Monday, March 15, 2010

Is Your Financial Advisor a Yes-Man?

Investors have a tendency to abandon their financial plans in extreme market conditions. In the midst of a stock price bubble, investors tend to overweight in stocks at high prices, and after a stock market crash, investors tend to underweight stocks at low prices.

A common argument in favour of financial advice is that since people make emotional decisions to buy high and sell low, they need financial advisors. The first part of this argument makes sense; people do make these mistakes. However, who says that financial advisors steer investors away from these mistakes?

CNN Money Fortune reported on research showing that financial planners tend to be yes-men who reinforce the bad investment behaviours of their clients. This suggests that using an advisor is no guarantee that you’ll make better choices.

So, investors who wish to avoid making emotional investing mistakes seem to have two choices:

1. Learn to control your emotions enough to make rational investing choices, even when everyone around you is making mistakes.

2. Find one of the apparent minority of financial advisors who will actually help protect you from emotional investing mistakes.

I try to use the first solution. It seems to me that if you’re able to judge whether an advisor is keeping your emotions in check, then you probably have already figured out how to control them on your own. Another approach is to just pick an advisor you like and hope that you’ve lucked into one of the good ones, but I don’t recommend this.


  1. Thicken: I agree that it is difficult to tell clients things they don't want to hear knowing that it will turn away business. For this reason, investors seeking advisors can reasonably expect most advisors to play into their biases rather than provide useful help. Just because we can predict this behaviour doesn't mean that we can declare it helpful to investors. Just because it is tough to do the right thing doesn't make wrong things right.

    I don't expect the world to change much. People will continue to be mostly clueless about money, and most advisors will continue to have little choice but to exploit them to make enough money to live. I'm hoping that my short essays will spark a few people to learn about how to handle their money properly and not be taken in by poor advice.

    1. The comment above is a reply to Thicken My Wallet's comment:

      Having sat on the other side of the advisory table (albeit not in personal finance), potentials will literally walk away if you give them the hard truth- there is often confusion between constructive criticism and "you are raining on my parade" (such is our over-sensitive society). Lawyers, because they have a duty of care to the justice system as well as the client, are wearing duel representative hats and it is easier to tell a client no on the justification that it violates duties to the justice system.

      Despite all the criticism of the financial industry (some of it justified), it must be tough for even good advisors to have potential clients come in a say they want double digit return with minimal risk.

      In this respect, I thought the study said more about the client than the advisor.

  2. Michael,

    I'm with you here.

    I'd rather just buy index funds blindly than pay an advisor. There is no way to know whether that advisor is looking our for you or him/herself.

    Best best, save the fee and own index funds. I'd hedge those funds with options, but that's not the point.

    Why gamble by paying a fee when the odds of benefiting from the advice is much less than 50%?

  3. Mark: I agree with you. To be able to judge an advisor, you need to know enough that you could handle your investments yourself. Maybe what we need is some sort of rating system for advisors to allow those who need an advisor to find a good one. The challenge would be to set up a system that actually attracted opinions from knowledgeable, unbiased people.

  4. Larry: Thanks for your thoughts. I have similar concerns about the perverse incentives that exist for investment professionals, politicians, and many other occupations. Fortunately, the world has many people who do the right thing despite the incentives that exist that push them in another direction. The challenge is to distinguish who is who and surround yourself with the right people.

    1. The comment above is a reply to Larry Elford's comment below. Further below is his subsequent reply.



      What a great topic. What a great blog. After twenty years inside the industry, and another ten studying and documenting it from the outside ( here is what little I know for certain about Yes-Men:
      Currently the most rare commodity in the world is a man who is willing to tell you the truth, and not sell you a story for his own personal benefit. The paradox is that while this is the rarest thing in the world, it is also the least valued, least rewarded thing in the world. A reversal of the law of economics.
      The most valued, most rewarded, most highly sought after thing in today's world is the man who is willing to lie, to "yes" to anything you wish agreed to. They are paid, bribed, elected, promoted, rewarded to some of the highest positions in the company and in the land.
      It is sad and it is also insane. It just happens to be indicative of the world we live in today.
      Thank you and your blog for helping us better understand this unique set of social risks that we face.
      larry elford


      Larry Elford, Visual Investigations said...
      an update from Larry Elford: is a new site which is specifically dedicated to my "accountability projects". This project assumes that fraud, misrepresentation and breach of trust are still illegal or improper, even if done by politicians or public servants. Since the bankers/financiers cannot seem to be brought under these laws, I will try to bring a class action suit against those politicians and public servants. Yes, you are correct to point out that it is a challenge to sue a public servant, the hurdle to overcome is to prove negligence, gross negligence or conscious wrongdoing. That is a challenge I am willing to undertake. Send me a name if you know of a great, forward thinking Calgary law firm, and I will show them how they can all retire on one case.

  5. @Certified Financial Advisor: Advisors that you describe exist, but having a great reputation with his or her client base is no guarantee. Members of my extended family have advisors they describe as "a really great guy", but when I look at the investments, I see massive fees.

    1. The comment above is a reply to Certified Financial Advisor's comment:

      I would like to say that if your financial advisor is experienced and have great reputation within his or her client base then they will definitely save you from making mistakes about investments and surely guide you to take right decisions.