How to Find a Financial Adviser Who's Right for You
'PBS NewsHour' business and economics correspondent Paul Solman and his own adviser offer tips and some key questions to ask
PBS NewsHour business and economics correspondent Paul Solman frequently answers questions from Next Avenue visitors about personal finances, business and the economy. His advice appears on Next Avenue as well as Solman's PBS NewsHour blog, Making Sen$e With Paul Solman, and the Rundown, NewsHour's blog of news and insight.
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I am currently managed by an investment company, but I would prefer to work with "an independent financial adviser" in my area. Do you have a list? – Janice Wagner, Bay City, Mich.
I assume you mean your money is managed by an investment company, even if it sometimes feels as if you yourself are.
Do I have a little list of financial advisers? No, I don't.
I referred your email to my own main financial adviser, friend and Boston University pension expert Zvi Bodie, also known as "Bodie-Sattva" on the Making Sense page.
Zvi suggested contacting the National Association of Personal Financial Advisors, for someone in your area. He also recommended his own online library of resources for getting started with a financial adviser.
Here is a follow-up from Bodie, based on his book with Rachelle Taqqu, Risk Less and Prosper:
Zvi Bodie: You're looking for an enduring relationship based on mutual respect and trust. So plan on investing at least as much effort as you'd put into choosing an automobile. You want to make sure you select an adviser who puts your interests first.
Watch Out for 'Free' Advice
Avoid advisers whose services are “free.” Many brokers and insurance agents who call themselves financial advisers say they work this way, but actually they’re selling products with commissions embedded in them. It's in the broker's interest to make the sale, whether the product is best for you or not. Even upright, highly ethical brokers are subject to this conflict.
Nor is "independence" a sign of objectivity. Just because advisers are independent does not mean they don't receive commissions or referral fees from third parties. You have to ask.
Your interests are best served by an adviser who is a fiduciary, someone who must disclose how he or she is compensated, as well as any related conflicts of interest. All members of the National Association of Personal Financial Advisors are committed to upholding a fiduciary standard.
Non-fiduciary broker-dealers and their registered representatives are held to the lower standard of suitability, which allows them to offer only "suitable" advice, even if they are aware that it isn't the best advice for their client. Under the suitability standard, an adviser could, for example, recommend a mutual fund that returned a fee to him or her, even if the financial pro knew that a comparable, less expensive fund was available.
Fee-Only vs. Fee-Based Advisers
A fee-only compensation arrangement minimizes conflicts of interest. But be sure you ask for, and get, a compensation structure that is fee-only, and not simply fee-based. Advisers whose practices are fee-based can switch back and forth between financial planning fees and commissions.
Fee-only advisers can structure their fees either on a retainer basis, a fee for service (for example, a flat charge for a financial checkup) or as a percentage of assets under management, the most common arrangement. Some fee-only advisers and planners also have hourly rates, although this option has been fading.
All of these payment formulas are acceptable, but the assets-under-management model can sometimes lead advisers to steer clients toward extra risk. For example, the adviser could talk you out of buying insurance products that would lower your risk but reduce the amount of investments you have under management.
One common mantra to watch out for when choosing a financial adviser is that you have to take on more risk or you won’t reach your goals. That misstatement can cost you heavily. You might also encounter outright hostility to safer investments, including a blanket repudiation of Treasury Inflation Protected Securities, or TIPS, and I Bonds, a type of U.S. savings bond.
How to Interview Adviser Candidates
Plan to interview at least three candidates and ask about their qualifications, experience, credentials and licenses.
Look for an adviser who sees managing your investments as an integral part of helping you achieve overall financial well being. Ask, too, how the adviser would coordinate with your other financial experts, like your accountant and lawyer, and how your goals would be integrated with your investments.
Once you've qualified the candidates, your personal comfort level is extremely important. It's important that you understand very clearly the advice you’ll receive. Look for someone who is a professional counselor, first and foremost.
Solman’s Questions to Ask
Paul Solman: I would only add that if I were interviewing a prospective financial adviser, having spent the past 37 years learning about economics and finance myself, the first thing I would do is follow Zvi's advice. Then I'd contact a financial planner from the National Association of Personal Financial Advisors list and check her or his references.
Then, if he or she checks out, I would ask a few critical questions as a test. Here are those questions and what would have to be included in the answers for me to hire the adviser:
What's the very safest possible investment?
Some mention of I Bonds.
Do you invest in individual securities or mutual funds? Why?
A discussion of mutual funds and how they diversify risk.
If funds, what are their management fees?
An explanation or admission that mutual funds charge a percentage of assets under management. The adviser should emphasize the importance of fees: the lower, the better.
Which types of mutual funds do you invest in?
Index funds (which buy and hold a portfolio designed to match or track a market index) had better be the starting place in this answer. The would-be adviser should point out that they're cheaper than non-index funds.
Because the management fee is probably the most important variable in choosing one fund over another, the adviser had better provide a compelling reason not to index if she or he doesn't advocate index funds. (Check with me if you get a non-indexing answer you find plausible and I'll see if it holds up.)
What asset allocation would you suggest and why?
Asset allocation is the mix of your investments by type: stocks, bonds, real estate, commodities, etc. It is generally a more important decision than which fund to pick.
I have heard two credible allocation heuristics over the years.
The first is that when you’re dividing your portfolio between stocks and bonds, the percentage in bonds should equal your age. (Until you reach age 100, I guess.) If you’re 55, for instance, then 55 percent of your investments would be bonds and 45 percent would be stocks.
The second one, as shared 30 years ago by America's first Nobel laureate in economics, Paul Samuelson, is to put 25 percent of your assets in short-term bonds, 25 percent in long-term bonds and the remaining 50 percent in stocks.
My own asset allocation is, roughly speaking, some combination of the two, if tilted to the conservative.
For years, my wife and I have been primarily invested in TIPS as a way to preserve capital for our old age. Our chief concern: that we do not outlive our savings.
But as I explained recently, I've gotten cold feet about TIPS, which are now priced at dizzying highs by historical standards.
As a result, we are moving half our liquid assets (the kind you can sell quickly and easily) into a restricted retirement fund with a 3 percent guaranteed return that I lucked into years ago. It is closed to new investors.
Our asset allocation today?
Below is a pie chart depicting it as of February 2013. I figure that's the most honest answer I can offer to readers: putting my mouth where my money is. But it is surely not an advertisement for my investing approach, especially since you can’t put money in my restricted bond fund unless you’re already in it.
Paul Solman's breakdown is for information and disclosure purposes only, and not meant to be financial advice. He is a member of the Twitterati and can be followed at [email protected]. His daily blog can be followed, well, daily at Making Sen$e by linking here or just Googling the words: "Making Sense."