How to get the biggest bang for your investment buck
Many people are willing to spend money to get a carpet cleaning or an oil change. When it comes to personal finance issues, however, many people choose to do it themselves rather than seeking professional help.
The value of a good advisor generally exceeds what he/she will cost you. For example, many fee-only investment advisors charge about 1 percent of your asset under management per year. In return, a good advisor can help you by doing the following:
• Help you to build a portfolio based on your goals with a long term perspective, not based on short term market fluctuations.
• Increase your return on investment more than 1 percent while saving you time, energy and worry.
• Prevent you from committing the classic mistakes of buying and selling based on emotions rather than sound analysis.
So if you recognize the value a good advisor can add, your next challenge is how to find the right advisor for you. Nowadays, many financial professionals call themselves advisors, but they operate very differently. Here are some questions you should ask a potential advisor before signing up:
What Credential do You Have? Not all credentials are created equal. Some credentials have much more rigorous requirements than others. For example, a Chartered Financial Analyst (CFA) requires roughly 900 hours of study in accounting, economics, ethics, finance and mathematics; student must pass three six-hour exams. On the other hand, a membership in the National Association of College Funding Advisors takes only 12 hours study, with only two hours of that on financial aid and the rest devoted to marketing techniques. Therefore, it is important for you to find out not only what credentials your potential advisors have, but also understand how difficult it is to get that credential
How Are You Compensated? Advisors are generally compensated in three ways: Commission-based, fee-based and fee-only. Commission-based advisors tend to be product oriented or transaction oriented because they have the financial incentive to do so. Fee-only advisors generally charge x percent of asset under management or an hourly fee for financial advice/planning. Some of them are willing to negotiate a lower percentage if the assets under management reach a certain threshold, i.e. $500,000 or $1 million.
Fee-based advisors’ compensation is a combination of fee and commission. Fee-only advisors disclose the percent of fee or hourly fee charged on the contract so clients know exactly how much the services cost, while commission-based advisors generally do not disclose their commission and are under no obligation to do so.
Who Takes Custody of Client’s Money? Some advisors offer investment services only and do not take custody of clients’ money. A third party, normally a brokerage firm will take custody of the client’s money and provide the advisor a platform to make investment decisions for the client. However, the same brokerage firm (aka custodian) will restrict any fund inflow and outflow by the advisors unless with written authorization by client. This restriction allows the clients to have more control of their investment. At the same, clients can withdraw funds directly from the custodian without the advisors’ intervention. In addition, clients can verify advisors’ performance reports with separate statements from the custodian.
Not all advisors organize in this way though. Some advisors may have independent offices and business names, but they actually work for either a larger investment advisory firm or a brokerage firm. So his employer will take custody of clients’ money. There is nothing wrong with this type of business model. It all depends on how much control the clients want.
What’s Your Legal Responsibility to Your Client? Registered Investment Advisor (RIA) is required by law to have a Fiduciary Duty to clients, which means RIAs is legally bound to serve the best interest of their clients. Conversely, brokers do not have fiduciary duty to their clients. Instead, brokers are required to ensure their investment recommendation is suitable for the client and to provide best execution.
Besides asking the above questions, there are other clues as well. If an advisor wants to tell you a hot tip or the next “perfect” investment product, you should run the other way. Nobody cares about your money more than you do. Finding a good advisor to be your financial advocate takes effort. You need to educate yourself so you can have a meaningful conversation with potential advisors and find the right one for you.