What’s Wrong with the Financial Advisory/Wealth Management industry?

Think of all of the professionals you use to provide services:? doctors, dentists, lawyers, accountants, hair stylists, car mechanics, etc. How do you pay them? When you need them and when they provide the service.

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Except one. Your financial advisor. In almost all cases, You pay them with continuous bleeding. That is, you pay them x basis points per year. For you non-experts, a basis point is 1/100 of a percent, so if you pay them 1% - an insanely high rate – they get 100 basis points, also known as bps or bips.

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Imagine a 55-year old widow with $300,000 saved and paying 1% to a financial advisor. She thinks it doesn’t sound like much. After all, what we wouldn’t give for an inflation rate of 1%. But it’s $3,000 a year to babysit her money, probably just putting it into target date funds.

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I call this the “1% illusion.” Say a $5 cup of coffee goes up 1%. Now it’s $5.05. Nobody cares. But pay a financial advisor 1% over several decades and you have left a lot of money on the table. And you’ll never realize it.

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Now, back to the widow. What could she do with the $3,000. She could get several physicals, a lot of dental checkups, that car rattle fixed, or other things she needs more than some advisor telling her all is well and that he’s looking after her funds, which are passively invested and don’t need any looking after.

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Even at 50 basis points, she’d still pay $1,500. That would still buy a lot of medical advice, which is a lot more important. But it’s analogous, financial advice is like medical advice.

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This industry does this because it gets away with it. I am not saying financial advisors are worthless. They can provide valuable advice, though one should never believe their market predictions. But doctors give advice too. Why not pay financial advisors the way you pay doctors and other professionals? But don’t let the term “fee only financial advisor” fool you. It just means they don’t get commissions from the products they sell. It still means you pay them a fee that is a percentage of assets.

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The late John Bogle, the founder of Vanguard, astutely pointed out that the money management industry has more economies of scale than any other industry. What he means is that it costs a money manager about the same to manage a large portfolio as a small one. So as the market goes up, which it inevitabley does over time, the portfolio value rises and the advisor makes more money, in spite of having done no more work. That isn’t right. But it won’t change because people don’t realize it.

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So, all you financial advisors out there, many of whom are friends and former students, why not do the right thing. Charge them for an annual checkup and maybe a periodic interim fee for special services. And don’t make them pay more just because the market wen tup and the rising tide lifted all boats. And if you insist on maintaining your current fee structure, then at least lower your fee as assets rise.

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And for those of you who are thinking of getting a financial advisor, be aware that almost everything you can get from an advisor except precisely how to invest your money, you can get from the mutual fund companies whose products you buy. You are entitled to an amazing amount of free advice from them.

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Here’s a tip. Ask your advisor how many basis points they charge? First of all, they’ll know that when you use the term “basis points” that you’re educated and cannot be fooled so easily. Then when they tell you, do the math. Let’s say the advisor says “Fifty”. Multiply your balance by 0.005 and ask yourself if that fee is worth it. Better yet, force the advisor to show you exactly the value they created in excess of the fee. It’s a toug question, and most advisors and their firms cannot answer it.

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It’s time for this industry to change.

#wealthmanagement

#financialadvisors

#moneymanagement