best-case scenario. When things go wrong, making some money is a lot better than losing money, which isn't an abstract concept for anyone who invests actively. When you bring money into a relationship, things can get uncomfortable pretty fast, especially when that money is hemorrhaging out of an investment account.
Do you tell the friend to suck it up? Do you repay the person out of your pocket? Do you try to make up the difference with new picks? Really, there probably isn't a good way to deal with losing a friend's money and you should consider this risk before you agree to invest for anyone.
By managing a friend's money, you may be breaking the law. Investment professionals must be registered with the Securities and Exchange Commission or have a federal license. They are heavily regulated by the government and by trade organizations like the Financial Industry Regulatory Authority (FINRA) for the protection of consumers.
If you invest for a friend for compensation, you could be breaking laws that are in place to protect investors from people who aren't qualified to have discretionary control over others' accounts.
Short End of the Stick
OK, so you're not getting paid for your efforts. If that's the case, you still have to consider whether or not your friend is taking advantage of you. Helping out a friend is nice, but when that help consists of making significant amounts of money for that person and getting little or nothing in return, you might be suffering from an off-balance relationship.
What You Can Do for Friends
Now that I've taken the wind out of your sails, and your friend's as well, there are things that you can do to help your friends' investments without burdening yourself with the substantial responsibility of investing someone else's money. One of the best ways to lend a hand is to help teach your friend about investing.
Help Them Learn
There are a lot of pitfalls out there for new investors. If you're lucky, you've been able to avoid quite a few of them or you learned how you should have gone about avoiding them.
The benefit of your experience can be one heck of an asset to pass on to a friend and it won't cost either one of you personally or financially. Therefore, if you want to help your friends, work with them; show them how to analyze a financial statement, how to execute a trade online, how to look up business news, or how to find online resources.
At the same time, there is a popular way to invest hands-on with friends without taking on the responsibility that an investment advisor would feel for a client—the investment club. The investment club consists of a group of people who vote to decide whether or not to buy or sell their group-owned investments. Investment clubs are great because they allow a more personal approach with actual investments than just helping someone with investing concepts. These clubs will also give you a vested interest in the performance of your friend's portfolio.
If you're interested in starting an investment club, there are plenty of resources available, ranging from your broker to the internet. It's important to recognize that an investment club isn't just a couple of people who want to invest together—it's a formal (and legally defined) organization with members who have an equitable claim to the assets. This means you should look into the rules and laws that govern investment clubs where you live before joining or starting one yourself.
The Bottom Line
Investing for a friend usually isn't worth the amount of trouble it can cause. Money just isn't something you want to bring into a good friendship. In the end, by helping your friends invest on their own, you'll be doing them—and yourself—a much bigger favor.