Wednesday, October 2, 2013

Financial Advisor or Do It Yourself?

The debate about whether you are better off to seek financial advice from paid advisors or to do it yourself (DIY) rages on. Both sides make good points, but they don’t exactly address the same issues.

Advocates of financial advice point out that most people just don’t have the knowledge to properly invest their own money. Even those with the right knowledge tend to make emotional mistakes that lead to portfolio destroying buy-high and sell-low behaviour. This is all true.

However, the majority of investors who seek out a financial advisor will not get the good advice they need. There are great financial advisors out there, but there are more mutual fund salespeople who have little investing knowledge beyond understanding that they need more assets under management to earn enough income to pay their bills.

DIY advocates say that a basic indexing approach is simple and easy to implement and will outperform the majority of investors. This is true. I do this myself and find it quite simple. The most challenging part is to avoid making emotional decisions in volatile markets.

However, discussions with many investors have persuaded me that most people will never handle their own portfolios successfully. Many won’t try out of fear. Others will chase performance in mutual funds. Some will take wild chances on a small number of individual stocks as I did earlier in my investing career.

This all leads to a somewhat depressing conclusion. Despite the fact that investing successfully can be simple, the majority of people need help, and the odds are that they won’t get good help even if they seek it.

In the end, I think asking “financial advisor or DIY” is the wrong question. A better question is how do we fix the current investing landscape? I see two possible routes. One is to take the choice out of people’s hands to some degree by expanding the government’s role, perhaps by increasing CPP deductions and benefits. Another possibility is to drastically change the rules under which financial advisors operate. Making them meet a fiduciary standard would be a great change. Many investors would be shocked to learn that their advisor is not required to act in their best interests.

16 comments:

  1. There's another angle I've seen - some people try a financial advisor, get bad results (or get put in an inappropriate account where they can't use the funds for their stated goal), and conclude that all investments are a scam. Fixing the system is much harder than profiting from it.

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    1. @Richard: "Fixing the system is much harder than profiting from it." Very true. A goal of mine is to figure out how I (and my extended family) can avoid those who are trying to profit from us.

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    2. I believe ING's funds are a good solution for people who know and trust you..Unlike the e-Series funds, they actually make help available. I haven't seen what their service is like for their mutual funds but anyone who can fill in a form online should have little trouble using their products, and they remove the risk of unbalanced asset allocation decisions. You might need to help transfer assets from another account if required initially. Otherwise it seems like the easiest of the safe options.

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    3. @Richard: I can certainly believe that ING makes it easier for their customers than TD does. A down side is that ING's funds are pricier -- MERs just over 1%. That's cheap compared to other mutual funds, but expensive compared to other indexing options. ING would have to offer significant guidance to their customers to make up for the added cost.

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  2. I agree and disagree with forcing working Canadians to contribute more to a CPP that later paid out more. (in a perfect world) In fact I was reading just lately that some country somewhere overseas forces their citizens to do so and it works out pretty well.

    My concerns :

    1) The government never seems to do anything efficiently.

    2) At the mere mention of this a few yeras ago a little catfight ensued between Mr. Flaherty and the big Fund companies protecting their golden goose (Geese?). After some back and forth politicing, there was talk of them working together. (=High fees + questionable return) Like a private / public partnership. I'm not convinced that will work out.

    3) I would want to see Vangaurd (US) like fees on a fund like that. (0.07%) If they can do it then so could 30+ million people contributing to a government fund.

    In reply to your general question I would hope all people could construct a simple "couch potato" portfolio up. You might not get all the potential that a Fee only advisor could bring. But you will probably do just fine just keeping a steady plan going. Then you don't pay some guy several thousand $ a year when he drops you into A or F series funds and spends 4 hours twice a year on your portfolio.

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    1. @Anonymous: CPP is quite modest right now and seems to be run well. So, it makes sense to me to expand it somewhat. I don't think I would benefit much, but for people bringing their few thousand in savings to a big bank for some 2.5% MER mutual funds, expanding CPP would be helpful.

      I agree that a simple couch potato strategy is quite easy. If TD didn't do everything they could to keep people away from their eSeries funds, they would be a good solution for many.

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  3. Great article. I saw one more solution to the question, "How do we fix the current investing landscape?"...

    build a business that provides fee based advice for the individual investor free of conflict of interest.

    The industry refuses to adopt a fee based model. I am building Portfolio Audit to be just that. For an hourly fee, we perform comprehensive reviews for investors, we will assist DIY investors in setting up and maintaining their investment portfolios. We do not sell any investments of any kind. Stay tuned, Portfolio Audit will be an virtual internet based business serving investors across Canada. I will be launching Portfolio Audit in the coming weeks.

    Cheers,

    Neil Murphy
    Founder
    Portfolio Audit
    www.portfolioaudit.ca

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    1. @Neil: I wish you the best of luck in your endeavour. I'm a fan of cleaning up a small part of the world, but the bulk of people will still have problems as long as they get sold bad mutual funds and don't seek a better service.

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  4. A US law firm conducted a recent study on the financial services industry.
    They found that ~30-40% of employees have/are/would commit illegalities for money, and ~30% of them do not put the client first.

    My advice, take a year and study everything you can about investing (while still saving). Then invest part of your savings in what you know. Repeat this every year for five years until all your money is invested.

    Do not visit a financial advisor of any type, unless it's for a learning experience only.

    Oh, funny thing about financial advisors...they will (and can) only sell you stocks and mutual funds. There are a LOT of other investment avenues out there besides a rigged and fraudulent market place. Expand your horizons for the sake of your wallet! :)

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    1. @Anonymous: Sounds like an interesting study. Do you have a link to the study or any further information that would allow me to find it? In any case, I'm not surprised that a high proportion of advisors do not put their clients first. When you put people under enough pressure, they have difficulty sticking to their morals.

      I agree with you about learning everything you can about investing. The best protection is knowledge. I wouldn't go so far as to call the stock market rigged. It might seem that way to those who buy individual stocks because there are so many professional traders with more inforation than the little guy. I'm content to own ETFs of stocks, particularly those from Vanguard.

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    2. Here's a quick overview:
      http://www.secwhistlebloweradvocate.com/_blog/secwhistlebloweradvocate/post/wall-street-in-crisis-a-perfect-storm-looming/

      This is the PDF:
      http://www.google.ca/url?q=http://www.secwhistlebloweradvocate.com/LiteratureRetrieve.aspx%3FID%3D182189&sa=U&ei=dc1hUvSSC4SWiQK3x4CoBg&ved=0CBoQFjAA&sig2=vnJ-zvlzhar6saOj5sd10A&usg=AFQjCNFaPNMpU_109dx3qv_IrX_QfXJv7w

      As far as markets being rigged...that would require a whole other article to discuss the depth and breadth of institutional and governmental market manipulation. "Free" markets exist in theory only.

      (linked from MDJ...haven't visited here before, will peruse your blog this weekend!)

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  5. Luckily National Instrument 31-103 is a step in the right direction.

    And I agree with DIY vs FA is the wrong question to ask. We need to focus on helping people identify what their needs REALLY are. We also need to bring back the basics about investing that starts with identifying how much "risk" you can take on and maximize the return given that level or risk. And whether that means fee based or embedded fees, index funds or managed mutual funds, DIY or hiring a CFP; people realize that there is no right or wrong answer and their all of these things are jsut tools in their tool box. They just need the right type of information to make the best decision possible.

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    1. @Fiscally Fit: You're right that there is no absolutely right or wrong answer to the questions of which investment vehicle you choose and how you pay for advice, but some choices end badly more often than others. I'd be pleased to see hidden embedded fees disappear to cut down on the number of investors who give away most of their investment gains.

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    2. well with NI 31-103 now law, all fees and commissions are required to be disclosed in real dollars on an annual basis with the statement. The IIROC channel is required to do this now and the MFDA channel by 2015. So this shold be a real eye opener. Like I always say, I have no problem paying a huge fee or commission or trail, as long as it directly results in excess risk reduction or excess returns relative to that given level of risk and the benchmark. If that is the "cost of admission" then I will make that value decision. The problem is that those two things are in the minority haha

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    3. @Fiscally Fit: Disclosing fees in dollars is a big improvement. I think excess risk-adjusted return is too much to ask for from an advisor. A reasonable expectation in return for commissions is good advice on asset allocation, taxes, and other financial matters.

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    4. @MJ Agreed. But it really isn't that difficult to get that little bit of excess once you sift through all the terrible investments haha. Unrealistic expectations aside, you mentioned all the needed points of a solid financial plan. The one thing that really scares me (for DIYs and "financial advisors") is the lack of ability to measure risk (however it is you define it). I think a little education on that metric would go a long way in the financial industry!

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