3 Things You Should Always Ask a Financial Adviser
When looking for the right person to help you manage your money, you need to vet your options thoroughly.
Your choice of financial adviser might be the single most important decision you ever make, short of your spouse or maybe your doctor.
While you might not be putting your life in his or her hands, per se, you’re certainly putting your financial future at risk. A good adviser can help you protect the savings you’ve spent a lifetime building, and – with good planning and maybe a little luck from a healthy stock market – grow it into a proper nest egg.
But how do you choose?
Let’s take a look at some traits you’ll want to look for, as well as three questions you’ll want to ask any prospective candidate.
What you want in a financial adviser
An older adviser with a little gray in their hair might instinctively seem safer, but ideally you don’t want an adviser that will kick the bucket before you do. However, going with a younger adviser introduces greater uncertainty as they will generally have a shorter track record.
Likewise, educational pedigree matters … but not as much as you might think. You can assume that an adviser with an Ivy League degree is highly intelligent and motivated, and those are qualities you want to see. But these same characteristics can make for lousy investment returns if they mean the adviser is overconfident. Investing is a game in which discipline, patience and humility generally matter more than raw brains and ambition.
As Warren Buffett famously said, “Investing is not a game where the guy with the 160 IQ beats the guy with the 130 IQ.”
Yes, you want your adviser to be smart. But don’t be overly swayed by fancy degrees.
Likewise, independence is a double-edged sword. An independent adviser is most free to be a true fiduciary, looking out for your best interest over that of a broker-dealer. But when you go with a registered representative from a large broker-dealer, you know that adviser has an extensive support network and succession plan in place.
Does location matter? Maybe. Or maybe not. Some clients really like having their adviser within a short drive, as they value regular face-to-face contact. But this also narrows your choices, particularly if you live in a smaller down. People travel halfway across the world to get the advice of the doctors at the Mayo Clinic or Johns Hopkins Hospital. Shouldn’t the same advice hold for a financial adviser?
So, with the criteria about as clear as mud, how go you go about choosing the right financial guide for you?
Today, we’re going to go over three questions you should ask any prospective adviser. There are no “correct” answers here. My idea of a perfect financial adviser might be very different than yours. But these questions should help you to make order out of the chaos. And if a prospective client balks at answering any of them, you should kick them to the curb.
“How do you get paid?”
This is arguably the most important question you can ask because it can be a major indicator of conflicts of interest. The trend of recent years has been toward fee-based advice, generally based on the amount of assets under management. A fee-based adviser will generally charge you 1% to 1.5% of the value of the account. So, if you have a $100,000 account, you’ll pay something in the ballpark of $1,000 to $1,500 per year.
The old model for adviser compensation was via sales commissions. The adviser gets paid up front via sales loads on mutual funds and annuities, via a trading commission on a stock or via a markup on a bond.
There are serious implicit conflicts of interest in the commission-based model, as the adviser has every incentive to churn the account (i.e. trade more than necessary to generate more commissions) or to sell products with the highest possible commissions (annuities salesmen are notorious for this).
The Department of Labor “fiduciary rule” was supposed to address potential abuse, but its implementation has been repeatedly delayed and, in any event, it would mostly only affect IRA accounts. So, you can’t really depend on the government to have your back here.
As a general rule, you want a fee-based adviser because there are inherently fewer potential conflicts. A fee-based adviser buys for you. They do not sell to you. That’s an important distinction.
That said, there are a handful of exceptions where a commission-based model is in the client’s best interest. If you want to buy and hold a bond ladder, for example, does it really make sense to pay the adviser an annual management fee where he or she is not really doing any managing?
If an adviser you are interviewing tells you they are commission based rather than fee based, make them explain why. The burden is on them to justify it. And if their answer seems muddled or defensive, you should run for door.
“What is your succession plan?”
If the president of the United States dies in office or is incapacitated, the cice president takes over. And if the VP dies or is incapacitated, the job falls to the speaker of the House, then on to the president pro tempore of the Senate, then down each cabinet secretary in order of rank.
There is a plan in place and absolutely no ambiguity as to who’s in charge should the worst happen.
You should have similar confidence in your financial adviser.
Should your adviser unexpectedly die, become disabled or simply choose to retire and play golf, you need to know that someone is watching your accounts. You can always choose to change advisers at some point in the future. This isn’t a medieval marriage where you’re bound to an adviser or their firm for life. But in the meantime, you need to be confident that the account is being monitored should something happen to your adviser. And not just for your sake, but for your heirs as well in the case that your own demise happens around the same time as your adviser’s.
Chase Robertson, managing partner of Houston, Texas-based Robertson Wealth Management, assumed control of his firm when his late father, the namesake of the firm, unexpectedly passed away in 2016. “We were devasted when the day came, but it was something we had prepared for,” Robertson explains. “We made the transition seamlessly, and our clients had confidence in the process.”
Likewise, Rachel Klinger, president of State College, Pennsylvania-based McCann Wealth Strategies, stepped into her late father’s shoes following his sudden passing in 2016. “It happened a lot sooner than we expected, but my dad had a plan in place. He had been integrating me into the practice for over a decade, so when the time came, we were ready.”
Smaller “one-man shops” will sometimes partner with another firm to put succession plans in place, and there is no real “right” or “wrong” way to organize a plan. Just make sure that you understand your adviser’s succession plan and that you know who to call should the expected happen.
“Who is running the money?”
Once you’ve covered the preliminaries, it’s time to get into the nitty gritty of how the adviser plans to invest your money.
On this count, every adviser is a little different. Some position themselves as relationship managers and delegate the actual money management to outside managers. Some advisers instead choose to run their own in-house investment strategies. And a lot of advisers fall somewhere in the middle, managing parts of the portfolio themselves and delegating other parts to outside managers.
All these approaches are perfectly fine. But the adviser needs to be able to explain to you why they allocate the way they do. Perhaps they feel comfortable running a stock portfolio but feel a bond portfolio is better managed by a specialist in that area. Or perhaps your adviser feels that he or she adds the most value by being a “manager of managers” and spending their time finding the best manager for a given strategy.
If your financial adviser uses outside money managers, ask about fees. Are you paying fees on top of fees, or does your adviser compensate the money manager with a portion of the fees he or she collects from you? This ties back to our first question about how the adviser gets paid. Make sure you understand all the mouths you’re feeding and that you’re comfortable with the arrangement.
Along the same lines, make sure they explain to you where your money will be held in custody. Ideally, they will tell you a third-party custodian you’ve heard of, such as TD Ameritrade (AMTD), Fidelity or any number of other popular brokers. If you don’t recognize the name of the custodian – or if you don’t receive statements directly from the custodian – think twice about keeping your money with that adviser. Bernie Madoff was able to fleece his investors because he owned the company responsible for clearing and custody. Had his investors insisted on a reputable third-party custodian, we might have avoided the largest Ponzi scheme in history.
Ultimately, your choice of financial adviser will come down to trust, which can be subjective and based on emotion. But by asking the right questions, you make the process more objective and ultimately feel a lot more comfortable with the outcome.